Phillip 2019 Singapore Strategy – Reversal of flows January 4, 2019 1824

Review: 2018 was a turbulent year for the STI, which lost 9.8%. From a peak of 3641 in May, it corrected by 19% over six months to a low of around 3000. Only 6 of 30 STI component stock registered any gains. We had been bullish for 2018. There was momentum in the economy and rising interest rates was positive for our heavily-financial-weighted STI. However, as the year progressed, we ran into a wall of issues. Firstly, a new tail risk surfaced when the U.S. President began a series of tariffs on Chinese goods, sparking tensions between the U.S. and China. Secondly, strength in the US dollar plus rising interest rates triggered a violent retreat of liquidity from emerging markets. Thirdly, China’s deleveraging resulted in slower-than-expected growth in its economy. In Singapore, property-cooling measures smothered whatever momentum left in the economy. Singapore’s GDP halved from plus 4.6% YoY in 1Q18 to 2.2% in 3Q18. Our initial 3,900 target for the STI bit the dust.

Outlook:  The Singapore market is cheap on a historical basis. On a forward PE of 12x or PB of 1x, STI is trading at 1 SD of its 10-year historical valuations. The driver to returns will be a reversal of portfolio outflows back to Asia and Singapore: 1) We are expecting a rolling over of U.S. data. U.S. growth has been boosted by the steepest fiscal stimulus since the GFC; 2) We anticipate more turmoil in U.S. politics. With the Democrats taking over majority in the Lower House, we expect them to launch multiple investigations, with the Mueller probe leading the troupe; 3) Slower economic conditions have tempered the Fed’s rate-hike enthusiasm. Commentary is now tilted towards raising rates to that neutral level rather than exceed it. This is a range of 2.5%-3.5%; 4) Final puzzle will be trade negotiations between China and the U.S. We expect a negotiated truce. We are assuming Trump is not dogmatic but deal-driven. He has reversed many hard stances before, from Iran sanctions to war with North Korea. As we approach 2020 U.S. elections, the last thing needed is a disruption to the economy or financial markets, either from a further implosion of global trade or higher consumer product prices.

STI Target: We cut our STI target twice this year, to 3,400 in October. We maintain this target for 2019. This pegs the market at 13.5x (or around its 10-year average valuation).  

Recommendation:  We advocate a lower-beta equity portfolio for 2019. Our emphasis is on dividend-paying stocks. In our Phillip Absolute 10 for 2019, our top picks are: a) UOB for its attractive dividends, well supported by the bank’s excess capital; b) SGX, whose derivatives business is growing as much as 20%; c) On REITs, we opt for Ascendas for its stable dividends, CCT for the attractive demand-supply dynamics for office market and Keppel DC for the structural growth of data centres; d) Growth stock are Geo Energy, as coal production recovers in 2019. Sheng Siong is gaining market share and rolling out record new stores. China Sunsine will maintain healthy earnings growth as supply is constrained by China’s strict environmental regulations; e) Re-rating picks are ComfortDelGro and CapitaLand.


The year began with worries over rising US Treasuries. But the STI still managed to climb higher as the Singapore economy grew 4.6% in 1Q18. A new uncertainty emerged when President Trump declared that trade wars were good and could be won. His commentary and policies started to rock equity markets. Relative strength of the US economy and dollar began to rattle emerging markets. Argentina and Turkey had to raise interest rates by as much as 68% and 24% respectively to contain their currency devaluation. Despite the above, the STI managed to touch a high of 3641 in early May, propelled by strong banking performances.

As we entered the second half of 2018, the market started to relent to growing signs that global economic growth had peaked. There were also clearer signs that the trade skirmish between the U.S. and China was turning into an all-out trade war. While the immediate economic impact was manageable, with direct global GDP affected at most by 0.5% point, the uncertainty and accompanying caution in spending was more pervasive and damaging. It also did not help our equity market when a new round of cooling measures were slapped on Singapore’s residential property market. This sucked out whatever economic momentum was left in the domestic economy


Despite the slowing momentum (Figure 4), we still expect positive returns for the Singapore market in 2019. Valuations are attractive. The STI is trading at 12x forward PE or 1 standard deviation its 10-year average (Figure 6). Dividend yields of 4.5% are around the highest after GFC (Figure 7). But attractive valuations alone are not a sufficient trigger for positive returns. We believe a major catalyst in 2019 will be a reversal of funds back into Singapore and Asia. 

Firstly, we are expecting U.S. data to roll over. U.S. growth has been boosted above trend, courtesy of a 1.1%-point fiscal stimulus from the Trump tax cut (Figure 8). This is the steepest fiscal boost since GFC.

Secondly, we anticipate more turmoil in U.S. politics. With the Democrats taking over a majority in the Lower House, we expect them to launch multiple investigations, likely with the Robert Mueller probe leading the troupe. The new Lower House Committee on Oversight and Government Reform controlled by the Democrats will “Make Subpoenas Great Again” (Figure 9).


Thirdly, slower economic conditions have tempered the Fed’s rate-hike enthusiasm. Commentary is now tilted towards raising rates to its neutral range of 2.5%-3.5% rather than exceeding it. Market expectations are for two hikes in 2019. In the December FOMC meeting, expectations for 2019 inflation and median dot plots have fallen to 1.9% (from 2%) and 2.875% (from 3.1%). The pressure to raise rates has eased. Worry is now on the Fed reducing its balance sheet by US$50bn per month from its initial US$10bn per month target in October 2017. The market is concerned about the effects of this unprecedented quantitative tightening. We are more sanguine. Excess liquidity parked at the Fed by US banks totalling US$1.7tn can potentially absorb the Fed’s sale of Treasuries. We doubt the balance-sheet contraction will meaningfully hurt loans growth or money supply in the U.S. More critical is the demand for rather than supply of credit in the U.S.

Finally, we expect a negotiated truce between China and the U.S. We are assuming President Trump is not dogmatic but deal-driven. He has reversed many of his hard stances before, from Iran sanctions to war with North Korea. Recall that in August 2017, President Trump declared that any provocation of the U.S. by North Korea would be met with “Fire and Fury”. Ten months later, both leaders were shaking hands on TV. Elsewhere, Trump threatened Iran with “consequences…few throughout history have ever suffered before”. Less than four months later, the US waived its sanctions for 180 days for major Iranian oil buyers such as China and India. And a month later, it will withdraw troops from Syria. Another reason we expect some trade truce is the approaching 2020 U.S. presidential elections. We think the last thing Trump wants is a disruption to the economy or financial markets, either from the trade war or higher consumer product prices. Trump has repeatedly linked the rally in the U.S. stock market to his Presidency. Another interested party to resolve the dispute with China will be the largest donor to the Republican party and Trump 2016 campaign. He has casinos in Macau.


We advocate a lower-beta equity portfolio for 2019. Until economic data starts to stabilise, our emphasis is on dividend-paying stocks. For our 2019 absolute return portfolio, our top 10 picks – The Phillip Absolute 10 – are:

a) Dividend Yield: Ascendas REIT for yield stability anchored by more than 100 properties. A large part of its portfolio is in resilient business parks or office space and high-tech factories. CapitaLand Commercial Trust is expected to book positive rental reversions from improving demand-supply of office space.

b) Dividend Growth: UOB’s attractive dividends should be well supported by its excess capital. Its business is also less exposed to any deceleration in the Chinese economy. SGX’s derivatives business is growing by as fast as 20%. Derivatives now account for almost 50% of its revenue, up from 22% in FY11 (Figure 44). Keppel DC is fast expanding its data-centre business through M&As. It can arbitrage the difference in private market yields and its own lower cost of capital.

c) Growth: Geo Energy’s coal production should recover in 2019. Sheng Siong is gaining market share and opening a record number of new stores. China Sunsine’s healthy earnings growth should be supported by tight supply from China’s strict enforcement of environmental regulations.

d) Re-rating: ComfortDelGro’s prospects will improve from lower taxi competition and more bus contracts overseas. CapitaLand continuously builds up more recurrent and quality earnings from investment properties and other property asset cum funds under management.

STI target. We cut our STI target twice this year, to 3,400 in October. We maintain this target for 2019. This pegs the market at 13.5x (or around its 10-year average valuation).


Figure 10: The Phillip Absolute 10

2018 Performance Review – Phillip Absolute 10

Our inaugural Phillip Absolute 10 underperformed the STI. The initial drag came from disappointing results and dividends from Asian PayTV. We exited this stock in August. We took profit on DBS and replaced it with OCBC in March. Other stocks in our portfolio that severely underperformed were: (i) Geo Energy – despite healthy coal prices, production and costs were below our expectations; (ii) Micro-Mechanics – the semiconductor down cycle hurt it more severely than expected; (iii) Chip Eng Seng – performed well operationally but cooling measures precipitated a massive de-rating of all property stocks.

Gainers in our portfolio were: (i) ComfortDelGro as competition in taxi industry abate following the exit of Uber; (ii) Banyan Tree, which gained traction from collaboration with new partners Accor and China Vanke.

Figure 11: Monthly moves

My Sector Narratives
1. Commodities – Coal: 2018 was a disappointment. Production was affected by weather and cost was higher than expected. We exited 2018 with some overstocking at China ports in anticipation of winter demand and avoid a similar shortage of supply last year. For 2019, we expect production to rebound and selling prices resilient as China is still controlling domestic production.

2. Conglomerate/Utilities: Demand for power in China was better than expected. India still facing spot prices that are too low to incentivise state electricity boards to sign up longer-term PPA. The weak balance sheet of these state boards remains a structural issue. Singapore still faced with excess power and punitive take-or-pay gas supply contracts.

3. Consumer: Despite a recovery in employment for Singapore, consumer spending is still sluggish. Only market share gains and staples registered better-operating performance.

4. Finance: Banks reported strong results and performed well in 1H18. The sector was over-owned and most affected by liquidity flows leaving Asian markets especially after cooling measures for Singapore. As the year progressed, there were fewer catalyst. Weak capital markets slowed wealth management income and loans growth have started to decelerate. Entering 2019, banks are clinging on interest margin expansion as key source of growth. But banks are now paying attractive dividends.

5. Healthcare: No change in the weak fundamentals stemming from loss of share in medical tourism to Malaysia and Thailand plus loss of share to public hospitals.

6. Industrial: Electronic stocks hurt by contraction in volume and lower prices from Apple. 4Q18 will be challenging because the whole supply chain virtually froze or de-risked ahead of Trump-Xi talks in G20 summit. If trade war subsides, we could expect demand to return to the supply chain and the current attract valuations for the sector make them an attractive bet for 2019.

7. Property: Even when take-up rates for new projects were healthy, the share prices for developers were sluggish. 2019 will see a rush for the exits by developers so sell as fast and as much as possible before your neighbour launches.

8. REITs: Sector performance has been resilient in 2018 despite the constant worries of rising interest rates. Ability of many REITs to hedge the interest rates have provided some comfort to investors. 2019 should be a better year as this rate headwind ease off.

9. Shipping – Yard: Just a sector to trade on oil direction. We are still cautious over the fundamentals of this sector. Yard capacity still look excessive and any new jobs aggressively bid up.

10. Telecommunications: The arrival of 4th mobile operator into Singapore telco has been well flagged and incumbents have already responded by lowering prices and sacrificing margins. The MVNOs has already carved out whatever price sensitive profit pool in the market.

11. Transportation: Competition has structurally lessened with departure of Uber and stricter licensing has reduced the supply of drivers of ride-hailing operators. Downtown Line should start to breakeven, as ridership gains traction.

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