Stock markets have yet to play ball, but investment bankers and institutional investors remain hopeful that a re-bound will materialise before 2018 is out.
Typical is the view of Tuan Huynh, chief investment officer at Deutsche Bank Wealth Management in Singapore.
"By the end of the year, we expect Asian stock markets and particularly China to be higher than they are at the end of October," he told FinanceAsia. "Right now they're being driven purely by sentiment and not earnings growth at all."
Huynh points out that Asian equities are currently experiencing their worst year since the Global Financial Crisis, something he does not think the fundamentals warrant.
"The economic impact of trade tensions has been very marginal on China so far," he argued. "Even assuming the US imposes full tariffs, then the GDP impact will only be about 0.6% to 0.8% next year.”
Huynh believes that while the trade war will cause China short-term pain, it will help the country over the longer-term by weaning it off its reliance on US consumers in favour of alternative trading partners. He also says that while China's debt mountain is also a concern, the government has plenty of tools to manage the de-leveraging campaign and support the economy.
Huynh is not alone in thinking that the worst possible news is priced into Chinese equity prices.
In a research report, published on October 26, Goldman Sachs concluded that the current rout looks “fairly mature in terms of duration, drawdown and valuation.”
The US investment bank also highlights that since Asian stock markets (ex-Japan) peaked in late January, foreign investors have sold $46 billion net, second only to the $95 billion sell-down during the Global Financial Crisis. It quantifies this selling pressure as equivalent to 21 months buying activity and 0.6% of Asia ex-Japan’s market capitalization.
As a result, China’s onshore and offshore equity markets are now valued one standard deviation below their 10-year averages: trading on high single digit forward price-to-earnings (P/E) ratios.
Overall, Goldman Sachs calculates that Asia ex-Japan is now trading at 10.9 times forward earnings, down 23% since markets peaked in late January. This compares to a 10.3 times average trough for major corrections since the Asian Financial Crisis.
Likewise on October 30, Credit Suisse released a research report asking whether "we are finally at trough valuations?" It highlights that Asia ex-Japan price-to-book valuations are now just 5% off their 2016 low of 1.22 times and 8% off their 1.19 low during the Global Financial Crisis.
It concludes that "trying to call the bottom has always been difficult and the key risk remains that markets stay undervalued for longer than we expect or get more undervalued."
It also points out that the US is still trading on a high P/B despite rising ROE.
Unsurprisingly, this put paid to October's most eagerly awaited IPO from Tencent Music. It has put its prospective New York listing on hold until November at least.
Huynh says the German bank is advising clients to buy certain Chinese tech stocks selectively on the dips given the sector’s 20% to 30% average forecast earnings growth over the coming years and its long-term expansion outside China.
Tencent Music exemplifies investors’ predicament. It may have strong growth potential, but like the rest of the Chinese tech sector, it is also subject to the vagaries of government policy and rapid valuation inflation.
The mooted $25 billion to $30 billion ‘fair value’ IPO estimates, for example, were more than double the $12.6 billion level at which the company last sold stock to a group of investors as recently as March.
ASEAN REALISM
Investment bankers say that issuers around the rest of the region have come to terms with market conditions a lot quicker.
“All the big companies have de-rated in the secondary market,” one commented. “So prospective IPO issuers realize that 30 times forward earnings is not possible anymore.
“Deals that price around the 20 times mark are the ones which stand to perform well,” the banker added.
Even this valuation level, however, was not enough to propel Thailand’s Osotspa after it listed on the Stock Exchange of Thailand on October 16. Hopes had been high for the Bt15.09 billion ($461 million) IPO given that it was a consumer play and had attracted strong domestic support from both institutional and retail investors.
However, by the end of the month, it was still trading around its Bt25 issue price. In some ways this makes it one of the year's stand out performers given the poor performance of nearly every single IPO from Hong Kong.
But it was still a disappointing debut by Thai standards and it has been matched by Thai Future Fund (TFF), which executed the country's largest IPO in three years shortly after. TFF raised Bt44.7 billion ($1.36 billion) after pricing at the top of its range and closed up 3% when it made its stock market debut on October 31.
Just like Osotspa, the government-owned yield play was well-supported by domestic demand, while foreign investors stayed away.
Foreign portfolio investors have been net sellers of the Thai cash market every single month of the year, overloading $8.28 billion in the year to the week ended October 26. That is equivalent to about 1.6% of the market's overall capitalization.
Nevertheless, bankers still believe that “Thailand ticks all the right boxes”, based on relative liquidity and thanks to its active domestic institutional and retail base, as Felicity Chan, head of South East Asia equity syndicate, at Credit Suisse puts it.
David Cameron-Smail, head of South East Asia equity capital markets at UBS in Singapore, agrees.
“Foreign investors still like the dynamics of the Thai market,” he commented. “The liquidity pool is strong, plus the currency has been Asia’s best performer against the US dollar this year.”
As of November 1, only the Hong Kong dollar, which is pegged to the US dollar, has performed better than the Thai baht. The latter is down just 1.53% against the greenback since the beginning of the year, compared to the Pakistan rupee at the other end of the scale, down 20.78%
“Investors are still looking for the right opportunities,” Chan added. “But those generally comprise larger deals with compelling valuations.”
One of them should have been San Miguel Food & Beverage, which had originally hoped to execute the Philippines’ largest-ever equity offering. Over the past four months, however, the group has progressively scaled back its ambitions to expand its freefloat to 30%, then to 20% and finally to 10% thanks to market conditions.
Its final pricing in late October on a valuation of 22.8 times 2019 earnings also reinforces investors' red line where valuation metrics are concerned.
The Philippines has been one of Asia’s worst performing stock markets this year, hit by the double whammy of thin liquidity and foreign selling in the face of the country’s current account deficit. In the cash markets, foreign investors have overloaded $1.6 billion since February.
Cameron-Smail and Chan both highlight the fact that valuations across South East Asia are back around their five-year averages and in some cases are now below. But many market participants believe that domestic investors alone will not be enough to turn the markets back around.
As Vineet Mishra, head of South East Asia ECM at JP Morgan concludes: “All eyes are on any signs of foreign investors returning. Once that happens I think domestic investors will jump back in a shot.”
