This has to be THE million-ringgit question for long-suffering investors on Bursa Malaysia. Those of us who lived through, and participated in, the 1990s super bull cycle in Malaysia — back then, the stock market was called the KLSE — can be forgiven for feeling nostalgic and wondering when, or if, those heady days will return. Unfortunately, the answer, we believe, may be “never again”. We intend to detail how we came to this conclusion in a series of future articles — and why we think Bursa may well continue to underperform.
It has been a quarter of a century since the end of the super bull cycle and certainly time enough for us to reflect and do a complete analysis of what had transpired since the onset of the Asian financial crisis (AFC) and thereafter. For some, it may be hard to hear, but we think to continue avoiding or glossing over the subject would simply be intellectual dishonesty
Let’s start with how the super bull cycle came to be. Back in the 1980s to early 1990s, Asia, in particular, Asean, was among the fastest-growing economies in the world. Member countries enjoyed huge inflows of investor money chasing high returns, which, in turn, fuelled asset prices. As a result, their stock markets were given excessive weightage in the MSCI Emerging Market Index, relative to the size of their gross domestic product and total value traded on their exchange. The combined weightage for Malaysia, Thailand and Indonesia in the index came up to 35% in 1994 — compared with their 10% share of total GDP for all countries in the index (see Chart 1).
Malaysia, in particular, was punching far above its weight — accounting for 20% of the MSCI EM Index in 1994. This was quite likely justified by virtue of Bursa’s outsized market capitalisation, relative to the country’s GDP at that time. Malaysia was undergoing rapid industrialisation and the growth story, coupled with a slew of financial market liberalisation measures, was attracting more than its fair share of investor money. The moral of the story here is: Money chases after money. When stock prices are rising, they will, inevitably, attract even more money — from investors who need to perform and speculators alike. The market cap of all the listed companies as a percentage of GDP — a market valuation metric popularised by Warren Buffett — had risen to 247% in 1994 and increased further, to a peak of 304% by 1996 (see Chart 2).
With the benefit of hindsight, it was quite clear that by this time the market was in a bubble fuelled by hot money. And as we are reminded again and again, all bubbles will eventually burst. For Bursa, this moment of reckoning came in 1997, with the onset of the AFC. Stock prices came crashing back to earth — as valuations compressed sharply. Market cap-to-GDP fell from the peak of 304% to 93% in 1997.
The AFC was a critical turning point for Asean, and how governments responded to the crisis, we believe, has huge and lingering impacts to this day. We will save this discussion for the future. For now, the collapse in share prices and total market cap led to the a steep cutback to Bursa’s weightage in the MSCI EM Index — to 13% in 1997 and just 5% by 1998, when Malaysia’s capital controls were announced.
At around the same time, Taiwan was added to the MSCI EM Index. In the ensuing years, its stock markets as well as that of South Korea grew in prominence — and accordingly, so did their weightage in the benchmark index, rising to a combined 27% in 2000 while Malaysia’s weightage remained at 6%. Since the 2000s, China’s stock market and, to a lesser extent, India’s have expanded by leaps and bounds. Again, so did their respective weightage in the MSCI EM Index (see Chart 1). The Chinese stock market’s weightage, which was a mere 1% during the AFC, jumped to 6% in the year 2000, 19% by 2010 and doubled again to 41% in 2020 — in recognition of the country’s share of GDP and, importantly, the increasing value (market cap) of its listed companies. In contrast, Bursa’s weightage continued to decline, to just 1.76% in 2020.
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Country weightage for the MSCI EM Index today is more reflective of the market caps of the respective stock exchanges and value traded. Of note, Taiwan and South Korea were given comparatively high weightage — likely a nod towards their comparatively larger presence of tech stocks — while China’s weightage is still slightly lower than its market cap implies. In short, as the market caps of these countries rose strongly, and as more countries were included in the index — currently 26 compared with 19 back in 1994 — the Malaysian stock market became increasingly marginalised. A case in point: Bursa had the highest total market cap among the five founding Asean members pre-AFC. Today, Bursa has fallen near the bottom — second last to the Philippines and smaller than the markets in Thailand, Singapore and Indonesia. Why is this significant?
The decline in Bursa’s weightage is important as it influences the decisions of investment fund managers — and therefore, fund flows into the local bourse. This is all the more so given the rise in popularity of index-linked funds. Market reports indicate that index mutual funds and index ETF (exchange-traded funds) as a percentage of total net assets more than doubled from 19% in 2010 to 40% in 2020 (see Chart 3). MSCI estimates that funds following the MSCI EM Index alone totalled more than US$1.8 trillion in September 2018. Malaysia’s falling weightage in the widely followed index explains, in part, the net outflow of foreign funds from Bursa over the past decade — and its chronic underperformance. It does not, however, address the more fundamental, underlying root cause to its below-average market-cap growth.
Notably, while the weightage for Thailand and Indonesia too was cut sharply during the AFC, it has since inched back higher, unlike Malaysia’s (see Chart 4). That begs the question: Why?
For one, stock valuations, in general, remain high. Bursa’s market cap-to-GDP stood at about 130% in 2020, which is higher than that for markets in Indonesia and Thailand, as well as China and India. As a rule of thumb, a ratio exceeding 100% is typically considered overvalued. The US market, unsurprisingly, trades at premium valuations, being the most liquid and largest market in the world. That said, many believe US stocks are in fact overvalued, driven by excessive liquidity since the global financial crisis and especially during the Covid-19 pandemic. This is partly the reason why we are now seeing increased volatility and sell-off in US stocks. In the case of Singapore’s apparent high valuations, the use of this particular metric is less useful. This is because many of the largest companies on the Singapore Exchange are regional or global players. Hence, domestic GDP is not the appropriate denominator.
In short, Malaysian stocks are still far from cheap — despite years of share price underperformance. We attribute this, primarily, to the material downshift in economic growth and, in particular, corporate earnings growth over the past decade (see Chart 5). Earnings are the primary driver of share prices over the long term. Again, why is this so?
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Thailand, Indonesia and South Korea were the three hardest-hit countries during the AFC. All received bailout packages from the International Monetary Fund (IMF) to stabilise their currencies and restructure the economy. Malaysia chose to go its own way — rejecting IMF aid in favour of capital controls (including restrictions on repatriation of proceeds from share sales), making invalid the use of the ringgit abroad while pegging its value at 3.80 to the US dollar. This peg remained in place until July 2005. We also forced dual-listed shares in Singapore to be invalidated and suspended all shares that were previously traded on CLOB (Central Limit Order Book). CLOB shareholders were left in limbo for years before eventually being forced to sell their shares at a discount to a single private (rent-seeking) company. This created moral hazards and raised questions over the integrity of contracts and laws for future potential investors.
The pros and cons of Malaysia’s unconventional strategy has been the subject of many debates. It has, over time, been touted as a success — in limiting the human impact during the crisis, in terms of unemployment, wages and poverty levels. Indeed, the economy and stock market rebounded faster. But these short-term gains have longterm costs to bear. There are far deeper and cascading negative effects that have been playing out, if less conspicuously, over the years since. We think this is, in no small part, the reason why Malaysia’s per capita GDP growth has deteriorated and why Bursa’s market cap now lags behind not only that of South Korea, but also Thailand and Indonesia. We will elaborate on this in a future article.
The Global Portfolio has fallen 0.4% since our last update, a smaller decline compared with the broader market. ServiceNow (+9.1%), Mastercard (+1.7%) and The Walt Disney Co (+1.4%) led the gainers while Alibaba Group Holding (-7.2%), Taiwan Semiconductor Manufacturing Co (-5.4%) and Grab Holdings (-3.9%) were the notable losers. Total returns now stand at 50.8% since inception, marginally outperforming the MSCI World Net Return Index, which is up 50.6% over the same period.
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Cover photo: Bloomberg
