The Malaysian stock market has not seen the excitement it has experienced this year in a very long time. Daily traded volumes surged to alltime record highs and, though currently off the peak, investor interest has remained robust.
The primary catalyst, without a doubt, is the increased participation of retail investors, many of whom have time and excess cash in hand during the pandemic — owing to a confluence of factors such as the movement restrictions, automatic loan moratorium and falling interest rates. Retail investors have been huge buyers on Bursa Malaysia so far this year, outpacing even local institutional funds, while foreign funds have been consistent net sellers.
This retail-led rally has generated a wealth effect for Malaysian investors, which likely helped underpin the relative resilience in domestic consumption. It has certainly been hugely profitable for stockbrokers.
On the other hand, the increased presence of retail investors has led to greater volatility and unpredictable stock price movements that, at times, are not justifiable based on underlying fundamentals and traditional valuation metrics.
Take, for instance, the surge in Bintai Kinden’s share price since mid-August after the company announced a licensing agreement with US-based Generex Biotechnology Corp to distribute its potential Covid-19 vaccine.
Generex is one of more than 200 companies that are currently developing Covid-19 vaccines. Its candidate is in the pre-clinical stage, pending approvals for human trials.
According to the World Health Organization, based on experience, roughly 7% of vaccines in pre-clinical studies reach clinical trials, which, in turn, have about a 20% chance of succeeding. In other words, it is a long shot.
Generex has a market capitalisation of US$25 million ($33.4 million) (yes, million, not billion) — a mere fraction of the size of the current Covid-19 vaccine front runners Pfizer (US$203 billion), AstraZeneca (US$143 billion), Johnson & Johnson (US$379 billion) and even Moderna (US$40 billion).
But, then, what do we know about medical science? Surely, though, the collective wisdom of the world’s analysts and investors must carry some weight. And their verdict is clearly reflected in Generex’s stock performance — its shares are down more than 50% year to date (see Chart 1).
Shares in Bintai Kinden, on the other hand, are hovering around 70 sen — a sevenfold increase from the average of 10 sen between January and July 2020. To say that the contrast in the performance of the two stocks is jarring would be an understatement. Something must be amiss here.
Are Malaysian investors that gullible? We do not think so. It is more likely that the local bourse has disproportionately more traders and speculators, riding on the momentum and hottest themes of the day. And, of course, there are many who consider the stock market as nothing more than a legalised and convenient platform for fulfilling their gambling habits.
Remember the euphoria over oil and gas stocks some years back? Investors were even willing to plough money into SPACs (special purpose acquisition companies) that had no operating business and only the promise of acquiring some energy assets in the future. Most of these “blank cheque” companies ended up in liquidation and as a disaster for many investors.
More recently, we witnessed frenzied trading in glove maker stocks, which propelled these companies into the mega cap league. While the glove companies are certainly real businesses, their stocks are trading at unrealistic valuations. In fact, just the story of diversifying into glove manufacturing is enough to drive share prices to huge gains, fanned by speculators and analysts alike.
We suspect this is partly a reflection of the lack of critical opinion, or calibre, in the local market. Malaysia has a very strict framework for short selling — thus, there is no Muddy Waters here — and it definitely pays for brokers to recommend a “buy” rather than a “sell” and encourage volume trading. And this is to be expected — after all, stockbrokerages are profit-driven entities. For that matter, so is the stock exchange operator, Bursa Malaysia.
Should there be a regulator responsible for mitigating rampant speculation in the market? Traders-speculators bet on the greater fool theory, that there will always be some buyers willing to pay a higher price. Inevitably, though, the music must stop and, when it does, many — usually the novice or naïve investors — will be left in tears.
Some valuation disparities on the local bourse are due to a scarcity premium. Like it or not, there is a big pool of domestic money chasing a limited number of companies that are fundamentally sound, have good growth prospects and fit into the thematic play of the day to boot. This is especially evident in the innovative tech sector.
Take, for instance, Pentamaster Corp. Its Hong Kong stock exchange-listed subsidiary, Pentamaster International, which contributes 99.9% of the Malaysian holding company’s profits, is trading at 12 times trailing price-to-earnings (PE) while the latter is priced at 46 times earnings (see table).
This huge disparity is down to the lack of choice. There are many more companies — many larger in terms of market cap, revenue and profits — operating within the same space that are listed in Hong Kong. And most of these companies are trading at higher valuations than Pentamaster International.
Frontken Corp is another example. The stock is trading at 43 times PE, with a trailing profit growth of 10.4%. Almost three-quarters of its operating profit before interest and tax are derived from semiconductor customers in Taiwan, the largest of which is Taiwan Semiconductor Manufacturing Co (TSMC). By comparison, TSMC — its principal source of revenue and profits and key growth driver — is trading at a trailing PE of 26 times, while profits were up 48% over the same period.
Nestlé Malaysia, a core holding for many local institutional funds, trades at nearly 59 times trailing earnings, compared with just 21 times for its much larger, Swiss-based parent company, Nestlé SA.
The growing domestic pool of shariah funds may have caused further distortions to valuations of shariah-compliant stocks, more so when these funds track the various shariah indices.
This could be one reason that Nestlé Malaysia commands such wide premium valuations to its foreign parent company compared with, say, non-shariah-compliant stocks such as Carlsberg Brewery Malaysia and Heineken Malaysia.
As the size of funds that track index performances grows, it perpetuates the high valuations for component stocks. This comes at a cost — often in terms of lower yields for the funds and could exacerbate capital market inefficiencies in capital allocation.
In fact, such conflict is not dissimilar to ongoing debates on ESG (environmental, social and governance)-based investing, whereby funds may sacrifice potential returns or take on additional risks by limiting their investing options to advance a cause or in pursuit of non-financial objectives.
There are other examples in which the scarcity premium supports high valuations for stocks listed on the local bourse but is not necessarily always the case. For example, Ajinomoto (Malaysia) trades at a big discount to its Japanese parent, Ajinomoto Co. It is quite likely that liquidity too plays a part in creating valuation disparities.
Remember, the stock market is a market for stocks. When demand exceeds supply, prices go up and vice versa. In addition, largecap stocks generally have better liquidity than small to mid-caps — except for highly speculative penny stocks — and thus tend to command premium valuations. This is why we can better expect to find value in smaller-cap stocks.
In fact, this is why we started the Malaysian Portfolio, to discover value in quality, mid-sized companies. And we have managed to do this quite successfully — the portfolio is sitting on total returns of 83.1%, or a compound annual gain (compound annual growth rate, or CAGR) of 10.6% since its inception in October 2014. Nonetheless, returns in recent years were modest, reflecting, to a certain extent, the weak performance of the broader market.
But, also, we find that the price discovery process can be frustrat ingly weak, particularly when it comes to stocks with no speculative interests. There are many good companies that are just not valued right and are consistently underappreciated by the market. Everyone is too focused on thematic plays and short-term speculative gains.
We lay the blame, at least in part, on the steady decline in global portfolio funds in the domestic market, which has resulted in a brain drain in the analyst and fund manager community. This has contributed to the lack of differing and critical opinion mentioned above.
In September, we explored possible reasons that foreign funds have been net sellers in Malaysia, as well as in neighbouring countries such as Indonesia and Thailand. These markets are being increasingly marginalised, owing to the rapid rise of China, India and newly emerging markets such as Vietnam. Also, Malaysia’s capital markets may still be suffering the consequences of capital controls imposed during the Asian financial crisis.
The point is that valuation inconsistencies exist, whether be cause of excessive speculation, scarcity, liquidity, weakness in the price discovery process or some other reasons. Investors do not, however, have to be limited to local stocks. It is not a take-it-or-leave-it proposition.
There is a universe of investable alternatives in global markets, especially in sectors that are less well represented on the local bourse. In addition, there will be times when certain markets, geographically, or sectors perform better than others. The benefits of diversification are well documented.
We started the Global Portfolio to prove this point. As with the Malaysian Portfolio, this is a real portfolio. Total returns for the Global Portfolio now stands at 43.4% since it started in December 2017, or equivalent to a CAGR of 13%.
This portfolio is outperforming the MSCI World Net Return index, which is up 29.9%. It has also done well compared with the Malaysian Portfolio, which is up 8.1%, and far better than the FBM KLCI and FBM Emas Index, which are down 8.4% and 8.2% respectively over this same period.
The Global Portfolio gained 3.8% for the week ended Nov 26. All the stocks in the portfolio ended higher save for Johnson & Johnson (-2.5%) and Qualcomm (-2%). The biggest gainer was Singapore Airlines, up 11.7%, while Bank of America rose 7.6%. Cyclical stocks worst hit by the pandemic have rallied on the imminent availability of effective vaccines. Shares for Alibaba Group Holding gained 8.6%, recouping part of its recent losses.
Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks, including the particular stocks mentioned herein. It does not take into account an individual investor’s particular financial situation, investment objectives, investment horizon, risk profile and/or risk preference. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports.
Top Glove must be more responsible
We think that when a company spends over RM1 billion to buy back its shares within a very short period of time, it gives the impression of trying to influence the stock price — whether that is the intention or not.
Top Glove Corp spent RM772 million in the past two weeks alone (up to Nov 25) to buy back some 106 million shares. Added to the RM355 million spent in September, this brings the total amount spent on share buybacks to nearly RM1.13 billion in less than three months.
This is a sum that raises eyebrows by most yardsticks – about 64% of the company’s net profits for financial year ended August 2020, and 39% of its cash and equivalent – and more so when the buyback is done as the stock price is falling.
For more stories about where the money flows, click here for our Capital section
Notably, the Employees Provident Fund (EPF) has also stepped up its purchase of Top Glove shares in November, adding almost 60 million shares and lifting its stake to 6.53%, from 5.71% at end-October. Since September, the EPF has acquired 114.5 million shares in Top Glove. Incidentally, Top Glove’s chairman, Tan Sri Lim Wee Chai, sits on the EPF board. So, who is selling? It would be interesting to compare the changes in the top 20 shareholders.
Yes, Top Glove is flush with cash, making super profits during these pandemic months. But is the huge buyback in shareholders’ best interests, especially given the stock’s lofty — and most likely unsustainable — valuations? More importantly, could the money be better spent elsewhere?
Aside from its headline-grabbing share buyback spree, Top Glove has also been in the news for a far worse reason — the serious outbreak of Covid-19 cases at its factories in Klang.
The number of cases in the Top Glove cluster accounted for 93.1% of the 1,623 cases in Selangor and 69% of the record-breaking 2,188 cases in the whole of Malaysia on Nov 24. Its factories reported a shocking positivity rate of nearly 62% for the 6,506 workers tested so far.
If it can spend more than RM1 billion on buybacks, couldn’t it have spent just a few million ringgit to test and quarantine infected workers earlier to prevent this disaster? Better yet, investing, say, a mere 10% of the RM1.1 billion spent on share buybacks would have significantly improved housing and work conditions for its staff and spared economic hardship for all Malaysians by perpetuating the Conditional Movement Control Order measures.
As one of the largest and most profitable companies in the country, surely Top Glove must aspire to a higher standard of corporate citizenry and a responsibility to society at large? Instead of trying to address the underlying health-related issues, the company was more interested in reassuring investors that the temporary work stoppage would cause only a 3% fall in its FY2021 revenue. Really?
We estimate that Top Glove can acquire another 89 million shares before its major shareholder hits the 2% creeping threshold limit, which would trigger a mandatory general offer. Will the company continue to spend another RM650 million to buy back its own shares over the coming fortnight? And then what? This provides concerned shareholders with a window to sell before the company can no longer buy back its shares.
