SINGAPORE (Feb 5): There is no safe place for bears to hide in a market that is full of complacency these days. Asian equity markets marched higher alongside US and European markets in January, surpassing their 2007 highs and exhibiting strong upward momentum. There is a saying among brokers that the first three trading days are usually a good proxy for the full-year performance of the stock market. If that is the case, investors who hold long positions will laugh until they cry, as all major equity markets soared during the first three trading sessions at the beginning of 2018.
That is just a joke. In fact, fundamentals are the true drivers behind this broad rally, and market participants expect another upbeat earnings season to confirm the continuous improvement across the globe. Wall Street is ready to celebrate another season of record earnings, with over 80% of the Standard & Poor’s 500 components beating consensus forecast so far (see Chart 1). And the market anticipates more economy-friendly policies from the White House this year, following the massive tax overhaul.
Confidence over companies’ prospects by business leaders is at the highest level since 2010, a recent PwC survey suggests. According to the survey, 75% of the 1,300 CEOs questioned believe the global economy will improve in the coming year. About 87% thought their organisations would grow and 42% were “very confident”.
Meanwhile, the International Monetary Fund’s recent upgrade of the world economic growth forecast to 3.9% this year and next signalled the strongest global economic outlook since 2010, although the sustainability of this upswing is overshadowed by the rising interest rate environment and further reforms are needed to drive this rally into the 2020s.
Singapore’s O&M sector is riding oil’s tailwind
In Singapore, the Straits Times Index has broken out from its 2015 peak of 3,547 points on the back of the improved economic outlook and earnings prospects. The recent surge in crude oil prices fuelled the rally of large-cap stocks in Singapore’s offshore and marine (O&M) sector, namely Keppel Corp, Sembcorp Industries and Sembcorp Marine, as the outlook is brighter and the likelihood for potential mergers and acquisitions is rising. Confidence about the local market is further boosted by the Singapore Exchange’s ambitious decision to allow companies with
dual-class share structures to list, following similar moves by the Hong Kong Stock Exchange. This will help improve its competency and attract hot tech listings in Southeast Asia’s largest bourse.
Singapore’s O&M sector is riding the tailwind of surging oil prices, which are at a three-year high against the backdrop of a decreasing stockpile and the Organization of the Petroleum Exporting Countries’ commitment to extend a production freeze. Since they bottomed in February 2016, crude oil prices have more than doubled (see Chart 2) and that makes investors believe the worst is over for Singapore’s O&M sector.
Despite the feverish chase after big-cap offshore names, the small-cap oil and gas service companies are still feeling the pain of mounting debts and a longer recovery cycle. The SGX Oil & Gas Index, which mirrors the overall performance of Singapore’s small- and mid-cap oil service companies, is still at a decade low. The divergence between large and small players is likely to continue until we see a clear sign of a recovery in deep-sea drilling activities.
Hang Seng Index — time for a correction?
The Hang Seng Index has registered more than 30 trading sessions of rising prices since mid-December and is now above 33,000 points — surpassing its 2007 peak and hitting a new record. Against the backdrop of a global cyclical upswing and China’s soft landing, the Hong Kong equity market continued its bull run as funds continued to flow into one of Asia’s most vibrant markets.
Although the uptrend shows no clear sign of stopping, it is worth noting that the index has climbed to a key, 161.8% Fibonacci extension level, which usually serves as a meaningful resistance level from a technical point of view. The 161.8% Fibonacci level, as shown in Chart 3, is pointing to the 32,870 area.
Coincidently, the Hang Seng Index has been taking a pause around this area over the past few trading days as broad-based profit-taking activities kick in, following a sharp decline in the US dollar and rising protectionism in the US, which is likely to hurt China exporters and technology entrepreneurs such as Alibaba Group Holding and Tencent Holdings, which are looking to expand their footprints globally.
Southbound inflow via the Shanghai-Hong Kong Stock Connect is becoming an important liquidity driver behind Hong Kong’s rally. Year to date, southbound flows via the stock connect have recorded a net inflow of HK$39.5 billion ($6.6 billion), indicating an accelerated pace of capital inflow from the mainland to Hong Kong. Since the launch of the stock connect, a total of RMB759 billion ($157.4 billion) of southbound capital have flowed into the Hong Kong stock market.
Ample liquidity and demand for diversification are among the main drivers behind southbound traffic. Still, the Hong Kong-listed shares are trading at a significant discount compared with their A-share counterparts. The Hang Seng China AH Premium Index, a gauge that tracks the price difference between A-shares and H-shares for the most liquid Chinese companies with both A-share and H-share listings under the stock connect scheme, is now at 129. This suggests that A-shares are traded at a 29% premium on average against their H-shares even though shareholders on each side are entitled to the same dividend payout and other shareholder’s entitlements. Continuous southbound capital flow will help to bring down this price gap in the long term, but it is likely to be a marathon.
China A-shares have largely underperformed their Asian peers in 2017, but there were signs of a “catch-up play” early this year (see Chart 4). The Shanghai Composite Index has risen more than 8% so far this year and the trading volume is rising — a signal that funds are flowing in. If you recall what happened in 2014 when the China stock bull run just started, the financial sector was leading the broad-based rally; this is similarly happening now. The China A-50 Index has outperformed the Shanghai Composite over the past 12 months. If Chinese equities are about to start a structural bull run, small- and mid-cap stocks are set to move next as a result of sectorial rotation.
Margaret Yang is a market analyst at CMC Markets Singapore
