In a poll Moody’s conducted in Kuala Lumpur in March, Moody’s Investors Service saw more than half of respondents believing that Malaysia’s real gross domestic product (GDP) growth will slow to about four per cent for 2016.
“The results are in line with our view that Malaysia’s headline real GDP growth rate will slow to 4.4 per cent in 2016, although there are downside risks to this view,” said Rahul Ghosh, a Moody’s vice president and senior research analyst.
“Given the open nature of its economy – with exports and imports combined accounting for 131 per cent of GDP – Malaysia is susceptible to a prolonged period of subdued global demand and weaker commodity prices, which will result in slower investment demand, and downward pressure on exports and government receipts.”
Ghosh also pointed out that Malaysia’s high household debt burden – equivalent to 89.1 per cent of GDP in 2015 – will constrain the ability of private consumption to support domestic demand.
According to RHB Research Sdn Bhd’s (RHB Research) recent report, as a whole, Malaysia’s economic growth was envisaged to slow more significantly to 3.9 per cent in 2016, from five per cent in 2015.
The moves by the government to cut its expenditure will likely spill over to the private sector, in RHB Research’s view.
“This will likely aggravate the business condition that is already challenging, as businesses are faced with rising cost of doing business following the announcement of the upward revision in foreign worker levy, the increase in minimum wage starting July and the goods and services tax (GST) compliance cost,” the research house said.
“In addition, a tight cashflow situation due to delays in debt collection and the implementation of the GST pose challenges for businesses.”
Businesses see parallel in slowdown
The Department of Statistics Malaysia in its Business Tendency Statistics has forecasted that the business performance in the second quarter of 2016 (2Q16) is expected to slow down, as stated by the confidence indicator of minus 3.7 per cent.
The department noted that the business peformance for all sectors namely construction, wholesale and retail trade, services and industry are expected to decline in 2Q16 with confidence indicators dropping 14.5 per cent, 8.2 per cent, 3.7 per cent and 1.8 per cent respectively.
“The current situation of business perfromance in 1Q16 is much better with an overall net balance of all sectors of -6.4 per cent as compared to -8.3 per cent in the previous quarter.
“A significant majority of establishments (63 per cent) reported the current situation of their business to remain the same.
“15.3 per cent of establishments showed improvement in their business climate while 21.7 per cent of establishments showed less favourable conditions,” it said.
From April to September 2016, the department stated that business conditions during that period are expected to increase with net balance of +8.6 per cent.
“The sectors which are expected to increase are industry and services with the net balance of 13.9 per cent and 13.9 per cent respectively.
“On the other hand, the sectors which expected to decrease are construction (-15.6 per cent) and wholesale and retail trade sector (-16 per cent),” it added.
Within domestic demand, private consumption appears to be more resilient in RHB Research’s view.
The research house however noted that consumer spending is still projected to grow at a more moderate pace of 4.6 per cent for 2016, compared to an increase of six per cent in 2015, amid the higher cost of living following the implementation of GST and adjustment in administered prices along with lingering concern over job prospects.
It further noted that additionally, higher cost of living and the elevated household debt of 89.1 per cent of GDP at end-2015 will likely put a cap on consumer spending.
“Despite the Malaysian Institute of Economic Research’s (MIER) consumer sentiment index having bounced back with a gain 9.1 points to 72.9 in 1Q, the first improvement in seven quarters, after declining by 6.4 percentage points to a record low of 63.8 in 4Q, Malaysians are not feeling more upbeat about the economic prospects, but were just adjusting to the higher cost of living and are becoming resigned to the new norm.
“Also, rising job uncertainty will likely cause consumers to remain cautious in spending. Already, the unemployment rate has ticked up to 3.5 per cent in March, from 3.4 per cent in December and 3.2 per cent in September, with the number of layoffs in Malaysia rising to 21,713 in 2015, a 75 per cent increase compared to 2014, reflecting the current economic slowdown and challenging business climate,” RHB Research said.
Recovery ahead?
However, other analysts believe that Malaysia’s economy will recover gradually in the second half of 2016.
According to United Overseas Bank (Malaysia) Bhd economist Julia Goh, the key stabilisation measures, including a three per cent cut in the Employees’ Provident Fund contribution rate and one per cent corporate tax cut, could boost nominal GDP by at least one per cent.
“As such, we continue to project GDP growth of 4.2 per cent this year with an average of four per cent growth in the first half of 2016 and 4.4 per cent in the second half of 2016,” she said.
Goh said key infrastructure projects such as the MRT Sungai Buloh-Serdang-Putrajaya Line, Light Rail Transit 3, Pan-Borneo Highway, KL-Singapore High Speed Rail and Pengerang Integrated Petroleum Complex would continue to contribute to the country’s economic growth.
She noted that despite sustaining four quarters of slowing growth, Malaysia’s economy continues to display an underlying resilience supported by its high labour force participation rate and positive employment growth.
In addition, she said that fiscal reform measures such as the introduction the Goods and Services Tax and subsidy rasionalisation had also helped to cap the fiscal deficit.
Post-Brexit impact to M’sian economy
In light of recent events, the British exit or ‘Brexit’ is of key importance which analysts are projecting to have minimal impact on the surface for Malaysia and likely to be manageable despite the possible contagion effect on other European countries.
Affin Hwang Investment Bank Bhd (Affin Hwang) observed that the financial shock of Brexit at a time of slowing global growth could drag down the growth trajectory of Asean economies, and in Malaysia, which are already showing incipient signs of softness.
The research firm noted that from the trade channel perspectives, exports to the European Union (EU) accounts for 10.1 per cent of Malaysia’s exports in 2015, with Netherlands, Germany, and the UK being Malaysia’s top three trading partners in the EU.
“However, Malaysia is a small net exporter to the UK (exports to the UK exceeding import from UK), with export to the UK accounting only 1.2 per cent of Malaysia’s total exports.
“As such, the direct impact of uncertain UK economic growth following Brexit should have limited impact on Malaysia’s trade, assuming no significant contagion effect on other European countries,” Affin Hwang said.
On the other hand, RHB Research stated that the impact of Brexit on Malaysia will likely be from two main channels.
The research house noted that the first is via trade and investment channels, not just from the UK, but also from Europe as whole.
It further noted that although the UK accounts for only 1.1 per cent and 1.2 per cent share of Malaysia’s total trade and foreign direct investment (FDI) respectively, the EU, on the other hand, commands a major share of 10.2 per cent and 19.3 per cent share of trade and FDI respectively in 1Q16.
“Therefore, on the surface it may appear that a ‘Brexit’ event will likely be minimal for Malaysia in terms of trade and investment,” RHB Research said.
The research house also viewed that should Brexit lead to a contagion effect on other European countries and hurt consumer and business confidence for the rest of Europe, the impact to Malaysia could be substantial and could be compared to the extent seen during the 2011-12 European Debt Crisis.
According to RHB Research, exports to the EU fell by 9.6 per cent in 2011-2012 to a low of 8.8 per cent share of total in 2012, from a 10.8 per cent share in 2008.
Based on the research house’s sensitivity analysis, a one per cent drop in exports to the EU could negatively impact Malaysia’s GDP by 0.1 percentage point.
RHB Research highlighted that Malaysia’s exports to the UK consist mainly of machinery and transport equipment, manufactured goods, chemical and related products, crude and fuel products and food and beverages.
The research house pointed out that the bulk of Malaysian exports to EU is to Netherlands (30 per cent share of EU), Germany (25 per cent), France (13 per cent) and the UK (12 per cent). The main products are electrical and electronics (E&E), rubber gloves, machinery, transport equipment and optical and scientific equipment.
“Therefore, these sectors may have the highest direct exposure to a ‘Brexit’,” it said.
On another note, Affin Hwang said that UK accounts for less than four per cent of Malaysia’s inward foreign direct investment (FDI), while more than a quarter of inward FDI came from Europe.
The research firm further noted that the direct impact should also be contained for Malaysia’s investment, as 80 per cent of Malaysia’s approved investment is domestic direct investment (DDI), while FDI only accounts for 20 per cent.
“Nevertheless, should Brexit lead to contagion effect on other European countries also opting to leave the EU, this will result in a prolonged and heightened period of instability on global economy,” it said.
The financial and currency markets are the other channel through which Malaysia could be affected by Brexit. RHB Research said that although the ‘Brexit’ outcome has caused an immediate negative impact on global financial markets, it remains to be seen as to how long the market volatility would persist, which to some extent hinges on whether it triggers a domino effect of more countries in the EU seeking a similar referendum.
“If the impact of global financial markets is more severe and longer than expected, it may drag down global economic growth or even send the world economy into a recession.
“A global recession may be likened to the 2008-09 subprime credit crisis, in which if it materialises, could have a significant impact on Malaysia’s economy and Asia as a whole.
“During the subprime credit crisis, Malaysia’s GDP growth fell into a decline of 1.5 per cent in 2009, from a growth of 4.8 per cent in 2008,” the research house added.
RHB Research stressed that should there be no domino effect from Brexit and its impact on investor, business and consumer confidence is contained, the impact on Malaysia’s economic growth will likely be more manageable given that Malaysia had embarked on a transformation plan to shift from its highly export-oriented economy into one that is driven mainly by domestic infrastructure spending.
Based on the research house’s estimation, every one per cent fall in Europe’s GDP could negatively impact Malaysia’s economic growth by 0.8 percentage point.
Several companies in Malaysia will be impacted by Brexit, Affin Hwang highlighted, despite believing that the market earnings exposure to UK and EU is manageable given the geographical distance of Malaysia to Europe.
The research firm estimated that the worst-case scenario is a 0.8 per cent decline in 2016E fully diluted earnings per share (EPS) if all market earnings from the UK disappear.
Affin Hwang noted that the impact increases to 0.9 per cent if this is extended to the EU.
It further noted that this takes into account both YTL Power International Bhd (YTL Power) and YTL Corporation Bhd (YTL Corp), which have huge earnings from the UK but the risk of zero contribution is minimal given the utility nature of the business.
“Stripping these out, the potential decline in earnings is reduced from 0.9 per cent to 0.7 per cent,” the research firm said.
Aside from the YTL companies, other companies which will be the most impacted, measured by percentage of earnings contribution from the UK include Amcorp Properties Bhd, SP Setia Bhd, and Genting Malaysia Bhd. Affin Hwang pointed out that the latter being a top pick, has the most significant impact on the market given its large market cap.
“Overall, the Malaysian economy will go through some slowdown as the impact of the Brexit fully set in, but (it is) likely to be felt more deeply in 2017.
“As a whole, for 2016, we expect Malaysia’s real GDP to slow from five per cent in 2015 to our long held forecast of 4.5 per cent, but admittedly, the downside risk to our forecast has increased significantly,” Affin Hwang said.
Bevy of bad signs for banks
One particular sector seeing a significant slowdown this year is banking whereby players reporting weaker first quarter of 2016 (1Q16) results.
According to the research arm of TA Securities Holdings Bhd (TA Research), banks reported weaker first quarter of current year 2016 (1QCY16) results with net profit registering its seventh quarter of year on year (y-o-y) contraction.
Part of the decline was due to seasonal factors, it said, while the general slowdown in market activities and weakend sentiments had also affected operating income.
“More notably, total allowances for loans and advances continued to increase, further dampening earnings,” it said. “While overall asset quality in the system remained healthy, the rise in formation of new non performing loans (NPLs) could signal further deterioration in the near future.”
Meanwhile, 1Q16’s weak earnings traction was within AllianceDBS Research Sdn Bhd’s (AllianceDBS Research) expectations, with only two banks – Malayan Banking Bhd (Maybank) and AMMB Holdings Bhd (AMMB) – reporting lower-than-expected core earnings.
“Moderation in loan growth was apparent, as the banks reported loan growth in the mid-single-digit range versus historically high single-digit to low double-digit levels.
“Similar trends were noted for deposits,” the research house said.
AllianceDBS Research highlighted that on a positive note, sector net interest margin (NIM) trends have stabilised y-o-y. It further said loan growth has not been inspiring and as such there would be less stress to grow deposit aggressively.
AllianceDBS Research also got a sense that banks have started to price up retail loans (mortgages and auto), which aided the reduction in NIM compression.
“There were still some deposit campaigns carried out by banks, which did cause funding cost to escalate,” the research house said.
The research house noted that overall, sector earnings were lower by one per cent y-o-y, dragged by higher provisions led by Maybank, while AMMB was still riding on recoveries.
AllianceDBS Research did not expect a general improvement in the fundamentals of the Malaysian banking sector.
“Although NIM appears to be stabilising, slower loan growth and lacklustre capital markets are expected to keep revenue growth at unexciting levels.
“Credit cost should still see a slight uptick for the rest of the year and could pose risks to earnings, especially for Maybank.
“It would not be appropriate to track the pre-provision profit for 2016, as it will be distorted by lower expenses with banks seeing higher costs booked for staff rationalisation exercises in 2015.
“Pre-provision profit would be artificially boosted in 2016. Hence, while earnings growth is forecast at six per cent (two per cent excluding one-off items), it is nevertheless largely superficial and should not warrant too much excitement,” the research house said.
On asset quality, AllianceDBS Research underlined that most banks still hardly showed any signs of asset-quality deterioration and some banks even showed improved delinquency trends.
“Maybank was the only bank that saw a significant surge in the absolute NPL trend,” the research house said.
“Asset-quality issues reported have so far been company-specific with no notable systemic deterioration.”
AllianceDBS Research continued to take a view that asset quality will not deteriorate significantly but the research house would be on the watch for significantly weak cash flow and balance sheet conditions of corporates.
The research house’s average credit cost forecast for 2016 is at 37 basis points (bps) (2015: 33bps).
“Although several banks reported historical low loan loss coverage ratios, in our view, we are cognisant that collateral values remain high,” it said.
AllianceDBS Research’s thesis for Malaysian banks has remained the same since its 2016 outlook report in that the research house classifies Malaysian banks into three groups to distinguish its preferences.
These include resilient banks with no capital-raising or asset quality issues and strong business drivers – Public Bank Bhd and Hong Leong Bank Bhd (Hong Leong Bank), which are AllianceDBS Research’s top picks, banks which have raised capital, with moderate asset quality indicators and looking to re-energise business growth – RHB Capital Bhd (RHB Capital); with Maybank and CIMB Group Holdings Bhd (CIMB) at the borderline, and lastly, banks which may face capital-raising risks, have asset-quality problems or struggle to find a business direction – Affin Holdings Bhd and AMMB.
It added that BIMB Holdings Bhd remains a niche play while Hong Leong Financial Group Bhd should ride on a potential restructuring theme.
Following the Brexit event which saw the the local market taking cue from Wall Street, the research arm of MIDF Amanah Investment Bank Bhd (MIDF Research) highlighted that the financial market was impacted by the final results of the EU referendum, hence deeper value emerged for some of the local banking stocks which already traded well below the average rolling forward price-to-book (PB) ratio.
MIDF Research’s view was that the result of the Brexit will have a negative impact on the financial market in the near term due to weaker sentiment.
“Nevertheless, on fundamental basis, we view that Brexit will have minimal impact on our local economy.
“This is in view that the significance of the bilateral trade significance between Malaysia and UK has declined.
“Year-to-date, UK contributed only 1.1 per cent to Malaysia’s total trade and was ranked 17th out of 240 trading partners,” the research arm said.
Hence, MIDF Research saw trading opportunities for stocks which are trading between one and two standard deviation (SD) below average PB ratio as well as stock trading close to two SD below the average PB ratio as attractive for investment from the valuation perspective.
It noted that results of the Brexit added deeper value for some banks after the drop in foreign shareholdings seen in May 2016.
“The market is expected to continue to be volatile on the back of uncertainties in the timing of further US Fed rate increase, volatility in oil prices and negative sentiments in the near term from the results of Brexit.
“These have resulted in the decline in foreign shareholdings of various banks,” the research arm said.
With the market reacting negatively to the results of Brexit, MIDF Research expected a recovery in the share prices of Maybank and Hong Leong Bank in the near term.
It noted that Maybank and Hong Leong Bank are both trading below the average PB ratio as well as two SD below the average PB ratio.
MIDF Research continued to expect overall loan momentum to be slower for CY16 on the back of weaker household spending and cautious business sentiment.
The research arm nevertheless pointed out that loan growth could pick up pace in the second half of CY16 (2HCY16) from the low levels in 1QCY16 and 2QCY16 supported by gradual improvement in consumption spending from government measures to improve disposable income and implementation of infrastructure projects.
Arising from way the liquidity coverage ratio (LCR) is computed which accounts for lower run-offs for retail deposits, MIDF Research expected competition for deposits, in particularly retail deposits to remain stiff.
“The contraction in deposit growth in the system which reflected liquidity outflow is expected to cause funding cost to remain high as banks continue to offer high deposit rates to protect their deposit base,” it said.
Piling pressure for property sales
The property sector also did not fare well in 1Q16 with most developers under the coverage of research firms disappointing analysts on the back of slower progressive billings due to a shorter working period.
According to AllianceDBS Research, most have achieved slow sales during the quarter given the absence of new launches in view of the weak market sentiment.
“Most have guided for better sales performance in 2HCY16, riding on more aggressive launch pipelines despite the challenging market outlook,” the research house said.
The research arm of Kenanga Investment Bank Bhd (Kenanga Research) noted that out of 12 developers under its coverage, 33 per cent (UEM Sunrise Bhd, Hua Yang Bhd, Crescendo Corporation Bhd and Malaysian Resources Corporation Bhd) disappointed largely on weaker-than-expected billings and margin compressions on higher marketing costs and lower margin projects, 17 per cent (IOI Properties Group Bhd and Matrix Concepts Holdings Bhd) came above on better-than-expected billings and the remaining 50 per cent were within to broadly within expectations.
“This season was just worse-off than the last quarter (17 per cent disappointments and positive surprises from eight per cent of our coverage),” Kenanga Research said.
Dividend-wise, Kenanga Research noted that small-mid cap developers have disappointed in terms of payout ratio and are also expected to reduce or even remove dividends as developers seek to reserve cash during such challenging times.
At this juncture, this is done on the premise of conserving cash for future landbanking and on-going working capital as take-up rates are marginally weaker.
Kenanga Research also believed that this could be indications of an extended challenging period for the property sector.
“It is noteworthy that these small-mid cap players in the affordable space were previously positioned as relatively stable plays considering their above-average dividend yields.
“With dividend payout under threat, we believe these stocks may de-rate further,” the research arm said.
AllianceDBS Research believed the optimism of certain quarters about a recovery in the property market in 2H16 is likely to be misplaced as the sentiment in the property market remains weak.
“2016 could be even more challenging in light of the tepid economic outlook and persistently poor consumer sentiment,” the research house said. “The accelerating incoming supply over the next two years could further dampen the weak sentiment, as buyers may continue to adopt a wait-and-see attitude in anticipation of lower selling prices.”
The research house noted that 1Q16 results season has witnessed more earnings disappointments as property developers were affected by slower progressive billings as well as weak consumer sentiment.
“In addition, there were fewer new launches during 1Q16 as well, in anticipation of stronger launch pipeline in 2H16 when sentiment improves,” it said.
“Therefore, new property sales have come in lower y-o-y, though earnings visibility remains supported by strong unbilled sales, thanks to the impressive sales captured over the past few years.”
While property developers will be launching more projects in 2H16, AllianceDBS Research believed some could be delayed further if buyers remain cautious.
It noted that as the property market is not conducive for higher-priced properties at this juncture, developers will have to rejig their strategy by rolling out more sellable products which will have smaller built-ups and offer more freebies, higher rebates/discounts.
“Also, unsold inventory for certain developers remains high and it will be a key priority for them to clear the stocks, providing further bargaining power for property buyers,” the research house said.
AllianceDBS Research highlighted that while unbilled sales remain healthy for near-term earnings visibility, weaker-than-expected sales replenishment over the next 12 months could pose further earnings risk come 2HCY17-2018.
It underlined that strong earnings growth experienced over the past two years is unlikely to be repeated going forward.
The research house believed market sentiment could remain soft until 2017, exacerbated by the strong new supply coming into the market.
“Developers’ priority lies in sustaining their property sales momentum which is increasingly challenged by the soft market. Therefore, attractive product offerings with strong value proposition is critical to replenish unbilled sales,” it said.
AllianceDBS Research believed larger developers with diversified geographical concentration and township exposure will be in a better position to weather the market downturn.
The research house added that this is especially so for those with large land banks acquired years ago at much lower prices which will enable them to price their products competitively.
According to AllianceDBS Research, while the property market has been rather lacklustre compared to the past few years, the overall house price index remains on the uptrend, albeit at a slower pace.
The research house pointed out that affordable landed properties with ready infrastructure and amenities remain in demand, as attested by some of the recent launches.
“We are still seeing strong demand for selective new projects which offer value proposition to buyers. Developments that are integrated with current or planned public rail stations continue to be sought after.
“Property buyers have been increasingly seeking value-adding properties as more affluent buyers continue to upgrade their lifestyles,” it said.
Overall, in terms of the outlook on the sector, TA Research did not expect much improvement in property sales in 2Q16 given developers are holding back on launches of new projects and only looking to roll out more launches in 2H16.
“The weak outlook could be exacerbated by purchasers sitting on the side line due to weak market sentiments and tighter lending environment.
“Nonetheless, developers are maintaining their 2016 sales target (flat y-o-y), in anticipation that sales should improve in 2H16,” the research arm said.
In its earnings model, TA Research projected overall sales growth for the developers under over coverage to decline by three per cent in 2016.