In an ever-changing economic landscape, perspective is power

Monthly Investment Update

Heading toward a clearer sky.

Recent data suggested that global economic growth has moderated. US consumer spending has cooled since the beginning of 2024 and the job market began to ease in February after two straight months of robust gains. The ISM manufacturing PMI stayed below 50 for 15 consecutive months. These are in line with a soft-landing scenario for the US economy and was the necessary condition for rate cuts. Meanwhile, China’s economy showed signs of improvement. After a series of economic stimuli, China’s manufacturing and investment improved in the first two months of 2024.  Industrial output and fixed-asset investments rose 7.0%YTD and 4.2%YTD, respectively and beat market forecast. Moreover, retail sales climbed 5.5%YTD. This offers a glimpse of hope for a stable economic growth in 2024. Europe’s economy is on the mend. German IFO Business Sentiment Survey edged higher in March to 87.8 from 85.7 in February, boosted by a better outlook for the economy. Also, the decline CPI in Eurozone may open door for rate cut starting June. For Japan, exports rose by more than expected in February, led by growth in shipments of autos and auto parts. This offers a hope that the global economy may continue to pick up.

Mid-year central banks’ rate cut thesis remained intact. Although the US experienced higher than expected inflation data during the first two months, FED is expected to cut key interest rate three times in 2024 and will unveil QT taper in the coming months. A downward revision of macroeconomic expectations for growth and inflation in Europe could suggest that the ECB is shifting toward a more dovish stance. This opens the door for June rate cut, should inflation remains on a declining path.

Global Equity: Earnings season is about to wind down and the picture is mixed. NVIDIA, a central piece of the AI hype and the main driver of Mag-7 returns YTD (the other two being META and Amazon.com) managed to beat market consensus with Q423 revenue and EPS growth of 265% YoY and 769% YoY, respectively. However, risks include competition from AMD with MI300X chip having already surpassed Nvidia’s H100 in certain workload, yet-to-be-quantified impact from China advanced chip sales ban and large cloud providers looking to insource development of data center chips. Continuously rising earnings growth expectations does not leave any room for error with NASDAQ100 currently trading at 2.9x Price/Earnings-to-Growth (PEG). Estimated earnings for the S&P500 for the first quarter are lower today compared to expectations at the start of the quarter. However, on a YoY basis, the index is expected to report earnings growth for the third-straight quarter. The estimated EPS growth rate for the S&P500 for Q1 24 of 3.4%YoY is below the estimate of 5.7% at the start of the quarter (December 31). EPS growth rate is well below five year and ten year average Q1 earnings growth of 9.5%YoY and 8.4%YoY, respectively.

Looking ahead, forecast calls for S&P500 CY24 earnings growth of 10.9%YoY. After recently hitting multiple new-highs, S&P500 valuations look increasingly rich with 12-month forward P/E of 20.9x already higher than both 5YR and 10YR average against an uncertain U.S. macro backdrop and a dovish FED. Earnings yields gap based on forward P/E for both S&P500 and NASDAQ100 relative to 1YR U.S. Treasury are negative. U.S. small caps, S&P500 equal weight index and our recommended actively managed equity funds currently offer better risk/reward asymmetry relative to S&P500 and NASDAQ100. U.K. has slipped into a recession while the Eurozone narrowly avoided one. However, equity markets have largely priced this in. Moreover, U.K. and Eurozone saw strong next 12m EPS upward revisions of 10.99% and 3.22%, respectively.

NIKKEI225 finally topped an all-time high that was previously recorded at the height of the economic bubble in 1989 with excitement around earnings growth, corporate governance reform and weak USD/JPY acting as tailwinds. BOJ lifted policy out of negative territory but the move was largely priced-in. India saw foreign inflows as investors bet Prime Minister Narendra Modi return for a third term. However, Nifty 50 index rally have driven forward P/E to 22.8x higher than both the U.S.’s and three times that of Chinese equities. Risk-off sentiment the Indian market was triggered by SEBI when it raised concerns over the valuation froth in the broader market and the rising inflows into mid and small caps funds. China’s domestic travel during lunar new year exceeded pre-COVID level in both spend and trips up 7.7% and 19% relative to 2019, respectively. Tencent saw Q423 revenue growth of 7%YoY and adjusted earnings growth of 44%YoY. The firm announced dividend per share hike of 43%YoY for 2023 and set to double the size of share buybacks from about HKD49 billion in 2023 to over HKD100 billion in 2024.

China Equity: Global investors have capitulated as equity mutual funds allocation into China has dropped to a mere 5%. Theoretically, this also where stocks are at their cheapest potentially leading to outsized returns over the next phase. Low market expectations coupled compelling valuations may result in upside surprises throughout CY24 as economic recovery picks up steam. HSI Index currently trades at 8.74x P/E significantly below 10YR average with EPS growth forecast of 7.74% YoY and 8.20% YoY for 2024 and 2025, respectively. Despite flat near-term EPS projection for CSI300, EPS growth penciled in for CY25 and CY26 are robust at 15.69% and 13.34%, respectively. China could also be the prime beneficiary of capital flow reversal once the FED begins easing due to compelling valuations, market size and thin investor positioning. January abrupt 50bps RRR reduction by the PBOC freed USD140 billion and was followed up by a surprise 25bps 5YR LPR cut, a key mortgage reference rate, from 4.2% to 3.95%. Jan-Feb 2024 government land sales revenue was flat YoY. Local governments have also scrapped some restrictions on land sales.

However, property prices remained under pressure as home prices fell 1.4%YoY last month. Prolonged decline in property prices and equity markets have dampened consumer’ confidence and stymied consumption recovery despite high savings. Inflation remains far too low. Market is keen to have the Chinese Government play a more active role in driving asset prices which is crucial in creating sustained inflationary pressure. Policymakers are considering a USD278.53 billion stock market stabilization mechanism to buy shares onshore through the Hong Kong exchange link. It is becoming increasingly clear that the Chinese Govt. is committed in ensuring board-based economic recovery through use of various fiscal and monetary tools.

Alternative Assets:   REITs performance soften somewhat in during the first three months of 2024 after a strong Q4 23 as investors reassess policy rate path on the back of strong sticky U.S. CPI data. There is approximately USD6 trillion sitting in money market funds globally earning 5% from short-term U.S. Treasuries. REITs will benefit from inflows as market converges around a rate cut consensus. Investors will need to seek out other income producing assets such as REITs for yield enhancement. Market is increasingly cognization of the risk posed by the Isarel-Hamas conflict which have expanded to include Iran, Pakistan, Lebanon, Syria and Iraq. Disruption to cargo and energy transportation in the Strait of Hormuz, Red Sea and Suez Canal could put global economy in dire straits. Cost to ship a 40-foot container from Asia to Europe is USD3,000-4,000 up from USD1,500 pre-conflict. Moreover, Russia-Ukraine conflict is still ongoing with U.S. USD60 billion Ukraine aid bill remaining stuck in Congress. Gold continues to be a good hedge against geopolitical events even if inflation moderates from here as rate cuts may come on the back of a softer U.S. economy.

We continue to see a compelling case that calls for higher allocation into fixed income relative to equity as risk premium remains under pressure. We recommend clients to invest with a portfolio-based approach through a combination of strategic and tactical asset allocation (SAA and TAA) to best optimize risk-reward under all scenarios. 

Arun Pawa, IP, FM, IA, Investment Strategist 

Warat Niamsaing, CISA, Investment Research

CIMB Thai Bank (CIMBT)