British banking giant HSBC has switched its call on Philippine equities to “underweight” from “overweight,” citing lofty valuations relative to the growing attractiveness of some other emerging markets in the region.
Herald van der Linde, Hong Kong-based head of equity strategy for Asia-Pacific at HSBC, said in a briefing in Manila on Friday that while he still liked the Philippine story, “it’s just too expensive.”
On the other hand, Van der Linde said: “If I buy anything in China, it’s half the price.”
For the second quarter, HSBC’s tactical call was to overweight China (from underweight) and to remain overweight on Indonesia and Taiwan. The call on the Philippines was cut to underweight from overweight only five months ago.
“We downgraded the Philippines to underweight from overweight. While the macro story remains intact, the recent market run has raised the already high equity market valuations further. An even bigger risk is a tighter monetary stance later this year due to lingering inflation risk,” said a research paper authored by Van der Linde issued on Friday.
An “underweight” rating is a recommendation to pare down exposure relative to the allotment prescribed by a benchmark index, usually MSCI.
At a price-to-earnings (P/E) ratio of about 17x—which means investors are paying 17 times the amount of money they expect to make from the market—the HSBC equity strategist said Philippine equities were much more expensive compared to regional peers. He said he would rethink the recommendation if the P/E ratio of Philippine equities were to go down to 15x to 15.5x.
While he agreed that Philippine equities deserved to trade at a premium to historical valuation levels (14x to 15x), he said he would prefer to buy at levels lower than the premium.
In general, he noted that many international fund managers were still on a “maximum overweight” position on Philippine equities. “Now, they are in mixed territory, still overweight but less so,” he said.
Across the region, the HSBC strategist said he did not think that equity markets were in a bubble “but certain sectors are frothy,” he said.
HSBC sees equity markets in the region rising by an average 8 percent this year. Given rich valuations in the Philippines, HSBC sees the local index ending 2014 at 6,300, about 462.62 points or 6.8-percent lower than Friday’s closing of 6,762.62. However, this will still be higher than the end-2013 level of 5,889.83.
Van der Linde said there would likely be some correction but this would neither be deep nor prolonged.
For a long-term horizon of 10 to 20 years, HSBC head of Asia regional strategy for HSBC Private Bank Benjamin Pedley said the Philippines and Southeast Asia would still be attractive to investors. As cited by a well-publicized HSBC study in 2012, he noted that the Philippines, aided by demographics and rising education standards, would become the 16th largest economy by 2050.
But for now, he said the risk had skewed toward the weakness of the peso alongside a monetary tightening cycle seen coming to curb rising inflationary pressures.
In general, he said HSBC’s view was that developed markets would still outperform developing markets. For investors, he said this meant going “back to basics” or rotating back to large-cap stocks in sectors that were fairly defensive—like energy—as well as companies that pay high dividend yield or capable to do so.
On HSBC’s shift to overweight rating on China, the latest research noted that markets were too pessimistic about a slowdown in China and the perceived fragility in its financial sector.
“But system liquidity remains healthy and there is still ample room to provide fiscal stimulus to support growth. In addition, the credit market hardly blinked when a company missed a coupon payment on a bond, the first event of its kind in China,” the research said. Doris C. Dumlao