The first three months of the year was mostly uneventful for the market. The local stock barometer was stuck in a range that became too predictable, with investors loading up on equities whenever the index neared 7,100 and cashing out whenever it would hit close to 7,400.
Foreign investors stayed mostly out of the game as big funds bet more on equities in Wall Street given that newly elected US President Donald Trump had promised massive economic stimuli. At the same time, the US Federal Reserve was widely expected to raise interest rates—which was always bad for emerging markets—although by the time the first increase for the year was done in March, it had been discounted by the market.
In the local stock market, foreign investors were net sellers to the tune of about $300 million for the quarter. Nonetheless, cash-awash domestic investors supported the Philippine Stock Exchange index (PSEi), which managed to rise by 471.08 points or 6.9 percent to end the quarter at 7,311.72.
The consolidation started after an 11-day run-up from Dec. 23, 2016, that sent the index surging by 14 percent, Asiasec Equities chief strategist Manny Cruz recalled. “The reason for the consolidation was relentless foreign selling due to valuation concerns and political noise in the first quarter,” he said, adding that the tightening of US interest rates weakened the peso.
At that time, the Philippines was thrust into the global spotlight due to escalating concerns on extrajudicial killings that appalled many in the Western world. President Duterte had to rethink the execution of his allout war on drugs when South Korean businessman Jee Ick-joo was kidnapped and killed by a group of policemen. These men in uniform had demanded for ransom even when the foreigner had already been killed.
Valuation of the local stock market was likewise seen unattractive, even when the price to earnings (P/E) ratio had gone down to 17 times projected earnings from even loftier levels in previous years. This was still more expensive than the PSEi’s historical average of 15x and also relative to regional peers such as Thailand’s 13x and Indonesia’s 14x P/E, Cruz pointed out.
A P/E ratio of 17 times means that investors are willing to pay 17 times the kind of money they expect to make from this market.
Based on an Inquirer poll earlier in the year, PSEi corporate earnings forecasts averaged 8.28 percent this 2017, easing from an estimated average of 11 percent last year.
“The market was affected by elections in the US. Everybody waited after the victory of Trump, what he will do, and so there was a consolidation that lasted for 3.5 months,” said BDO Unibank chief strategist Jonathan Ravelas.
Toward the end of March, the P7.03-billion initial public offering (IPO) by leading home improvement and construction supply retailer Wilcon Depot also sucked some liquidity out of the market as what large IPOs usually do. The IPO shares were sold entirely to domestic investors and as local investors prepared to subscribe, they will have less funds to invest in other stocks. In this case, the IPO was warmly received and it was not until the company’s listing date on March 31 that some of the investors were able to cash out and trade other stocks.
Breakout
After trading in a range for the quarter, the PSEi was widely expected to make a big move. The much-awaited breakout happened on April 4, when the PSEi breached the psychological resistance at 7,400.
The major driver was when Economic Planning Secretary Ernesto Pernia projected that the country’s first-quarter gross domestic product (GDP) growth might come in at about 7 percent, suggesting a sustained high-growth trajectory.
As the Philippines was coming from a high base in the first quarter of 2016 when pre-presidential election spending was at its peak, Asiasec’s Cruz said that sustaining a 7-percent year-on-year GDP growth excited the market as this would mean corporate earnings would likewise be robust.
Investors were also emboldened by the steady fiscal assessment from Fitch Ratings while market liquidity had gone back to normal following Wilcon Depot’s listing.
“Fitch reaffirmed its fiscal credit rating, S&P upgraded its growth forecast, inflation is manageable, the 2016 corporate earnings were good and people are anticipating better first-quarter (corporate earnings) numbers,” Ravelas said.
At the same time, big foreign investors started coming back to emerging markets (EMs). While Wall Street had rallied since Trump was elected president in November last year, it seemed that US stocks already peaked in March, BDO’s Ravelas said. Since then, he said foreign funds seemed to be moving out of the US and going back to EMs. It’s not just the Philippines but India, Thailand and Indonesia had also seen new highs for the year, he said.
The rising disappointment on Trump started when a Republican-dominated US Congress failed to pass the healthcare reform being pushed by the new president. Everyone is now awaiting whether he could pass the tax reform program.
Rising Trump jitters have also helped stabilize the peso.
Duterte and Trump
“The sustainability of the rally depends on the passage of the tax reform package this year,” said BPI Securities president Michaelangelo Oyson, who believed that enacting Mr. Duterte’s tax reform program this year would bring the Philippines to a new economic “supercycle” that could lift the main stock barometer beyond 8,000 this year.
While the economy had expanded by more than 6 percent in the last six years, growth could accelerate closer to 9 percent if Mr. Duterte is able to deliver the tax package, he said.
While the first package of the Duterte administration’s tax reform program seeks to lower personal income tax and estate donor taxes, it also expands the coverage of the value-added tax, increases the tax rates on automobiles and updates excise tax on oil alongside other complementary revenues. Net yield in revenue is estimated at P162.5 billion, in turn seen boosting the government’s bid to usher in a “golden age of infrastructure.”
But without tax reform, there will be no infrastructure spending, Finance Secretary Carlos Dominguez often said.
Right now, however, Oyson said the market was giving Mr. Duterte the benefit of the doubt that the tax reform program would be passed.
“This guy has proven he can influence the Lower House because he passed the death penalty (restoration) law, which was totally being barraged by the Church and the youth. He passed it, even if it’s watered down, so that’s a sign that that if he wants his taxes, he will push it,” said Conrado Bate, president of leading online stockbrokerage COL Financial.
It’s not going to be a straight line moving to 8,000 this year, which means investors have a chance to buy every time the market pulls back, Oyson said.
While last year, the “bartender” in global financial markets was US Federal Reserve Chair Janet Yellen, Oyson said this year, investors would need to continue monitoring the actions of Trump.
“Donald Trump is our bartender for this year. He’s the guy who will take out the punch bowl so the party will end but he will come back and refill the punch bowl,” he said.
As such, he said this year will be a battle between Duterte and Trump as far as stock market influence is concerned. “Duterte is passing all these major reforms but the flows to the stock market will be determined by Donald Trump,” Oyson said.
Returning bulls
Following the breakout from 7,400, BDO’s Ravelas said: “It seems that the bulls are back in play.” The next resistance is now at 7,700, which is at par with BDO’s maximum yearend PSEi target of 7,710.
As such, Ravelas said the PSEi forecast might be upgraded depending on how soon the tax reform bill could be passed and how first-quarter corporate earnings would fare. A potential rerating may happen once the numbers are out by May, he said. Rerating refers to a positive change in earnings forecast that, in turn, will make stocks cheaper.
This can happen despite lingering political noises, Ravelas said.
“We need to understand that despite all that, we’re seeing the private sector moving ahead with infrastructure projects. There’s a a big plate of IPO and number of corporations who borrowed or are preparing for great spending for the golden age of infrastructure. Also, foreign funds are slowly trickling back to the Philippines,” he said.
The Department of Finance is targeting to pass the tax reform program by the third quarter of the year.
Stock experts agree that the government’s “build, build, build” program remains exciting for investors. Heightened spending can perk up the economy and consequently boost corporate earnings.
“Investors are looking at corporate earnings now beyond 8-percent growth. That’s why we’re expecting a rerating on account of infrastructure development and tax reform. Execution will be very important,” Asiasec’s Cruz said.
Several black swans can emerge along the way, especially those that are external in nature. The biggest concern will be geopolitical tension as well as the risk of heavy profit-taking in Wall Street that can drag down global equities market, Cruz said.
“It’s part and parcel of trading in Philippine equities. We’ve been seeing those things for the past several years, so as long as there’s no major negative development, the market will be able to sustain its rise to 7,917 this year,” Cruz said.