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N O M U R A S I N G A P O R E L I M I T E D
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Asia Special Report NOMURA GLOBAL MARKETS RESEARCH
November 26, 2013
Principal authors Economics, Asia ex-Japan
Rob Subbaraman Chief Economist, AEJ +65 6433 6548
FX strategy, Asia ex-Japan
Craig Chan Head of FX strategy, AEJ +65 6433 6106
Rates strategy, Asia ex-Japan
Vivek Rajpal Rates strategy, AEJ +65 6433 6555
Equity strategy, Asia ex-Japan
Michael Kurtz Global Head of Equity Strategy +852 2252 2182
2014 outlook: Growing divergences
Asia must implement austerity measures – tighter policies and structural reforms – or risk breeding future crises. As China slows, we expect Asian growth of less than 6%.
Our theme: growing divergence in fundamentals and growth opening up the biggest gap in decades. The leaders: Korea, Malaysia, the Philippines. The laggards: China, India, Indonesia, Thailand.
FX strategy: Into Q1, INR, KRW, PHP should outperform IDR and MYR on QE tapering and election/policy risks. Into Q2, China hard-landing risk could pressure Asia FX, with PHP and INR least affected. From Q2 onwards, the focus should shift to rate policy divergence where PHP should outperform THB.
Rates strategy: Monetise ‘policy carry’ by receiving THB 2yr, KRW 2yr and SGD 2s5s; on better growth, KRW and MYR steepeners; on differentiation, Pay KRW vs. SGD 5yr and Pay MYR vs. THB 2yr; Long 5yr/7yr India bonds, Pay 1yr INR and CNY swaps on local dynamics.
Equity strategy: The macro risk-compression rationale for APXJ equity multiple expansion is largely played out; from here, stocks need earnings growth to advance. We expect 13% regional earnings growth in 2014, for a year-end Asia-Pacific ex-Japan index target of 535, with upside skewed toward more export-oriented EMs.
Nomura | Asia Special Report 26 November 2013
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Table of Contents
Executive summary 3
Forecast table 4
Asia's turn for austerity 5
Macro risks accumulating 5
Middle-income traps 6
Policymakers in the hot seat 7
China: No pain, no gain 8
Taiwan: Hampered by a lack of reform 11
Hong Kong: Overheating 12
South Korea: Catching up with global growth 13
India: Higher interest rates for longer 15
Southeast Asia: Continue to compare and contrast 17
Indonesia: An even more challenging year 18
Malaysia: Avoiding twin deficits 19
Philippines: Still the star performer 20
Singapore: No turning back 20
Thailand: Poor politics make for poor economics 22
FX strategy: H1 – politics, tapering and China; H2 – policy rate divergence 23
Fed QE tapering and differentiation between balance sheets 24
Election and policy risks 26
China hard-landing/systemic risks 27
Monetary policy divergence across the region 28
Rates strategy: Seek policy carry while acknowledging growing differentiation 30
Seek ‘policy carry’ through selected receivers 30
Yield curves to steepen in selected countries on improving growth prospects amid QE tapering 33
Positive carry spread trades to acknowledge growing differentiation 34
Liquidity and local dynamics to weigh in India and China rates 36
Australia rates outlook 38
Equity strategy: From risk compression to earnings growth 39
Equity Allocation/Recommendations 52
Stock selection: Earnings focus for 2014 54
Recent Asia Special Reports 60
Nomura | Asia Special Report 26 November 2013
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Rob Subbaraman +65 6433 6548 [email protected]
Craig Chan +65 6433 6106 [email protected]
Vivek Rajpal +65 6433 6555 [email protected]
Michael Kurtz, NIHK +852 2252 2182 [email protected]
Executive summary
Economics
It is Asia’s turn to implement austerity – tighter policies and structural reforms – or it will be
the breeding ground for future crises. Even with a recovery in exports, we expect China’s
GDP growth to slow to 6.9% in 2014 and Asia ex-Japan’s growth to fall below 6.0%.
Our main theme is growing unevenness in Asia, both in terms of growth and fundamentals,
opening up the biggest disparities in decades. We contrast the leaders (Korea, Malaysia
and the Philippines) with the laggards (China, India, Indonesia and Thailand).
Monetary policy action is also likely to vary widely in 2014, with policy rate hikes of 100bp
in the Philippines and 50bp in India, Indonesia and Malaysia, whereas we expect only
25bp in Korea and no hikes in China, Taiwan and Thailand.
FX Strategy
The two main themes into Q1 2014 are Fed QE tapering and election/policy risks. We are
positioning long 3M INR, KRW, PHP against IDR and MYR to capture Fed tapering and
relative FX performance. INR could be a relative outperformer on the state election results.
We expect PHP and INR outperform IDR and MYR if there is a rise in China hard-landing
and financial systemic risks into Q2 (on top of the tapering and election risks). The risk is
also that USD/CNH trades to the weak side of the daily fixing on hard-landing fears.
The monetary policy differentiation theme from Q2 onwards, based on higher inflation
combined with China-slowdown, economic fundamentals and political risks should see
PHP structurally outperform THB into year-end 2014.
Rates strategy
We highlight four main themes: 1) Monetising ‘policy carry’ through selected receivers; 2)
Curve steepeners in countries with improving growth prospects; 3) Positive carry spread
trades on growing differentiation; and 4) Liquidity and local dynamics in India and China.
To monetise ‘policy carry’, we recommend investors receive Thailand 2yr, Korea 2yr and
Singapore 2s5s. We also recommend 2s5s steepeners in Malaysia and Korea on
improving growth prospects.
On the differentiation theme we focus on spread trades, Paying Korea 5yr vs. Singapore
5yr and Paying Malaysia 2yr vs. Thailand 2yr as positive carry spread trades that we
expect to benefit from the diverging growth performances between countries. We also like
long India 5yr/7yr bonds, Paying 1yr INR swap and Paying CNY 1yr swaps.
Equity strategy
With equity PER multiples having largely mean-reverted, equities increasingly require a
growth rationale for upside. Equity correlations have declined as well, suggesting investors
must grow more discriminating and bottom-up. We expect further declines in market
appetite for ‘safety’, and look for attributes such as beta, risk and growth to outperform.
Our end-2014 MSCI Asia-Pacific ex-Japan index target of 535 implies 14% upside from
current levels and we expect stronger upside in the more export-focused and operationally
geared markets such as Korea, Taiwan and Singapore as opposed to passé ‘yield play’
Australia or the FX-vulnerable parts of EM ASEAN. India is an against-the-grain
Overweight, on possible reform-friendly politics or further commodity price relief.
We favor cyclical, growth- or reflation-sensitive equity sectors such as Tech, Industrials,
Consumer Discretionary and Banks (downgrade Telcos to Underweight). Among cyclicals,
our more cautious China/commodity view inclines us toward downstream industries that
may benefit from easier input costs. Our higher US Treasury yield and USD expectations
also incline us away from (most) Property and Hong Kong.
Nomura | Asia Special Report 26 November 2013
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Forecast table
2013 2014 2015 2013 2014 2015
China 7.6 6.9 6.8 2.7 3.0 3.2
Hong Kong 3.0 3.8 3.0 4.2 4.3 4.5
India 4.4 ↑ 4.7 4.8 5.7 9.9 9.1 ↑ 9.3 8.7
Indonesia 5.7 5.7 6.1 7.2 ↓ 7.0 5.6 6.2
Malaysia 4.3 4.5 4.0 2.1 3.5 5.2
Philippines 7.3 ↓ 7.1 6.2 ↑ 6.7 6.8 2.8 ↑ 2.9 4.0 4.1
Singapore 3.1 ↑ 3.5 3.5 2.9 2.8 ↓ 2.3 3.6 3.5
South Korea 2.9 4.0 4.0 1.2 2.6 3.0
Taiwan 2.0 ↓ 1.8 3.5 ↓ 3.0 3.5 1.0 2.0 2.5
Thailand 3.5 ↓ 3.1 4.2 ↓ 3.8 4.6 2.1 2.3 2.5
Asia ex-Japan 6.0 5.9 6.0 4.2 4.3 ↑ 4.4 4.5
Source: CEIC, Bloomberg, Nomura Global Economics.
2013 2014 2015 2013 2014 2015
China 1.8 0.9 0.4 -1.5 -1.8 -1.8
Hong Kong 0.0 ↑ 1.0 -0.3 ↓ -0.5 0.0 -0.2 -0.5 -0.5
India -3.3 ↑ -2.9 -3.2 ↑ -3.0 -3.7 -5.0 ↑ -4.8 -4.7 ↑ -4.5 -4.2
Indonesia -3.0 ↓ -3.4 -2.7 ↓ -3.0 -2.5 -2.4 -2.2 ↑ -1.7 -2.0
Malaysia 2.4 ↑ 3.5 3.2 ↑ 5.1 5.8 -4.0 -3.5 -3.3
Philippines 2.5 ↑ 3.8 1.8 ↑ 4.0 2.8 -2.6 ↑ -2.2 -2.2 ↓ -2.4 -2.0
Singapore 16.6 ↓ 16.3 14.9 ↑ 15.6 14.6 1.0 0.2 -0.2
South Korea 5.5 4.1 2.8 0.0 1.0 0.5
Taiwan 10.1 8.7 8.0 -1.9 -2.0 -2.0
Thailand -1.7 -1.1 -0.5 -2.0 ↑ -1.8 -3.0 ↑ -2.0 -3.0
Asia ex-Japan 1.2 ↑ 1.3 0.6 ↑ 0.7 0.2 -2.2 ↑ -2.1 -2.3 ↑ -2.2 -2.2
2013 2014 2015 2013 2014 2015
China 6.00 6.00 6.00 6.08 ↓ 6.05 6.08 ↓ 6.03 6.05
Hong Kong 0.40 0.40 0.40 7.75 7.78 ↓ 7.75 7.85
India 7.75 8.00 ↑ 8.25 8.25 60.5 ↑ 62.2 67.0 ↓ 62.2 65.5
Indonesia 7.50 7.00 ↑ 8.00 8.00 11325 ↑ 11600 11650 ↑ 12400 12900
Malaysia 3.00 3.50 4.00 3.12 ↑ 3.15 3.10 ↑ 3.21 3.28
Philippines 3.50 4.50 5.50 42.6 ↑ 43.0 41.7 ↑ 43.2 43.8
Singapore 0.38 ↑ 0.42 0.48 0.60 1.23 ↑ 1.24 1.22 ↑ 1.27 1.29
South Korea 2.50 2.75 3.25 1065 ↓ 1050 1060 1080
Taiwan 1.88 2.13 ↓ 1.88 2.13 29.4 29.2 ↑ 29.7 30.2
Thailand 2.50 2.75 ↓ 2.50 3.00 31.0 ↑ 31.5 32.5 ↑ 32.9 34.0
The ↑↓ arrows signify changes from last week.
Note: Fiscal balances are for fiscal years which differ from calendar years for Hong Kong (Apr-Mar), India (Apr-Mar), Singapore (Apr-Mar) and
Thailand (Oct-Sep). Fiscal data are for the central government and do not include off-budget. Source: CEIC, Bloomberg, Nomura Global
Economics.
Current Account (% of GDP) Fiscal Balance (% of GDP)
Real GDP
Note: All figures relate to the modal forecast, ie, the "most likely" outcome. Source: CEIC, Bloomberg, Nomura Global Economics.
Consumer Prices
Official Policy Rate Currency per US Dollar
Nomura | Asia Special Report 26 November 2013
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Rob Subbaraman +65 6433 6548 [email protected]
Asia's turn for austerity
It is time for Asia’s policymakers to shift their focus towards financial stability over growth.
Strong capital inflows, systematically loose monetary policy and a neglect of supply-side
reforms have weakened Asia’s economic fundamentals since 2008. Rather than seeing it in the
positive light of global rebalancing, the much larger shrinkage of current account surpluses in
Asia than elsewhere is symptomatic, in our view, of Asia’s worsening fundamentals.
We believe it is now Asia’s turn to implement austerity – tighter policies and structural reforms –
which will soften domestic demand but ensure more sustainable growth. Even with a recovery in
exports, we expect Asia ex-Japan’s total GDP growth to fall below 6.0% in 2014 – in other
words, Asia will rely more on the rest of the world for growth, not vice versa.
A new phenomenon that we anticipate is growing unevenness among Asia’s economies, in
terms of growth, fundamentals and central bank actions opening up the biggest disparities in
decades. This theme of growing differentiation runs through the report: We highlight the leaders
(Korea, Malaysia and the Philippines) and laggards (China, India, Indonesia and Thailand), and
our FX, Rates and Equity strategists provide several interesting relative value
recommendations.
Macro risks accumulating
To avoid magnifying strong capital inflows, Asia relied heavily on macroprudential measures
rather than interest rates to address financial stability risks, with limited success. We calculate
that for the 10 biggest economies in Asia ex-Japan, their real policy rates, collectively, have
been negative 57% of the time since 2008; over 1996-2007 they were negative only 16% of the
time. Persistently loose monetary policy has fuelled private credit booms across Asia, but more
than the level, it is the speed at which credit is outpacing nominal GDP growth that concerns us.
Past financial crises in major economies are often preceded by the private credit-to-GDP ratio
rising sharply by 30 percentage points (pp) in the five years before the crisis. We call this the “5-
30” rule, and many Asian countries have either breached, or are close to, the 30pp since 2008
(Figure 1). Asia is also experiencing house price booms. If we overlay residential property prices
in the US (indexed to 100 in January 2000) on residential property prices in several Asian
countries, it is striking how many Asian property markets are tracking above the US price bubble
(Figure 2). This is leading to a hive of construction activity (see insert in Figure 2) which could
turn into a major misallocation of investment in the event of a correction in Asian property
prices.
Fig. 1: Credit to the private non-financial sector
Brazil
Turkey
Greece
Poland
Argentina Mexico
Russia
EU
Hungary
Germany
UKSaudi
S. Africa
US
China
HK
SingMalay
Thai
Vietnam
Indo
Taiwan
Korea
India
Phil
Australia
Japan
0
50
100
150
200
250
-20 -10 0 10 20 30 40 50 60 70
Pri
vate
cre
dit
in 1
Q 2
013, %
of G
DP
Change in credit-to-GDP ratio, 4Q2008-1Q2013, pp
Note: Asian countries in black. Source: BIS; IMF and Bloomberg.
Fig. 2: Residential property prices in Asia versus the US
Note: t=number of years from the starting year (indexed to 100). For Asia, the starting year is Dec 2008 and for US, it is Jan 2000. Data for China, HK, Singapore and Taiwan are up to Sep-13, Malaysia is Jun-13, India is Mar-13 and US is Dec 2007. Source: Centa Property, CEIC and US CorelLogic.
60
80
100
120
140
160
180
200
220
240
t t+1 t+2 t+3 t+4 t+5 t+6 t+7
Index China, Dec-08 HK, Dec-08
India, Dec-08 Malaysia, Dec-08
Singapore, Dec-08 US, Jan-00
Taiwan, Dec-08
Share of constuction in GDP, %
2007 2013 H1
China 9.2 13.2
HK 6.8 11.2
India 8.4 8.2
Indonesia 7.7 10.4
Japan 10.4 10.1
Korea 17.5 14.9
Malaysia 10.1 15.2
Philippines 9.1 11.4
Singapore 10.6 12.8
Taiwan 9.7 9.3
Thailand 8.8 8.0
Nomura | Asia Special Report 26 November 2013
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A debt-fuelled asset-price boom stimulates growth, but not forever. Asia is at the stage where
the best outcome, in our opinion, would be a gradual fading of the boom, which tighter policies
can help administer. This would likely restrain growth as the wealth effect fades and debt-
servicing costs mount. The worst outcome would be a continuation of the status quo, allowing
bubbles to form that, by definition, eventually burst, leading to outright recession.
Middle-income traps
In the last five years, Asia has made the costly mistake of neglecting supply-side reforms, such
as relaxing restrictions on foreign direct investment (FDI), removing government fuel subsidies,
accelerating privatisation, opening up services sectors, lowering employment protection and
liberalising capital markets. These reforms can be painful in the short run, but are essential in
the long run to boost productivity and competitiveness – and they are even more pressing in
Asia, given half the region is facing rapidly ageing populations and as the low-hanging fruit of
productivity gains from economic “catch-up” are becoming less plentiful. Evidence is building
that Asia has squandered this opportunity, raising the risk of countries becoming stuck in
middle-income traps.
Globally, there is a strong positive relationship between GDP per capita and productivity (Figure
3). Singapore, Japan, Hong Kong, Korea and Taiwan have all successfully advanced to the
high-income country club, but others in Asia are unlikely to follow without strong gains in
productivity, and here lies our concern. We find that, consistent with the loss of reform
momentum, the average growth in output per worker in 2010-13 across most of Asia has slowed
noticeably compared with before the global financial crisis (insert of Figure 3). Our own
estimates are that, in the past five years, long-term potential growth has slowed by about 2pp in
China and India, by 1.0pp in Korea, Taiwan, Hong Kong, Singapore and Thailand, and by 0.5pp
in Malaysia and Indonesia; only the Philippines (up 1pp) has bucked the trend.
Despite slowing potential growth we believe it would be a mistake for investors to focus solely
on the risks of higher inflation; in Asia, it is often fiscally suppressed or held down by falling
commodity prices. In our opinion, the best macro indicator of Asia’s worsening economic
fundamentals is the dramatic shrinkage of its current account surpluses – and they have shrunk
much more than in other emerging markets (Figure 4). This has happened mostly for bad
reasons: China’s has dwindled due to the debt-fuelled investment boom, while elsewhere
domestic savings are falling because of rising debt and/or slowing productivity (see the Anchor
Report: Asia’s rising risk premium, 28 June 2013).
Fig. 3: Productivity levels versus GDP per capita in 2011
China
HK
India
Indonesia
Japan
Korea
Malaysia
Phil
SingaporeTaiwan
Thailand
US
Vietnam
EU Australia
Turkey
0
10
20
30
40
50
60
0 20,000 40,000 60,000 80,000
Pro
ductiv
ity,
real G
DP
per h
our w
ork
ed
GDP per capita, USD
Output/worker, average growth
2000-07 2010-13
China 9.8 8.7
HK 4.2 1.7
Indonesia 3.5 4.4
Korea 3.3 1.9
Malaysia 3.2 1.1
Philippines 2.8 4.6
Singapore 3.0 1.9
Taiwan 3.2 2.9
Thailand 2.9 3.5
Source: Asian Productivity Organisation, IMF, CEIC and Nomura Global Economics.
Fig. 4: Current account balances, 2013 versus 2007
MalaysiaHK
China
TaiwanThai
Phil
Indo Korea
India
Australia
Russia
ChileIsrael
ArgentinaBrazil
MexicoColombia
CzechTurkey
PolandS. Africa Hungary
Romania-15
-10
-5
0
5
10
15
-15 -10 -5 0 5 10 15
2007, % of GDP
2013, % of GDP
45
Note: Asian countries are highlighted in black. Singapore is excluded as it is an outlier with current account surpluses of 26.1% in 2007 and 16.3% in 2013. Source: IMF; CEIC and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
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Policymakers in the hot seat
Asia needs to tighten policy and accelerate structural reforms, or it will become a breeding
ground for future financial crises. But what trigger may galvanize policymakers into action?
Some argue there isn’t one. Even if more symptoms of deteriorating health start to appear –
such as worsening credit quality – history shows that it often takes a full-blown crisis before
policymakers implement austerity measures. However, we are not in this doomsday camp. We
see a paradigm shift where, past financial crises aside, Asian policymakers will face greater
market discipline than ever before. Early signs of this are appearing: capital flight from the Fed
tapering scare in May forced Indonesia and India to hike rates by 175bp and 50bp, respectively,
and, along with Malaysia, to implement some reforms. Having suffered the worst global financial
crisis in modern history and with the Fed about to start unwinding its loosest-ever monetary
policy, we believe that investors are starting to demand a higher premium for risk over return
when investing in EM. In other words, economies with improving fundamentals but perhaps
lower, but more sustainable, growth will be rewarded, whereas those with higher growth but
worsening fundamentals – and hence at risk of a boom-bust cycle – may be punished.
Investors becoming increasingly discerning over the quality of Asian growth plays to our theme
for 2014: a divergence of performance across Asian economies, opening up the biggest
disparities in decades. Here is how we anticipate the growing divide between Asia’s leaders and
laggards, the rationale of which is explained by our country specialists in the pages that follow:
The leaders
Korea: It has a robust balance of payments and we are the most bullish on the street with
regard to its GDP growth, forecasting 4% in 2014, driven by exports. But our biggest call is a lift
in domestic demand. We do not expect the first rate hike until Q4 2014.
Philippines: We see virtuous spirals from strong GDP growth (6.7% in 2014), sound economic
fundamentals and stable politics, setting off an investment boom, both domestically and in FDI.
We expect Bangko Sentral ng Pilipinas to hike rates by 100bp in 2014, starting in Q2.
Malaysia: Political risks have subsided and we expect a rejuvenation of fiscal reforms to result
in positive sovereign rating action. Its open economy will benefit from an export recovery. We
expect Bank Negara Malaysia to hike rates by a cumulative 50bp in H2 2014.
The laggards
China: We expect GDP growth to slow to 6.9% in 2014 and to 6.8% in 2015, on a continued
slowdown in potential growth and tighter policies to contain financial risks. Some corporate
defaults are likely, helping to stamp out moral hazard. Progress on structural reform will be slow.
India: Our theme is higher rates for longer. In 2014, we expect sticky CPI inflation of 9.3%,
forcing the RBI to hike rates by a further 50bp in H1, thus keeping growth tepid at 4.8%. A BJP-
led coalition is likely to win power, which may be positive for the economy in the medium-term
Indonesia: We expect Bank Indonesia to focus on stability over growth, hiking by a further 50bp
in Q1 2014. We expect Jakarta Governor Joko Widodo (PDI-P party) to win the July presidential
election. Reform momentum looks set to slow and may not pick up even after the election.
Thailand: Populist policies have borrowed growth from the future and fuelled household debt.
There is a scarcity of capital and skilled labour. Politics are unstable. Weak FDI has meant more
hot-money flows to finance the current account deficit. We see policy rates on hold in 2014.
The middle
Hong Kong: Under the USD peg, Hong Kong imports the Fed’s ultra-loose monetary policy –
so despite a slowing China we expect overheating pressures to intensify, leaving the economy
very vulnerable to when the Fed eventually starts to raise rates, but this may not be until 2016.
Taiwan: A high degree of exposure to China’s slowing economy and no obvious domestic
drivers of growth lead us to expect only a mild export-led recovery, lifting GDP growth to 3.0% in
2014. With Asia’s lowest inflation rate, we expect policy rates to be left unchanged through
2014.
Singapore. To overcome a very high cost base, a rapidly ageing population and fierce regional
competition, the economy is undergoing painful restructuring to boost productivity. But the pay-
off will take many years; in 2014, we see a worsening inflation-growth trade-off.
Nomura | Asia Special Report 26 November 2013
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Zhiwei Zhang +852 2536 7433 [email protected]
Changchun Hua +852 2252 2057 [email protected]
Wendy Chen +86 21 6193 7237 [email protected]
China: No pain, no gain
2014: The year of policy tightening and structural reform
We expect China's economic growth to slow amid policy tightening, while structural reform will
gradually kick in, causing short-term pains.
Overview
We believe China's GDP growth peaked at 7.8% y-o-y in Q3 2013 and will slow to 7.5% in Q4.
We believe the slowdown will continue into 2014, with GDP growth of 7.1% y-o-y in Q1 and
6.7% in Q2, and our full-year forecast is for growth of 6.9% in 2014. The reasons behind this are
primarily policy tightening affecting the property market and infrastructure investment, while we
expect structural reforms (e.g., reducing overcapacity in some heavy industries, factor price
deregulation) to cause short-term pain. The government is likely to fine-tune its policy tightening
and the pace of reform, which we expect to stabilise growth at 6.8% in Q3 2014, before leading
to a modest recovery to 7.0% in Q4 (Figure 5).
Our view is substantially different from a more bullish consensus, which views the current
growth recovery as sustainable through 2014 (Consensus: 7.4% y-o-y). The main distinguishing
factor between our view and the consensus view is down to the policy outlook. We expect the
government to cut its GDP growth target for 2014 to 7.0% from 7.5% at its Central Economic
Working Conference in December, providing room for gradual deleveraging and structural
reforms. As such, we believe policy tightening will be a major theme, helping to tackle rising CPI
inflation and housing prices, and reducing the financial risks that stem from rapid credit
expansion. By contrast, the consensus view is based largely on the expectation that policy is
likely to be more supportive of growth.
Downturn in Q4 2013 and H1 2014
We believe monetary policy has already started to tighten and credit growth will remain weak in
Q4 and Q1 2014. We have highlighted China’s financial risks in two thematic Asia Special
Reports this year – China: rising risks of financial crisis, 15 March 2013 and China’s heavy
LGFV debt burden, 24 September 2013. In our March report we coined our “5-30” rule, a
reference to the pace of build-up in credit growth at close to, or over, 30% in the five years
preceding a financial crisis. China’s current leadership has consistently emphasised the
importance of containing financial risks. Indeed, financing conditions have tightened
significantly, with the 3yr high-grade corporate and government bond yields rising sharply, the
latter to an all-time high of 4.3% in November (tighter financing conditions are forcing investors
to sell their more liquid government bonds), and total social financing (TSF) dropping to
RMB856.4bn in October from RMB1.4trn in September and a peak of RMB2.6trn in March
(Figure 6).
Fig. 5: Consensus versus Nomura forecasts
6.5
7.0
7.5
8.0
8.5
1Q12 3Q12 1Q13 3Q13 1Q14 3Q14
% y-o-y
Consensus
Nomura
Forecast
Source: Bloomberg and Nomura Global Economics.
Fig. 6: Total social financing and bond yields
0.0
0.4
0.8
1.2
1.6
2.0
2.4
2.8
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
5.0
5.5
6.0
2007 2008 2009 2010 2011 2012 2013
TSF (rhs)
Corporate bond yield (AAA, 3yr)
Govt bond yield (3yr)
% RMB trn
Source: CEIC, WIND and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
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Housing and infrastructure investment, which combined account for half of fixed asset
investment (FAI) and are key for the short-term growth outlook, are likely to slow (Figure 7).
Inventory levels in the housing sector are still high, especially in third- and fourth-tier cities, while
property sales growth has fallen significantly this year. This, together with tighter financing
conditions, has put pressure on housing investment. Indeed, the rate of expansion of floor
space started to moderate, to 6.5% y-o-y ytd in October from 7.3% in September, while the
growth of land purchased continues to contract, to -3.6% in October from -3.3% in September.
Infrastructure investment by local government financing vehicles (LGFVs) also faces downward
pressures as the central government reins-in local government debt. The National Audit Office’s
audit of local government debt levels is likely to be released soon and we expect the central
government to tighten controls on LGFV debt issuance in 2014. This will directly negatively
impact infrastructure investment as these projects are generally heavily dependent on new
fundraising. Rising interest rates in the bond market are also likely to discourage investment.
Overall, we expect FAI growth to slow to 17% y-o-y ytd in Q1 and to 15% in Q2 2014.
Potential growth near 7% in 2014
We believe China’s potential output growth has slowed to around 7%. China’s excess labour,
for so long a boon to the economy, has now been depleted, the labour demand-supply ratio
reaching 1.07 in Q2 2013 (meaning there are 100 applicants for 107 job vacancies), despite
GDP growth having slowed to 7.5% (Figure 8). This indicates that the downturn in the economy
is primarily structural rather than cyclical. As the size of the labour force is set to decline further
in 2014, potential growth is likely to fall as well, assuming other factors remain broadly
unchanged (see China: Why the economic recovery is unsustainable, 13 October 2013). This is
reflected in our lower GDP growth forecast in 2015 of 6.8%. There are other indications of
slowing potential growth. One is signs of a shift in the Phillips curve: despite weaker growth,
China has had higher average month-on-month CPI inflation, at 0.23% for January-October
2013, compared to 0.18% over the same period from 2001-12. Another is a general (central and
local) government deficit at 7.4% of GDP (IMF estimate) in 2012; the massive fiscal stimulus
only managed to boost GDP growth to 7.7% but heightened financial risks significantly, which
suggests that growth was likely running above its potential.
Inflation concerns to heat up
CPI inflation averaged 2.5% y-o-y over the first eight months of 2013, but rose sharply to 3.1%
in September and 3.2% in October. Core CPI inflation also rose for a second month in October
to 1.8% y-o-y. We expect inflation to climb to above 3% y-o-y in Q4 and see a rising risk of it
sitting above 3.5% for some months in 2014, as pork prices enter the upswing phase of their
cycle. Concerns over inflation will make monetary policy easing unlikely, in our opinion,
especially as the benchmark deposit rate is only 3%, leaving little room to cut rates any further.
Growth may recover slightly in H2 due to policy fine-tuning
When GDP growth slows to below 7%, which we expect to see in Q2 2014, we believe renewed
concerns that the economy could be headed for a hard landing will provoke some capital flight
and be enough to spur some policy fine-tuning. We expect two 50bp reserve requirement ratio
cuts, the first in Q2 and then another in Q3, to offset the tighter liquidity conditions caused by
net capital outflows. Credit growth may pick up again by mid-2014 to boost infrastructure
investment.
Risks to our forecast
We see three key upside risks to our forecast. The first and most important would be if, next
month, the government decides to keep its growth target for 2014 at 7.5% and loosen monetary
policy. This would boost investment – particularly in housing and infrastructure investment – in
the short term, but would worsen economic imbalances and raise the risk of a systemic financial
crisis and hard-landing beyond 2014. Second, significant progress in land reform and relaxing
market entry barriers could boost investment slightly and therefore also pose a moderate upside
risk to our forecast. Lastly, should external demand surprise significantly on the upside and
export growth rebound to double-digit growth, this would also pose a moderate upside risk.
The key downside risk to our forecast is related to the property sector. The oversupply problem
in third- and fourth-tier cities is getting worse. In our base case, we expect property investment
to slow only gradually, but there is a risk it may falter further than we expect.
Nomura | Asia Special Report 26 November 2013
10
Fig. 7: Fixed asset investment by breakdown
-5
0
5
10
15
20
25
30
35
40
45
50
55
Oct-07 Oct-08 Oct-09 Oct-10 Oct-11 Oct-12 Oct-13
Manufacturing
Property
Infrastructure
% y-o-y, ytd
Source: CEIC and Nomura Global Economics.
Fig. 8: Urban labour demand to supply ratio and GDP growth
6
8
10
12
14
16
0.7
0.8
0.9
1.0
1.1
1.2
Sep-01 Sep-04 Sep-07 Sep-10 Sep-13
% y-o-yRatioRatio of labour demand to supply
GDP growth, rhs
Source: CEIC and Nomura Global Economics.
Fig. 9: China outlook summary table
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP 7.7 7.5 7.8 7.5 7.1 6.7 6.8 7.0 7.6 6.9 6.8
Consumer prices 2.4 2.4 2.8 3.2 2.8 2.9 3.0 3.2 2.7 3.0 3.2
Core CPI 1.7 1.8 1.6 2.1 1.9 2.0 2.3 2.3 1.8 2.1 2.3
Retail sales (nominal) 12.4 13.0 13.3 13.6 12.4 11.8 12.6 13.1 13.1 12.5 12.9
Fixed-asset investment (nominal, ytd) 20.9 20.1 20.2 20.1 17.0 15.0 17.0 19.0 20.1 19.0 18.5
Industrial production (real) 9.5 9.1 10.1 9.2 8.0 7.4 7.7 8.2 9.5 7.8 7.8
Exports (value) 18.4 3.8 3.9 5.0 -12.0 5.5 7.0 7.5 7.2 2.4 3.5
Imports (value) 8.3 5.0 8.4 7.0 -5.0 8.0 9.0 9.0 7.2 5.4 6.7
Trade surplus (US$bn) 43.5 65.7 61.5 77.2 5.7 57.4 69.2 75.5 248.0 194.4 135.8
Current account (% of GDP) 1.8 0.9 0.4
Fiscal balance (% of GDP) -1.5 -1.8 -1.8
New increased RMB loans (CNY trn) 9.0 9.0 9.0
Total social financing (CNY trn) 17.5 19.5 21.4
1-yr bank lending rate (%) 6.00 6.00 6.00 6.00 6.00 6.00 6.00 6.00 6.00 6.00 6.00
1-yr bank deposit rate (%) 3.00 3.00 3.00 3.00 3.00 3.00 3.00 3.00 3.00 3.00 3.00
Reserve requirement ratio (%) 20.0 20.0 20.0 20.0 20.0 19.5 19.0 19.0 20.0 19.0 19.0
Exchange rate (CNY/USD) 6.21 6.14 6.12 6.05 6.06 6.10 6.09 6.03 6.05 6.03 6.05
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. The CNY/USD forecast is for the spot rate. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
11
Young Sun Kwon +852 2536 7430 [email protected]
Candy Cheung +852 2536 7436 [email protected]
Taiwan: Hampered by a lack of reform
The export-oriented economy should benefit from improved external demand, but we
expect growth potential to be eroded due to the lack of a breakthrough in politics.
Activity: We expect GDP growth of 3.0% in 2014 and 3.5% in 2015, mostly driven by exports,
with domestic demand improving only slightly. Household income growth continues to stagnate
due to a “hollowing out” of industry to China, a lack of inward FDI and a rapidly ageing
population. Government policies to expand cooperation with mainland China have made little
progress so far due to political protectionism, while efforts to support RMB-denominated trading
and financial transactions lag far behind those in Hong Kong. Exporter competitiveness has
been diminished by a lack of free trade agreements and insufficient R&D and M&A efforts when
compared with Korea and Japan. We expect another large current account surplus in 2014
(8.6% of GDP) due to: 1) relatively weak domestic demand, compared to exports; and 2) the
income surplus from repatriated profits and dividends from the large net amount of overseas
assets.
Inflation: We expect CPI inflation to rise to 2.0% in 2014 from 1.0% in 2013,as the government
gradually reduces subsidies on utilities. However, we do see some underlying disinflationary
factors, including subdued wage growth, keeping CPI inflation low until domestic investment
increases substantially.
Policy: We expect the Central Bank of China (CBC) to keep the discount rate on hold at
1.875% through 2014 in an effort to prevent TWD from appreciating strongly. Subdued inflation
should also give the CBC room to maintain relatively loose monetary conditions. Elevated
property prices are a concern, though we believe policymakers will use administrative measures,
rather than raising interest rates, to control them.
Risks: Another deep recession in advanced economies or weaker demand for consumer
electronics would have a large impact on Taiwan’s tech-heavy open economy. A hard economic
landing in China is another major risk, as Taiwan is one of Asia’s most exposed economies to
China. We fear that Taiwan’s political leadership may not be strong enough to deliver the
necessary structural reforms, including a boost to investment in manufacturing, improving
services industries and lowering barriers to foreign investment.
Fig. 10: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) -2.7 2.9 -0.6 7.3 2.3 3.1 2.1 2.2
Real GDP 1.6 2.5 1.6 1.6 2.9 3.0 3.7 2.4 1.8 3.0 3.5
Private consumption 0.3 1.7 1.6 0.4 1.3 1.8 2.7 1.5 1.0 1.8 2.2
Government consumption 1.3 -0.2 -0.8 1.1 2.2 3.6 3.8 3.0 0.4 3.2 3.1
Gross fixed capital formation 6.3 3.8 4.3 2.2 2.7 2.9 3.8 3.6 4.1 3.3 3.1
Exports (goods & services) 5.0 5.2 1.7 2.5 4.9 3.2 3.5 3.4 3.5 3.7 4.0
Imports (goods & services) 6.7 3.2 1.1 2.6 2.8 3.1 3.4 3.4 3.3 3.2 2.9
Contributions to GDP growth (% points)
Domestic final sales 0.7 1.4 0.9 0.7 0.9 2.3 2.9 1.7 1.2 1.8 2.0
Inventories 0.9 -1.0 0.0 0.4 0.0 0.0 0.0 0.0 -0.2 0.1 0.0
Net trade (goods & services) 0.0 2.1 0.7 0.5 2.1 0.7 0.7 0.8 0.8 1.0 1.5
Exports 2.4 2.4 -0.8 5.0 7.9 6.2 6.5 6.4 2.3 6.7 3.4
Imports 4.4 -3.5 -3.3 4.1 4.3 4.6 4.9 4.9 0.3 4.7 4.4
Merchandise trade balance (US$bn) 4.6 9.9 10.2 11.9 7.4 11.6 11.9 13.7 36.6 44.7 43.6
Current account balance (% of GDP) 9.4 11.8 8.9 10.4 5.7 9.5 9.0 10.2 10.1 8.7 8.0
Fiscal balance (% of GDP) -1.9 -2.0 -2.0
Consumer prices 1.8 0.8 0.0 1.5 1.7 2.1 2.3 1.9 1.0 2.0 2.5
Unemployment rate (%) 4.2 4.2 4.2 4.2 4.2 4.2 4.2 4.2 4.2 4.2 4.2
Discount rate (%) 1.88 1.88 1.88 1.88 1.88 1.88 1.88 1.88 1.88 1.88 2.13
10-year T-bond (%) 1.30 1.42 1.69 1.25 1.27 1.30 1.32 1.35 1.25 1.35 1.45
Exchange rate (NTD/USD) 29.8 30.0 29.6 29.4 29.6 29.8 29.9 29.7 29.4 29.7 30.2
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
12
Young Sun Kwon +852 2536 7430 [email protected]
Candy Cheung +852 2536 7436 [email protected]
Hong Kong: Overheating
We expect property market-driven domestic overheating to continue into 2014, but
GDP growth to slow in 2015 as market interest rates could rise further.
Activity: We expect GDP growth to rise to 3.8% in 2014 from 3.0% in 2013 and the current
account to swing to a deficit of 0.5% of GDP from a 1.0% surplus. We expect domestic demand
to remain resilient, supported by tight job conditions and high property prices. Ongoing large-
scale infrastructure and public housing works should contribute to investment. Hong Kong’s
increasing role as a professional services entrepôt to mainland China and the large number of
Chinese visitors will likely support services exports. However, macro risks will continue to build.
Our base case is for more macroprudential measures and a gradual rise in market interest rates
to gradually cool the property market, dragging GDP growth down to 3.0% in 2015. But the risk
is a property market crash.
Inflation: We expect CPI inflation to remain above 4% in 2014, driven by higher food and
services prices. Fiscal measures such as a temporary waiver of public housing rent and
electricity subsidies should continue in 2014, which should partly offset inflation pressure.
Policy: An overheated property market is the government’s biggest concern. The Hong Kong
Monetary Authority has, since 2009, introduced six rounds of macroprudential measures to
attempt to stabilize house price gains. In 2013, luxury house prices fell slightly, but prices in the
mass housing market are still rising. We do not expect any relaxation of these measures until
the market stabilizes with a steady supply of new housing. Another concern is the worsening
level of income inequality; this year, 20% of the population is living below the government’s
official poverty line (monthly income below HKD3,600 (USD465) per person). As a result, we
expect the FY14-15 budget to increase social welfare spending and provide low-income families
with more subsidies.
Risks: As a small, open economy and financial hub, Hong Kong is one of the most vulnerable
in Asia to external shocks. An economic hard landing in mainland China would be especially
detrimental through both trade and financial channels. Faster-than-expected US Fed tapering
could increase market interest rates rapidly, which could hurt property market sentiment. In
contrast, lower for longer fed funds rate could help sustain Hong Kong’s real-estate market
overheating, ultimately increasing the economic cost when the bubble inevitably bursts.
Fig. 11: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) 0.9 2.8 2.1 6.5 3.8 1.3 3.8 7.3
Real GDP 2.9 3.2 2.9 3.1 3.8 3.4 3.9 4.0 3.0 3.8 3.0
Private consumption 6.3 4.2 2.8 4.5 4.8 5.2 4.9 5.3 3.1 5.1 2.8
Government consumption 2.1 3.2 2.7 4.2 4.5 4.7 4.5 4.8 3.0 4.6 2.6
Gross fixed capital formation -3.3 6.9 2.2 5.8 5.7 6.5 6.5 6.0 3.1 6.2 4.4
Exports (goods & services) 8.0 6.7 5.9 5.4 7.1 7.4 7.2 7.6 6.4 7.3 6.1
Imports (goods & services) 8.6 6.8 6.4 5.2 7.2 8.9 8.2 7.9 6.7 8.1 5.9
Contributions to GDP (% points)
Domestic final sales 3.5 4.9 2.5 1.6 4.9 5.7 5.1 5.2 3.1 5.3 3.2
Inventories 0.6 -1.2 1.2 0.8 -0.9 1.4 0.9 -0.7 0.4 0.1 -0.6
Net trade (goods & services) -1.2 -0.5 -0.9 0.7 -0.2 -3.7 -2.1 -0.4 -0.4 -1.6 0.5
Unemployment rate (sa, %) 3.5 3.4 3.3 3.4 3.2 3.2 3.2 3.2 3.4 3.2 3.4
Consumer prices 3.7 4.0 5.3 3.9 4.6 4.3 4.1 4.2 4.2 4.3 4.5
Exports 4.0 2.5 3.3 5.1 12.0 12.3 11.9 12.8 3.7 12.3 11.1
Imports 4.9 3.5 2.6 6.4 11.6 13.4 12.7 12.5 4.4 12.6 10.6
Trade balance (US$bn) -14.3 -17.6 -15.3 -20.1 -15.5 -21.2 -18.2 -22.2 -67.3 -77.2 -82.4
Current account balance (% of GDP) 1.0 -0.5 0.0
Fiscal balance (% of GDP) -0.2 -0.5 -0.5
3-month Hibor (%) 0.40 0.40 0.40 0.40 0.40 0.40 0.40 0.40 0.40 0.40 0.40
Exchange rate (HKD/USD) 7.77 7.76 7.76 7.75 7.77 7.80 7.77 7.75 7.75 7.75 7.85
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
13
Young Sun Kwon +852 2252 1370 [email protected]
South Korea: Catching up with global growth
We expect a cyclical upturn in GDP growth, helping to keep structural risks
manageable. We expect the BOK to reduce its accommodative stance in Q4 2014.
Exports should hold up while pent-up demand should materialise
We expect GDP growth to rise to 4.0% in 2014 from 2.9% in 2013. We expect Korea's high
valued-added exports to benefit from improved demand from the US, euro area and Japan,
more than offsetting slowing demand from China and other emerging markets. Although longer
term we remain cautious on domestic demand due to an ageing population and the debt
overhang, we believe there is currently pent-up demand and conditions are ripe for a cyclical
upswing, supported by government measures to increase social welfare spending and boost the
property markets. Households’ net savings (up 38% in 2012-13) and the large gap between
high confidence and low spending suggest consumption will rise. The FY14 budget is
stimulative, with a fiscal deficit target of 1.8% of GDP. We see the housing inventory adjustment
coming to an end and domestic credit growth – having slowed over the last five years –
beginning to rise in 2014. Lagged spillover income flows from exporters should also help
support domestic demand (see 2014 Korea outlook: Catching up with global growth, 23
November 2013).
BOK to reduce its accommodative stance in Q4 2014
CPI inflation fell to a 14-year low of 0.7% y-o-y in October, largely due to cost-side
disinflationary factors (e.g., lower prices for food, gasoline and schooling), which we judge as
temporary. We expect CPI inflation to rise to 2.6% in 2014, within the Bank of Korea's (BOK)
2.5-3.5% target band (Figure 12). Inflation expectations remain significantly higher than actual
inflation and nominal wages continue to grow. In addition to the 5.4% electricity price hikes on
21 November 2013, the government is set to hike other utility prices in an effort to manage
public debt. Further, we expect Statistics Korea to remove free schooling and free school
lunches from the CPI basket in December 2013. All in all, we believe that deflation risks are
quite low (see South Korea’s deflation fears are overdone, 17 June 2013).
We expect the BOK to start to reduce its accommodative policy stance by hiking policy rates by
25bp to 2.75% in Q4 2014, which is when we expect the negative output gap to close and CPI
inflation to rise to 3%.
Fig. 12: Korea’s CPI inflation forecast
0
1
2
3
4
5
6
7
Jan-00 Jan-02 Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14
Headline CPI
Core CPI
Expected CPI
% y-o-y
F
Source: CEIC and Nomura Global Economics estimates.
Fig. 13: Korea’s GDP growth and BOK policy rate changes
-250
-200
-150
-100
-50
0
50
100
150
200
-5
-4
-3
-2
-1
0
1
2
3
4
Mar-00 Mar-03 Mar-06 Mar-09 Mar-12
BOK policy rate changes, rhs
GDP (seasonally adjusted), lhs
% q-o-q bp
F
Source: CEIC and Nomura Global Economics estimates.
Nomura | Asia Special Report 26 November 2013
14
Indeed, BOK policy changes tend to come in response to shifts in growth momentum: when
GDP growth (sa, q-o-q) improves or holds up, the BOK tends to hike policy rates or stay on
hold; when GDP growth slows or falls, it usually cuts rates (Figure 13). This policy behaviour is
well understood as the BOK focuses more on future inflation pressures (i.e., the output gap)
than on current inflation levels (Figure 13).
We believe the BOK will also take the global monetary policy stance into account. This makes
sense given that Korea, as a small open economy, is vulnerable to sudden changes in global
economic conditions and financial markets. BOK policy rates have moved in a range of
10~80bp below global rates since the 2008 global financial crisis. Given that policy rates in
developed markets should remain near rock-bottom for a long time, any move in emerging
market policy rates should pull the level of global rates with them. Our Global Economics team
expects EM policy rates to rise to counter inflation risks. Although not our base case, should
global growth and inflation slow sharply, this would provide the BOK with room to cut rates.
Risks of rate hikes being delayed
Another risk to our call is the end of BOK Governor Kim Choongsoo tenure, and that of hawkish
Monetary Policy Committee (MPC) member Lim Seungtae, on 31 March and 14 April 2014,
respectively. The trend of recent leadership changes at the Fed, Bank of England and Bank of
Japan suggest that the new BOK governor and MPC member could be more dovish than their
predecessors. Given that the senior deputy governor usually follows the governor’s view and
three dovish MPC members (Messers Ha Sung Keun, Chung Soon Won and Chung Hae-Bang)
remain until 2016, we see a non-negligible risk that the collective judgment of the MPC after
April 2014 could become more dovish.
If deflation risks are overestimated, or if there is too much focus on a single part of the economy
(for example, housing markets instead of overall GDP), we believe the government and
politicians could again (as it did in early 2013) implicitly press the potentially dovish MPC into
delivering further monetary easing, or at least keeping policy rates on hold for a prolonged
period beyond 2014, even if GDP growth improves.
In sum, we see a risk of rate hikes being delayed beyond 2014 after the new BOK governor is
appointed in April 2014, if he or she turns out to be very dovish and is seriously concerned with
deflation risks.
Fig. 14: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) 3.3 4.5 4.2 4.0 4.0 3.6 4.0 3.6
Real GDP (sa, % q-o-q) 0.8 1.1 1.1 1.0 1.0 0.9 1.0 0.9
Real GDP 1.5 2.3 3.3 4.1 4.2 4.0 4.0 3.9 2.9 4.0 4.0
Private consumption 1.5 1.8 2.2 2.2 3.3 3.4 2.8 2.8 1.9 3.1 3.2
Government consumption 1.3 3.8 3.1 4.0 3.8 2.4 3.3 4.1 3.3 3.4 3.4
Business investment -11.9 -4.6 1.8 4.6 3.1 4.3 5.1 5.1 -3.0 4.4 4.6
Construction investment 2.4 7.2 8.0 11.7 8.3 5.8 4.1 4.1 7.1 5.5 4.1
Exports (goods & services) 3.4 5.7 2.9 6.6 4.5 4.7 7.2 6.7 4.8 5.8 6.7
Imports (goods & services) 1.8 4.7 2.9 5.8 4.3 5.1 6.7 6.7 3.6 5.7 6.8
Contributions to GDP growth (% points)
Domestic final sales 0.1 2.0 3.1 3.9 3.9 3.6 2.8 2.6 2.2 3.3 3.3
Inventories 0.3 -0.7 0.0 -0.8 -0.1 0.1 0.2 0.6 -0.3 0.1 0.0
Net trade (goods & services) 1.0 1.0 0.3 1.0 0.5 0.3 0.9 0.7 0.9 0.6 0.6
Unemployment rate (sa, %) 3.2 3.2 3.2 3.1 3.2 3.2 3.1 3.0 3.2 3.2 3.2
Consumer prices 1.4 1.1 1.2 1.0 1.6 2.6 2.9 3.1 1.2 2.6 3.0
Current account balance (% of GDP) 5.5 4.1 2.8
Fiscal balance (% of GDP) 0.0 1.0 0.5
Fiscal balance ex-social security (% of GDP) -1.8 -1.0 -0.5
BOK official base rate (%) 2.75 2.50 2.50 2.50 2.50 2.50 2.50 2.75 2.50 2.75 3.25
3-year T-bond yield (%) 2.55 2.88 2.82 2.90 3.00 3.00 3.00 3.10 2.90 3.10 3.40
5-year T-bond yield (%) 2.58 3.14 3.05 3.15 3.20 3.30 3.35 3.40 3.15 3.40 3.55
10-year T-bond yield (%) 2.91 3.31 3.53 3.60 3.70 3.75 3.80 3.90 3.60 3.90 4.00
Exchange rate (KRW/USD) 1,111 1,142 1,076 1,050 1,060 1,070 1,070 1,060 1,050 1,060 1,080
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data as of 25 November 2013. Source: Bank of Korea, CEIC and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
15
Sonal Varma +91 22 4037 4087 [email protected]
Aman Mohunta +91 22 6617 5595 [email protected]
India: Higher interest rates for longer
With growth bottoming out and inflation likely to remain stubbornly high, we expect
another 50bp in cumulative repo rate hikes in 2014.
We believe India’s economic growth is near its trough. Domestic demand remains very weak
due to a lackluster capex cycle amid political uncertainty, falling income growth and higher
interest rates. However, exports and rural demand are boosting growth. In this tug-of-war, we
believe that growth has bottomed out, but the recovery will be very gradual, with GDP growth
rising only marginally to 4.8% y-o-y in 2014 from 4.7% in 2013. We expect a stronger pickup in
2015, with GDP growth rising to 5.7%.
With growth bottoming out, we expect the policy focus to shift to containing inflation. We expect
inflation to remain stubbornly high due to elevated inflation expectations, food-related supply
shocks and the recent upswing in rural wage growth. This will require rates to remain higher for
longer. We expect CPI inflation to average 9.3% in 2014, remaining above 9% for a sixth
consecutive year. We expect the Reserve Bank of India (RBI) to hike the repo rate by a
cumulative 50bp to 8.25% by mid-2014.
We believe India’s political climate in mid-2014 can make or break the longer-term economic
outlook. In our base case, the April/May general elections usher in a stable government, which
should pave the way for a more sustainable growth recovery from H2 2014 and into 2015.
Overall, we see 2014 as a year of two halves: a cautious outlook in H1 – due to weak growth,
inflation concerns, political uncertainty ahead of elections and risk of capital outflows – but a
more optimistic outlook in H2 (policy stability following the elections and a growth revival).
A cautious H1 outlook
Good monsoons and better exports are likely to push GDP growth higher in Q4 2013. However,
we believe that this increase is not sustainable. First, the boost from good monsoons will fade
after Q1 2014. Second, the government’s fiscal finances remain under pressure, and sticking to
the budget deficit target necessitates spending cuts and/or delayed payments to government
contractors. Therefore, we expect fiscal policies to become contractionary in H1 2014. Third, the
cost of borrowing has risen significantly in H2 2013, which should weigh on demand in interest-
rate sensitive sectors with a lag. Fourth, a pickup in the investment cycle is key to a sustainable
growth recovery, and uncertainty ahead of the elections means that firms will delay capex
decisions until the political verdict is clear. Leading indicators continue to fall and the investment
pipeline remains lackluster (Figure 15). Thus, after an optimistic end to 2013, we expect the
growth momentum to weaken again in H1 2014.
Additionally, we expect inflation to remain elevated. Food inflation should moderate due to a
mean-reversion in vegetable prices, but the structural uptrend in food inflation since 2008-09
remains intact due to supply-side constraints. Rural wages in India are indexed to CPI inflation
and the recent spurt in inflation will raise rural wages in coming months. Higher rural wages
amid elevated inflation expectations will also likely have second-round effects on core CPI
inflation (Figure 16). WPI inflation (largely tradables inflation) should also rise as a higher share
of input costs are passed on to consumers to protect manufacturer margins, which have been
under pressure (from past currency depreciation). Therefore, we expect the RBI to hike the repo
rate by 25bp in each of Q1 and Q2 2014, to 8.25%.
Although external sector risks have fallen considerably, they could re-emerge early next year.
India has managed to significantly lower its current account deficit due to external factors (better
exports) and one-off policy restrictions (on gold imports). However, with the economy still
running a deficit, capital outflows stoked by Fed tapering could put pressure the balance of
payments once again. During this time, policymakers could announce India’s inclusion in global
government bond indices.
Nomura | Asia Special Report 26 November 2013
16
Fig. 15: Business cycle is near the trough
96
97
98
99
100
101
102
103
104
0
5,000
10,000
15,000
20,000
25,000
Dec-99 Sep-02 Jun-05 Mar-08 Dec-10 Sep-13
New investment projects announced, lhs
OECD's lead index for India, rhs
INR bn (4qma) Index
Source: OECD, CMIE and Nomura Global Economics
Fig. 16: Rural wages and core CPI inflation to remain elevated
0.0
5.0
10.0
15.0
20.0
25.0
30.0
0
2
4
6
8
10
12
14
16
Dec-05 Jun-07 Dec-08 Jun-10 Dec-11 Jun-13 Dec-14
CPI (18-month lead), lhs
Core CPI, lhs
Nominal rural wages, rhs
% y-o-y % y-o-y
Source: CEIC and Nomura Global Economics
A gradual improvement in H2 following the elections
Political stability and policy credibility are paramount to corporates making long-term investment
decisions. India’s lower house elections are due to be held by May 2014. Nomura’s political
analyst, Alastair Newton, expects a BJP-led coalition to form a government at the centre. A
stable government, regardless of whether it is led by the BJP or the INC, should support a
gradual business cycle recovery. Once political stability has been established, we believe that
past investment projects cleared by the Cabinet Committee of Investment (CCI) could be
implemented. This revival will be led by a debottlenecking of existing investment projects.
Contemporaneous with improved global demand, this should underpin a gradual economic
recovery after Q3 2014. We expect GDP growth to accelerate to 5.7% in 2015 from 4.8% in
2014. Our forecast growth recovery is more gradual than India’s past cycles due to the
leveraged balance sheets of corporates, higher non-performing assets on bank balance sheets
and higher interest rates.
Risks to our view
Politics is the key downside risk domestically. A third front government (a coalition consisting of
neither BJP nor the INC) or a fractured mandate in the upcoming elections would further slow
the reform momentum and lower India’s potential growth. Stronger global growth outlook is the
key upside risk.
Fig. 17: India outlook at a glance
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP 4.8 4.4 4.7 5.0 4.8 4.5 4.8 5.2 4.7 4.8 5.7
Private consumption 3.8 1.6 3.0 3.2 2.0 2.5 3.6 4.0 2.9 3.1 4.6
Government consumption 0.6 10.5 5.4 3.5 2.0 2.0 4.0 6.5 4.8 3.7 5.6
Fixed investment 3.4 -1.2 1.8 2.0 2.2 2.0 3.5 5.5 1.6 3.3 6.1
Exports (goods & services) -0.6 -1.2 7.2 8.1 8.0 6.0 7.0 6.5 3.2 6.9 5.5
Imports (goods & services) 3.3 0.7 -2.0 2.2 2.5 3.5 4.5 5.5 1.1 4.0 6.5
Wholesale price index 6.7 4.8 6.5 7.0 6.7 7.2 5.6 5.9 6.2 6.4 6.5
Consumer price index 10.7 9.6 9.6 9.9 9.5 9.5 9.2 9.0 9.9 9.3 8.7
Current account balance (% GDP) -2.9 -3.0 -3.7
Fiscal balance (% GDP) -4.8 -4.5 -4.2
Repo rate (%) 7.50 7.25 7.50 7.75 8.00 8.25 8.25 8.25 7.75 8.25 8.25
Reverse repo rate (%) 6.50 6.25 6.50 6.75 7.00 7.25 7.25 7.25 6.75 7.25 7.25
Cash reserve ratio (%) 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.00 4.00
10-year bond yield (%) 8.01 7.46 8.76 8.40 8.40 8.50 8.50 8.50 8.40 8.50 8.50
Exchange rate (INR/USD) 54.4 59.7 62.8 62.2 62.8 61.5 62.2 62.2 62.2 62.2 65.5
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics
Nomura | Asia Special Report 26 November 2013
17
Euben Paracuelles +65 6433 6956 [email protected]
Enrico Tanuwidjaja +65 6433 6930 [email protected]
Lavanya Venkateswaran +65 6433 6985 [email protected]
Southeast Asia: Continue to compare and contrast
In our year-ahead outlook 12 months ago, we wrote that ASEAN has “growth prospects and
policy considerations that may diverge even more in 2013.” In 2014, we continue to see this
theme of differentiation play out. We see three main differentiating factors: 1) the quality of
growth; 2) the scope for timely policy tightening; and 3) the prospects of structural reforms – all
of which will provide the main buffers against significant external risks next year, particularly the
removal of loose monetary policy by global central banks (as described in the Asia overview).
The Philippines stands out on all counts, and we maintain our bullish view. Growth is becoming
increasingly investment-led, we expect policy rate hikes to be the most aggressive, starting on
the first signs of a pick-up in inflation, while structural reforms such as fiscal reforms and an
opening up of more sectors are likely. We believe the impact on growth from the recent typhoon
will be relatively short-lived. Next year, the recovery will likely provide more impetus on both
public and private sector spending as reconstruction begins in earnest. In contrast, we are most
bearish on Thailand, where we see aneamic domestic demand weakening further (Figure 18).
The lack of fiscal stimulus and infrastructure spending is well known, but we have larger
concerns regarding private demand. This is symptomatic of an economy that is haunted by
persistent political uncertainty, which will likely escalate in 2014 and hence prevent the
government from refocusing on needed supply-side reforms.
We are positive on Indonesia in the short term because of continued policy tightening, which
helped alleviate currency pressures in the face of large external funding gaps in late 2013.
Stability is now the policy priority, and appropriately so, in our view. But beyond the short term,
the outlook is less clear. Reform momentum has already waned and there is a risk that elections
do not produce a government that is reform-minded at a time when current account deficits
remain unsustainably large. In contrast, we believe Malaysia, the other commodity exporter in
the region, will likely see more improvement in its balance of payments due to a combination of
better external demand, the policy strategy to stagger the rollout of import-heavy projects, and
most importantly, fiscal reforms. With the elections behind us, these reforms are likely to be
implemented as planned, in our view, and could result in positive sovereign rating action.
Fiscal policy will likely play a more active role in Singapore, which is already entering its fourth
year of economic restructuring but so far no sign of success in boosting the low rate of
productivity growth. We expect productivity growth to continue to disappoint. As a result, growth
will likely be lower for longer and inflation elevated. In response, the prudent fiscal policy
hitherto may start to turn more accommodative, which would allow room for the Monetary
Authority of Singapore (MAS) to keep relatively tight monetary policy settings.
Fig. 18: Domestic final demand (public and private consumption and investment): Philippines versus Thailand
*Nomura Q3 forecast. Source: CEIC; Nomura Global Economics
Fig. 19: Indonesia: current account deficit
Source: CEIC; Nomura Global Economics
-10
-5
0
5
10
15
20
Sep-01 Sep-03 Sep-05 Sep-07 Sep-09 Sep-11 Sep-13
Philippines*
Thailand
% y-o-y
-12
-10
-8
-6
-4
-2
0
2
4
6
Dec-06 Dec-08 Dec-10 Dec-12 Dec-14
Current account balance, USDbn
Current account balance, % GDP
Nomura forecasts
Nomura | Asia Special Report 26 November 2013
18
Indonesia: An even more challenging year
Due to the tighter policy environment, we forecast 2014 GDP growth to be unchanged from this
year at 5.7%, which is subdued when compared to average growth of 6.3% over 2010-12.
Consistent with this, we expect the current account deficit to improve, but only gradually, from
3.4% of GDP in 2013 to 3.0% in 2014. This is still well above the level that Bank Indonesia (BI)
considers as sustainable, i.e. 2.5% of GDP (Figure 19). As such, we believe BI is likely to raise
its policy rate by another 50bp to 8.0% in Q1 2014. We believe the tighter fiscal stance for 2014
– with the budget deficit projected at 1.7% of GDP against the 2.4% target in the revised Budget
2013 – will help the economy achieve more stability and pave the way for more sustainable
long-term growth. Meanwhile, we doubt inflation will decelerate as fast as BI expects, in light of
electricity tariff hikes starting early next year and rising wage growth. We forecast CPI inflation
to ease to 5.6% in 2014 from 7.0% in 2013, lower mainly on base effects but still above BI’s 3.5-
5.5% target range.
We will be watching three issues closely in 2014:
1. The new mining law. This is due to take effect in January and essentially bans the
export of unprocessed mineral ores, effectively pushing miners with no smelters
(essentially, the smaller players) out of the business. Nationalistic and protectionist
policies of this nature, at a time when Indonesian exports already face headwinds from
falling commodity prices and slowing growth, may warrant government reconsideration.
2. The general election on 9 April. Pre-election and campaign-related spending are
likely to be positive for growth in Q1 2014 but slow reforms, as in past election cycles.
We believe that Joko Widodo, if he is nominated by Partai Demokrasi Indonesia-
Perjuangan (PDI-P) and accepts the candidacy (as we expect), is likely to win the
presidential election in July. His nomination would in turn boost the likelihood of PDI-P
winning the general election in April, thus forming the next government. The party’s
stance on economic policies are likely to remain nationalistic and protectionist, which
would not bode well for foreign investment and long-term growth.
3. Monetary policy. We believe that rate hikes will be front-loaded in Q1 2014; coinciding
with our forecast of Fed tapering, further hikes in electricity tariffs and the release of Q4
2013 current account data. Rate hikes are likely to cap growth further, nullifying the
slight boost to growth from pre-election spending. Additionally, we think that BI could
implement further macroprudential measures next year, to complement rate hikes, in
order to narrow the current account deficit.
Fig. 20: Indonesia: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) 5.3 5.5 5.1 5.2 6.7 5.8 5.7 4.0 Real GDP 6.1 5.8 5.6 5.3 5.6 5.7 5.8 5.5 5.7 5.7 6.1
Private consumption 5.2 5.1 5.5 5.3 5.5 5.7 5.6 5.3 5.3 5.5 5.3
Government consumption 0.4 2.1 8.8 6.0 8.0 6.0 5.0 9.0 4.7 7.1 5.9
Gross fixed capital formation 5.5 4.5 4.5 4.0 6.0 8.0 9.0 6.0 4.6 7.3 7.6
Exports (goods & services) 3.6 4.8 5.3 5.0 4.0 4.0 4.2 4.5 4.7 6.6 6.7
Imports (goods & services) 0.0 0.5 3.8 4.8 5.0 6.0 6.5 7.0 2.3 6.0 6.1
Contributions to GDP:
Domestic final sales 4.3 4.1 4.8 4.6 4.9 5.5 5.7 5.4 4.3 5.4 5.4
Inventories 0.0 -0.4 -0.2 0.2 0.6 0.5 0.5 0.7 0.1 0.6 0.7
Net trade (goods & services) 1.7 2.1 1.1 0.5 0.1 -0.4 -0.3 -0.6 1.3 -0.3 0.0
Consumer prices index 5.3 5.6 8.6 8.5 7.2 5.3 4.6 5.3 7.0 5.6 6.2
Exports -6.5 -4.2 -3.1 0.0 1.2 2.3 4.7 4.1 -3.5 3.1 13.1
Imports -2.1 -1.0 4.2 1.8 8.3 8.0 9.7 12.6 0.7 9.7 8.9
Trade balance (US$bn) -0.8 -3.8 -2.6 -1.7 -2.1 -4.1 -3.7 -4.8 -9.0 -14.7 3.2
Current account balance (% of GDP) -2.7 -4.4 -3.8 -2.9 -3.0 -3.3 -2.8 -2.9 -3.4 -3.0 -2.5
Fiscal Balance (% of GDP) -2.4 -1.7 -2.0
Bank Indonesia rate (%) 5.75 6.00 7.25 7.50 8.00 8.00 8.00 8.00 7.50 8.00 8.00
Exchange rate (IDR/USD) 9735 10004 11406 11600 11900 12200 12300 12400 11600 12400 12900
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
19
Malaysia: Avoiding twin deficits
2014 is a year in which we expect to see a continuation of proactive government policies aimed
at lowering the fiscal deficit and keeping the external accounts in a comfortable surplus. Budget
2014 set the economy on a clear course for medium-term fiscal consolidation (Figure 21), while
sharply deteriorating external balances in H1 2013 led the government to stagger the rollout of
import-intensive public infrastructure projects.
As a consequence, we expect domestic demand to be relatively weak, led by the public sector.
Although private sector investment is likely to remain strong, fiscal consolidation and monetary
policy tightening will slow private consumption, in our view. The support to growth, given
Malaysia’s high degree of openness, will come from the expected pick-up in external demand.
We forecast GDP growth to rise to 4.5% in 2014 from an expected 4.3% in 2013, reflecting the
improvement in global growth (Nomura: 3.4% y-o-y in 2014 from 2.8% in 2013), which should
more than offset weaker domestic demand. On the back of this, we also expect the current
account surplus to increase further to 5.1% of GDP in 2014 from 3.5% in 2013.
Higher inflation is another consequence of fiscal consolidation. In our base case, we have
factored in a 10% increase in fuel prices by Q2 2014. This would push average 2014 headline
CPI inflation to 3.5% y-o-y from a benign 2.1% in 2013. As a result, we expect Bank Negara
Malaysia (BNM) to hike its policy rate by a cumulative total of 50bp in H2 to 3.50%.
Fig. 21: Malaysia: Fiscal consolidation underway
Source: CEIC; Nomura Global Economics.
Fig. 22: Philippines: FDI inflows and approvals
Source: CEIC; Nomura Global Economics.
Fig. 23: Malaysia: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) -1.1 5.8 6.8 3.8 2.6 4.4 7.2 4.0
Real GDP 4.1 4.4 5.0 3.8 4.7 4.4 4.5 4.6 4.3 4.5 4.0
Private consumption 7.5 7.2 8.2 7.4 5.9 5.7 5.2 5.4 7.6 5.5 4.4
Government consumption 0.6 11.8 7.8 2.5 0.8 1.8 1.3 1.6 5.4 1.5 1.7
Gross fixed capital formation 13.1 6.0 8.6 3.8 4.0 4.6 4.3 5.7 7.7 4.7 6.6
Exports (goods & services) -0.6 -5.2 1.7 0.4 2.7 1.1 2.6 3.6 -0.9 2.5 2.3
Imports (goods & services) 3.6 -2.0 1.8 0.4 1.7 1.3 2.4 4.0 0.9 2.4 3.0
Contributions to GDP (% points)
Domestic final sales 7.2 6.7 7.5 5.1 4.3 4.5 4.2 4.6 6.6 4.4 4.4
Inventories 0.7 1.0 -2.6 -1.4 -0.6 0.0 0.0 0.0 -0.6 -0.1 0.0
Net trade (goods & services) -3.7 -3.3 0.1 0.0 1.0 -0.1 0.3 0.0 -1.7 0.3 -0.4
Unemployment rate (%) 3.1 3.0 3.1 3.1 3.1 3.1 3.1 3.1 3.1 3.1 3.2
Consumer prices 1.5 1.8 2.2 2.9 3.1 4.0 3.9 3.3 2.1 3.5 5.2
Exports -3.3 -7.1 -2.8 -3.2 4.6 0.4 6.6 6.0 -4.1 4.4 6.6
Imports 4.1 -1.2 -2.8 -0.8 1.2 -0.4 5.1 7.6 -0.2 3.4 6.2
Trade balance (USD bn) 8.0 6.1 8.0 9.7 10.0 6.5 9.2 9.6 31.8 35.2 38.1
Current account balance (USDbn) 2.8 0.8 3.0 4.1 4.1 1.8 5.7 5.1 10.8 16.8 22.9
Current account balance (% of GDP) 3.7 1.1 4.0 5.1 5.2 2.3 6.8 5.9 3.5 5.1 5.8
Fiscal Balance (% of GDP)
-4.0 -3.5 -3.3
Overnight policy rate (%) 3.00 3.00 3.00 3.00 3.00 3.00 3.25 3.50 3.00 3.50 4.00
Exchange rate (MYR/USD) 3.09 3.18 3.26 3.15 3.20 3.23 3.22 3.21 3.15 3.21 3.28
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
2.5
3.0
3.5
4.0
4.5
5.0
2011 2012 2013 (F)2014 (F)2015 (F)2016 (F)2017 (F)
Impact of subsidy reformImpact of GST, at 6%No reform scenario, deficitReform, deficit
% GDP
-1.0
0.0
1.0
2.0
3.0
4.0
5.0
6.0
Dec-03 Dec-05 Dec-07 Dec-09 Dec-11 Dec-13
BOP: FDI inflows
FDI approvals (4- quarter lead)
USD bn
Nomura | Asia Special Report 26 November 2013
20
Philippines: Still the star performer
We lower our GDP growth forecast for 2013 to 7.1% from 7.3%, taking into account the impact
of the typhoons in Q4. However, we also raise our 2014 GDP growth forecast to 6.7% from
6.2%, reflecting our view that reconstruction will spur economic activity in the months ahead.
Financing will not be a constraint as the government has plenty of fiscal space, plus remittances
from overseas workers are also rising. As a result, we expect the fiscal deficit to widen only
slightly to 2.4% of GDP from 2.2% in 2013.
In our view, the disaster, as tragic as it is, does not alter the economy’s strong fundamentals:
the combination of strong growth, a solid external surplus, stable politics and still-positive reform
prospects sets the Philippines apart from its regional peers. If anything, we believe the typhoon
could be a catalyst for even more infrastructure implementation. Investment spending is likely to
continue to be a bigger contributor to growth. Still, we expect the current account surplus to
remain solid, increasing further to 4.0% of GDP in 2014 from 3.8%, led by worker remittances
as well as revenues from a booming business processing outsourcing sector. In addition, we
expect FDI inflows to begin to pick up more substantially in 2014 (Figure 22), directed into
services-related sectors initially and, further out, manufacturing. This is being supported by a
marked improvement in the business climate, further progress in governance reforms, an
investment grade rating and the prospect of liberalization of foreign ownership restrictions in
certain sectors. The overall balance of payments position should be able to easily withstand the
risk of capital outflows brought on by the start of Fed tapering.
Given the strength of the economy and additional supply-side pressures from the typhoon, we
forecast inflation to rise to 4% in 2014 from 2.9%. This is still within Bangko Sentral ng Pilipinas’
(BSP) 3-5% inflation target. That said, we expect BSP to start hiking its policy rate in Q2, raising
it by 100bp to 4.5% by end-2014. This is relatively aggressive, but we believe BSP will be
proactive in containing inflation risks, mindful of the narrowing output gap, loose liquidity
conditions and the prospect of a normalization in global monetary policy.
Fig. 24: Philippines: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) 12.3 4.7 6.2 1.3 8.6 8.1 11.6 3.4
Real GDP 7.7 7.5 7.3 6.1 5.2 6.0 7.3 7.9 7.1 6.7 6.8
Private consumption 5.5 5.2 5.1 4.8 5.2 5.3 5.4 5.5 5.1 5.4 5.6
Government consumption 13.2 17.0 19.6 23.5 22.5 21.9 22.1 22.0 18.1 22.1 12.0
Gross fixed capital formation 15.6 9.7 13.2 9.3 11.2 20.4 17.1 19.2 11.9 16.9 15.0
Exports (goods & services) -7.6 -6.5 2.2 0.3 4.8 4.2 4.7 5.7 -3.1 4.8 5.5
Imports (goods & services) 2.0 -3.0 0.6 5.9 7.6 9.7 10.3 11.5 1.3 9.8 11.0
Contribution to GDP growth (% points)
Domestic final sales 8.6 7.4 8.2 7.5 8.7 10.3 9.8 10.3 7.9 9.8 8.9
Inventories 4.0 2.1 -1.7 1.0 -2.2 -1.8 0.1 0.4 1.4 -0.2 0.6
Net trade (goods & services) -4.9 -2.0 0.8 -2.4 -1.3 -2.5 -2.6 -2.9 -2.1 -2.3 -2.7
Exports -6.2 -2.7 -4.8 -4.7 1.8 1.7 3.7 4.7 -4.6 3.0 4.5
Imports -7.4 -0.1 4.6 7.9 9.6 9.7 10.3 11.5 1.3 10.3 10.0
Merchandise trade balance (USDbn) -2.3 -1.8 -3.6 -5.6 -3.4 -3.0 -4.8 -7.0 -13.2 -18.2 -22.9
Current account balance (USDbn) 3.1 2.5 2.2 2.6 3.4 2.7 3.3 3.0 10.5 12.3 9.5
Current account balance (% of GDP) 4.8 3.7 3.4 3.5 4.9 3.5 4.4 3.4 3.8 4.0 2.8
Fiscal balance (% of GDP)
-2.2 -2.4 -2.0
Consumer prices (2006=100) 3.2 2.7 2.5 3.4 3.8 4.3 4.2 3.8 2.9 4.0 4.1
Unemployment rate (sa, %) 7.5 7.3 6.5 6.5 6.6 6.6 6.4 6.4 7.0 6.5 6.3
Reverse repo rate (%) 3.50 3.50 3.50 3.50 3.50 4.00 4.50 4.50 3.50 4.50 5.50
Exchange rate (PHP/USD) 40.2 43.1 43.5 43.0 43.3 43.3 43.3 43.2 43.0 43.2 43.8
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
Singapore: No turning back
As Singapore enters its fourth year of economic restructuring, we expect markets to scrutinize
the progress made so far, only to find that productivity improvements have not kept pace with
the tightening of the labour market (Figure 26). The result will be lower growth for longer and
inflation remaining elevated. Although we have upgraded our 2013 GDP growth forecast to
3.5% from 3.1% on improvements in external demand, we forecast 2014 GDP growth to remain
Nomura | Asia Special Report 26 November 2013
21
stable at 3.5%, despite global growth improving more sharply, to 3.4% from 2.8%. Tighter
restrictions on foreign workers have led to labour shortages, constraining the supply side of the
economy. The resultant rise in unit labour costs should inevitably lead to demand-push
inflationary pressures and will likely persist until there is an accompanying pick-up in productivity
growth. We forecast CPI inflation to spike to around 3.6% in 2014, above the official forecast
range of 2-3%. Consequently, we think that this growth-inflation balance will result in the MAS
keeping its current pace of gradual and modest appreciation of the SGD NEER, barring any
external-related shock.
In terms of fiscal policy, as the government is determined to push the restructuring process, we
expect the budget to turn slight more expansionary (i.e., running a smaller surplus). The
restructuring strategy, in our view, will now entail more costs (perhaps much more than before)
to incentivize firms to spend more on productivity-enhancing investment. In addition, these will
have to be augmented by demographic challenges and higher social spending needs. We are
watchful of tightening liquidity conditions as global central banks begin to remove
accommodative policy and consequently raise interest rates. This will have knock-on effects for
Singapore’s property market, in our view, and hence household balance sheets. On this front,
we believe the authorities may implement more macroprudential policies in 2014.
Fig. 25: Singapore: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) 2.3 17.4 1.3 -5.9 3.0 16.0 3.8 -8.5
Real GDP 0.3 4.4 5.8 3.4 3.6 3.3 3.9 3.2 3.5 3.5 2.9
Private consumption 1.3 2.5 3.3 2.3 3.7 1.0 1.4 2.6 2.3 2.2 1.4
Government consumption 13.8 12.6 6.8 -4.2 -8.3 3.4 11.5 11.8 7.5 3.0 4.7
Gross fixed capital formation -5.8 -2.6 4.7 4.2 6.1 1.7 0.2 -3.0 0.0 1.1 3.5
Exports (goods & services) -4.0 3.1 6.2 3.7 4.1 3.8 3.5 3.8 2.3 3.8 5.0
Imports (goods & services) -2.4 2.9 6.4 3.2 3.6 3.3 3.0 3.3 2.5 3.3 2.0
Contributions to GDP (% points)
Domestic final sales 0.7 1.0 2.9 1.5 1.6 1.0 1.6 1.1 1.5 1.3 1.8
Inventories 4.0 1.9 1.3 0.1 -0.1 0.2 0.3 0.2 1.8 0.2 0.3
Net trade (goods & services) -4.3 1.5 1.6 1.8 2.0 2.1 2.1 1.9 0.1 2.0 0.9
Unemployment rate (sa, %) 1.9 2.1 1.8 1.8 1.8 1.9 1.7 1.7 1.9 2.4 2.0
Consumer prices 4.0 1.6 1.8 1.9 2.9 3.7 4.0 3.8 2.3 3.6 3.5
Exports -6.7 1.1 4.4 4.6 3.5 3.3 3.7 2.0 0.5 3.1 7.8
Imports -6.8 -2.2 4.8 2.1 3.0 2.7 3.2 1.5 -0.6 2.6 1.0
Trade balance (US$bn) 15.0 17.5 16.5 16.2 15.9 18.5 17.6 17.0 65.1 69.0 69.1
Current account balance (% of GDP) 16.0 19.6 19.2 10.6 14.0 18.2 17.8 12.1 16.3 15.6 14.6
Fiscal Balance (% of GDP) 1.0 0.2 -0.2
3-month SIBOR (%) 0.38 0.38 0.42 0.42 0.42 0.42 0.42 0.48 0.42 0.48 0.60
Exchange rate (SGD/USD) 1.24 1.27 1.26 1.24 1.25 1.26 1.27 1.27 1.24 1.27 1.29
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
Fig. 26: Singapore: Poor labour productivity
*Note: Q1-Q3 2013 Source: CEIC; Nomura Global Economics
Fig. 27: Thailand: GFCF and total GDP (deviation from trend)
Source: CEIC; Nomura Global Economics
-4 -2 0
Manufacturing
Transportation & Storage
Construction
Accom. & food Services
Business Services
Info. & comm.
Year-to-date 2013* 2012 % y-o-y
-6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
-15.0
-10.0
-5.0
0.0
5.0
10.0
Sep-01 Sep-03 Sep-05 Sep-07 Sep-09 Sep-11 Sep-13
GFCF: private GDP, RHSpp pp
Nomura | Asia Special Report 26 November 2013
22
Thailand: Poor politics make for poor economics
We downgrade our 2013 GDP growth forecast to 3.1% from 3.5% and expect only 3.8% growth
in 2014 as the deficiency in domestic demand is likely to persist, especially in private sector
spending. We expect little progress to be made on public infrastructure spending in H1 2014,
and even in H2 we expect just 0.2% of GDP to be disbursed (compared to the Bank of Thailand
(BOT) and the Fiscal Policy Office’s projection of 1%). As a result, private investment, which
tends to be pro-cyclical, will remain subdued, in our view (Figure 27). Private consumption is
expected to normalize but remain soft nonetheless, constrained in part by high household debt
(80% of GDP). With global growth picking up in 2014, we expect the economy to see some
benefit from exports, but we believe upside will be capped by aneamic domestic demand and
supply-side constraints, including a shortage of labour. These constraints should also contribute
to the current account remaining in deficit, which we forecast at 1.1% of GDP from 1.7% in
2013.
Consistent with poor domestic demand and subdued global commodity prices, we expect CPI
inflation to remain benign, at 2.3% in 2014 from 2.1% in 2013. On the back of this growth-
inflation mix, we expect the BOT to keep rates on hold at 2.50% throughout 2014. In addition,
we expect the BOT’s rhetoric to remain dovish and we do not rule out the possibility of more
rate cuts. Bank asset quality could start to deteriorate amid the growth downturn, which could
prompt a tightening of credit standards.
The risks to growth are skewed to the downside and mainly stem from political uncertainty. The
government is in office until 2015, but the political calendar is fraught with contentious issues
over the next few months, particularly on the pending constitutional court decision regarding the
THB2trn infrastructure bill and the political repercussions of the court’s ruling of the charter
amendment bill as unconstitutional. These are highly unpredictable and could act as triggers to
more protests, possibly spelling an early end to the administration’s four-year term. A fragile
political environment suggests that risks to our already weak growth outlook are skewed to the
downside.
Fig. 28: Thailand: Details of the forecast
% y-o-y growth unless otherwise stated 1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 2013 2014 2015
Real GDP (sa, % q-o-q, annualized) -6.3 0.0 5.2 7.4 -1.0 3.8 6.5 8.1
Real GDP 5.4 2.9 2.7 1.4 2.9 3.8 4.1 4.3 3.1 3.8 4.6
Private consumption 4.4 2.5 -1.2 -1.7 1.1 2.6 2.2 2.4 0.9 2.1 4.0
Public consumption 2.9 7.6 7.4 6.4 5.4 4.9 4.4 4.4 6.2 4.7 2.7
Gross fixed capital formation 5.8 4.7 -6.5 -3.6 -1.0 0.8 6.7 7.9 -0.1 3.5 6.8
Exports (goods & services) 8.3 2.9 3.8 3.6 3.9 3.1 3.8 4.1 4.6 3.7 3.8
Imports (goods & services) 8.1 4.5 0.7 -1.4 1.4 0.7 2.8 3.3 2.9 2.0 3.4
Contribution to GDP growth (% points)
Domestic final sales 3.7 3.2 -1.3 -1.1 0.8 2.1 3.2 3.2 1.1 2.3 3.8
Inventories 0.3 0.4 1.5 -0.9 0.0 -0.1 -0.3 0.0 0.3 -0.1 0.0
Net trade (goods & services) 1.4 -0.7 2.5 3.4 2.1 1.8 1.2 1.1 1.7 1.6 0.9
Exports 4.5 -1.9 -1.8 1.9 3.9 3.1 3.8 4.1 0.6 3.7 5.0
Imports 6.4 0.2 -2.9 -4.4 0.7 0.7 2.8 3.3 -0.2 1.8 3.8
Trade balance (US$bn) -0.3 -0.5 5.0 3.6 1.5 0.8 5.8 4.2 7.9 12.3 15.6
Current account balance (US$bn) 1.5 -6.7 -0.9 -0.4 -1.9 -4.1 -0.7 2.2 -6.5 -4.5 -3.5
Current account balance (% of GDP) 1.5 -6.7 -1.0 -0.5 -2.0 -4.2 -0.7 2.3 -1.7 -1.1 -0.9
Fiscal balance (% of GDP, fiscal year basis)
-1.8 -2.0 -3.0
Consumer prices 3.1 2.3 1.7 1.3 1.5 2.2 2.5 2.8 2.1 2.3 2.5
Unemployment rate (sa, %) 0.7 0.7 0.8 0.9 0.9 1.0 1.0 1.2 0.8 1.0 1.2
Overnight repo rate (%) 2.75 2.50 2.50 2.50 2.50 2.50 2.50 2.50 2.50 2.50 3.00
Exchange rate (THB/USD) 29.3 31.1 31.2 31.5 32.0 32.3 32.6 32.9 31.5 32.9 34.0
Notes: Numbers in bold are actual values; others forecast. Interest rate and currency forecasts are end of period; other measures are period average. All forecasts are modal forecasts (i.e., the single most likely outcome). Table reflects data available as of 25 November 2013. Source: CEIC and Nomura Global Economics.
Nomura | Asia Special Report 26 November 2013
23
Craig Chan +65 6433 6106 [email protected]
Wee Choon Teo +65 6433 6107 [email protected]
Prateek Gupta +65 6433 6197 [email protected]
Prashant Pande +65 6433 6198 [email protected]
FX strategy: H1 – politics, tapering and China;
H2 – policy rate divergence
Tapering, elections, China risk, and monetary policy tightening
Our main themes for Asia FX through 2014:
1. Fed QE tapering into Q1 2014, which will again lead to relative FX out/under-
performance depending on the strength/weakness of the country’s balance sheet.
2. Elections and policy risks, which could run into H2 2014. If India’s state election
results come out in line with Nomura’s expectations, we recommend a 3-month trade
of being long INR, KRW, PHP against IDR and MYR. This takes into account Fed
tapering risk.
3. China’s economic slowdown into Q2, which may see a rise in hard-landing and
financial systemic risks. Into Q2, these three themes could see PHP and INR
outperform IDR and MYR. The risk from a China hard-landing scenario is also that
USD/CNH trades to the weak side of the daily fixing.
4. Varying degrees of monetary policy tightening from Q2 onwards due to higher
inflation. This theme, combined with China’s slowdown and political risks, could see
PHP outperform THB.
Overall, we believe the Fed QE tapering and election themes are likely to garner the most
focus as we move into 2014. A rise in tapering concerns would likely see weaker-balance-
sheet and bond-dependent countries underperform. Within Asia, we expect PHP, KRW, TWD
and CNY to outperform over MYR, INR and IDR. However, we believe there is some scope for
INR to outperform IDR given some divergent developments. First, is where market perceptions
over the political outlook and structural reforms in India could change if there is a strong
showing by the BJP-led government in November/December state elections (see Asia Insights:
Indian state elections: Likely outcomes and implications, 10 October 2013). Indeed, our Global
Head of Equity Strategy Michael Kurtz believes that our baseline view of the state election could
support local equities (see Equity Outlook: Refocus from Risk Compression to Earnings Growth).
IDR may underperform given the uncertainty over the upcoming general election in April and
presidential election in July (see Indonesia – an even more challenging year). Second, is the
impact from a stronger US economy and QE tapering, where foreign bond positioning in
Indonesia has recently risen again towards record highs compared with a significant fall in India.
Third, is the risk of reduced intervention against IDR depreciation given a low level of FX
reserves. A rise in capital inflows would also likely see Bank Indonesia (BI) aggressively
accumulate reserves. Lastly, there are technical reasons also, including Indonesia possibly
bringing the offshore USD/IDR fixing onshore, which could see the offshore curve rise and
converge with the onshore curve. There has also been a push by Indian authorities to have
government bonds included in the JP Morgan emerging markets global diversified index, which
could result in notable inflows.
Although Malaysia’s fundamentals have improved as political uncertainty has reduced and
significant fiscal and current account policies have been undertaken (see section on Southeast
Asia: Continue to compare and contrast), MYR remains extremely vulnerable to QE tapering
given the high level of foreign bond ownership.
On the other hand, we expect KRW to outperform into Q1 2014 given our expectation for Q1
growth to peak at 4.2% y-o-y on the back of pent-up domestic demand, as well as export growth
holding up well. This pent-up demand for private consumption and investment could narrow
Korea’s current account surplus, but we expect it to remain at a substantial USD55bn (4.1% of
GDP) in 2014, compared to the record USD66bn surplus (5.5% of GDP) in 2013 (see South
Korea: Catching up with global growth). Furthermore, foreign holdings of Korean bonds are
likely to be sticky as the latest data (end-2012) show foreign central bank and sovereign wealth
funds owned around 38.7% of total foreign holdings. That said, we see growing risks to KRW
outperformance into Q2 due to China’s economic slowdown and hard-landing risks (see below).
Similarly, we believe PHP could outperform beyond tapering concerns, as it is relatively less
Nomura | Asia Special Report 26 November 2013
24
vulnerable to potential portfolio outflows, enjoys robust structural inflows, a positive output gap
and a willingness on the part of the authorities to tolerate PHP outperformance to temper
domestic demand and inflation risks.
China’s economic slowdown and hard-landing risks likely to be in focus into Q2. Nomura
Economics forecasts Q2 2014 as the point at which China’s economy will be at its weakest in
the current cycle (at 6.7% GDP growth, see China: No pain, no gain), while there are also risks
of some local government financing vehicle (LGFV) debt defaults. If there is a significant
increase in hard-landing concerns we expect this to lead spot USD/CNY (CNH) back towards
the fixing level. However, if this is combined with negative credit events at the local government
level, the risk is that spot USD/CNY (CNH) trades above the fixing. Combined with the
possibility of a wider USD/CNY trading band (to +/-2% from +/-1%), potential CNY (CNH)
depreciation could be significant (see Asia Insights - Lower USD/CNY fix, FX reform and
stronger data, 08 November 2013). Across the region, we believe hard-landing concerns would
have a greater negative impact on KRW, TWD, SGD, MYR and THB than on PHP, IDR and INR.
This is based on our analysis of China’s importance through trade channels, historical currency
sensitivity to USD/CNY and financial linkages (see Asia Insights: China band-widening
discussion revisited, 11 October 2013).
From Q2 to year-end, we believe the dominant theme will be increased pressure on Asian
central banks to hike rates. However, we expect to see divergence in monetary policy across
the region, with the Philippines likely to be early in the hiking cycle and relatively aggressive
(100bp from Q2) and Bank Negara Malaysia hiking by 50bp from Q3. For PHP, we expect the
tightening cycle to be complimented with FX appreciation, especially as we judge PHP to be
13% undervalued. We expect one 25bp rate hike in Korea, but not until Q4, while Thailand and
Taiwan are likely to keep rates on hold throughout the year. This is partly due to relatively low
inflation, but also (in Thailand, especially) some risk of political pressure to keep monetary
policy loose.
We believe that over the next 6-12 months, QE tapering, the China slowdown, political
uncertainty in Thailand (see Thailand – poor politics make for poor economics) and monetary
policy tightening should see PHP outperform versus THB.
Fed QE tapering and differentiation between balance sheets
As we approach the 28-29 January FOMC meeting – which our US economists believe may
mark the first round of QE tapering – the risk is that we see increased pressure on broad Asia
FX. However, we expect to see differentiation in performance between the currencies of weak
and stronger balance sheet countries – similar to the experience between 22 May and 17
September 2013, at which time INR and IDR were the main underperformers, followed by MYR
and CNY/CNH, TWD and through which KRW outperformed (Figure 29).
This performance was in line with our vulnerability analysis, which showed that the weaker
current account balance countries – and especially those dependent on portfolio flows for
financing – underperformed (Figure 30). Malaysia’s vulnerability is in part from the significant
increase in foreign ownership of Malaysian government bonds, with the ratio of foreign
ownerships of bonds to equity value now at 82% (September 2013) compared with a post-US
financial crisis low of 29% (July 2009).
Nomura | Asia Special Report 26 November 2013
25
Fig. 29: Asia FX performance since tapering risks surfaced
Note: Values rebased to 100 as of 22 May 2013. Source: Bloomberg, Nomura.
Fig. 30: Asian currencies vulnerable to portfolio outflows
Note: C/A is Nomura Economics forecast for 2013. We assume a 2% drop in total foreign equity holdings (in nominal terms); 10% of the fall in FBH/Outstanding during US financial crisis for KR, ID, IN and MY; 10% of the average fall in FBH for KR,ID,IN,MY applied on IIP debt positions for CN,TW,TH,PH. Portfolio outflows are monthly. Source: Bloomberg, CEIC, Nomura estimates.
In our scenario analysis, Indonesia and India stand out as the most vulnerable when comparing
potential financing gaps to FX reserves (plus FX forwards). Indonesia may be more vulnerable
than India given its low FX reserve coverage and the August experience where the consistent
drawdown in reserves eventually saw BI back off and allow IDR to depreciate rapidly (by 9% vs
USD, Figure 31). Unless there is a rapid re-accumulation of FX reserves in the coming months
(there was a USD3.4bn gain in September and October compared to a USD26.2bn loss over
the last two years (August 2011-13) on a valuation adjusted basis), the risk is that BI will not be
active if there is another near-term round of significant IDR depreciation pressure. That said, if
there is rapid IDR depreciation, it is possible that BI will access the USD37bn FX swap line it
agreed with Japan, Korea and China. The risk, however, is that if Indonesia activates its swap
facility by itself, the market could take this as a sign of weakness.
Bilateral swap lines signed in the region could help lower FX vulnerability, but we believe there
are reasons why Asia could be less susceptible to Fed tapering concerns compared with the 22
May to 17 September 2013 experience. These include the FOMC highlighting that it will reduce
the risk of tighter financial conditions with its forward guidance when tapering emerges (possibly
lowering the unemployment rate, or setting minimal inflation targets). There have also been
more local policy responses to target factors of vulnerability, such as Malaysia’s fiscal
consolidation and its staggering of infrastructure projects to support the current account surplus.
India has hiked benchmark rates, imposed import restrictions and taken measures (albeit
temporary) to reduce interbank USD demand (it also has a USD50bn FX swap line with Japan).
Indonesia has hiked rates to temper inflation and made adjustments to fuel subsidies. Lower
foreign portfolio positioning in the region1 should also lower the vulnerability of Asia FX as, after
USD47bn of outflows from June to August 2013, there has only been around USD22bn of
inflows returning from September to November2 (Figure 32). Net foreign portfolio outflows have
come mainly from Indian bonds, with recent inflows primarily in Korean equities and Malaysian
bonds.
1 Korea, India, Malaysia, Thailand, Indonesia, net equity and bond flows.
2 Foreign equity flows for all countries; India and Indonesia foreign debt flows are based on latest available daily data (19
November cut-off date); foreign debt flows for rest of the economies are based on monthly data (Malaysia as of end-September; Korea and Thailand as of end-October).
95
100
105
110
115
120
125
22-May 22-Jun 22-Jul 22-Aug
CNHINRIDR fixKRWMYRPHPSGDTHBTWD
(USD bn) KRW CNY TWD THB PHP IDR INR MYR
Avg. Mthly Current Account (2013f) 5.5 14.0 4.1 -0.5 0.3 -2.5 -4.5 0.9
Portfolio Outflow s - Equities -5.3 -5.8 -3.4 -1.5 -0.7 -1.2 -5.2 -1.6
Portfolio Outflow s - Bonds -3.4 -2.2 -0.3 -0.1 -1.0 -0.5 -0.1 -3.8
Financing Gap -3.2 6.0 0.5 -2.1 -1.4 -4.2 -9.8 -4.5
FX Reserves 343 3663 416 163 84 97 254 132
Financing Gap / FX reserves -0.9% 0.2% 0.1% -1.3% -1.6% -4.4% -3.9% -3.4%
FX Fw d Positions 45 n.a. n.a. 23 2 -5 -8 1
Financing Gap/(FX Res+FX Fw d) -0.8% n.a. n.a. -1.1% -1.6% -4.6% -4.0% -3.4%
Nomura | Asia Special Report 26 November 2013
26
Fig. 31: BI backed off from selling USD in August 2013
Source: Bloomberg, CEIC, Nomura.
Fig. 32: Asia net foreign bond and equity flows -YTD
Source: Bloomberg, CEIC, Nomura.
Election and policy risks
State elections in India (five to be held from 11 November to 4 December) will be the near-term
focus. Nomura’s political analyst, Alastair Newton, expects the NDA/BJP to perform strongly,
which could lift expectations of a majority win in the general election (May 2014) and raise the
outlook for economic reform. A negative outcome in state elections would likely raise the
vulnerability of India given the market is currently biased towards a positive election outcome
(see Asia Insights - India survey: More conviction on lower rates than on FX, 29 October 2013).
Key focus of the state elections will be large majorities from NDA/BJP in Chhattisgarh (11
November and 19 November) and Madhya Pradesh (25 November). A NDA/BJP victory in
Rajasthan (1 December) would be important, along with a plurality in Delhi (4 December; see
Asia Insights: Indian state elections: Likely outcomes and implications, 10 October 2013).
In Indonesia, there are risks towards a more nationalistic and protectionist government from the
April parliamentary and July presidential elections. The current concern is that there are a
limited number of market-friendly candidates even with the possible selection of Jakarta
Governor Joko Widodo who would run under the PDI-P.
Election results aside, there is still the risk of pre-election increased spending and populist
policies as was recently seen ahead of the announcement of China’s new leadership in October
2012 (and formal handover in April 2013). In Malaysia, populist policies ranging from cash
handouts, civil service wage increases and bonuses emerged ahead of the general election in
May 2013 (Figure 33). Lastly, beyond election and policy risks in Indonesia and India, we
remain concerned over political factors in Thailand, including the exertion of political pressure
on the Bank of Thailand (BoT) to keep policy loose, the charter amendment bill and the vetting
of spending bills.
8000
8500
9000
9500
10000
10500
11000
11500
-10.0
-7.5
-5.0
-2.5
0.0
2.5
5.0
7.5
10.0
Jan-11 Aug-11 Mar-12 Oct-12 May-13
Adjusted FX Reserves (m-o-m change, USD bn)
USD/IDR (RHS)
8.7
15.5
22.1
31.4
39.4
11.6
5.8 -7.2
9.416.3 14.5
-20
-10
0
10
20
30
40
50
Jan-13 Mar-13 May-13 Jul-13 Sep-13 Nov-13
Korea $12.0bn Malaysia -$1.5bnIndonesia -$0.7bn India $8.2bnThailand -$1.7bn Total Sum $16.3bn
Enter Margin Text Here
Nomura | Asia Special Report 26 November 2013
27
Fig. 33: Measures announced by the Malaysia government
Source: Nomura.
China hard-landing/systemic risks
China’s attempt to rein-in credit growth, especially from LGFVs, is expected to continue over the
medium term. However, as experienced in the May/June 2013 liquidity squeeze, the
government has been relatively quick to prevent systemic risks from materialising. We continue
to see a substantial tail risk, especially given the acceleration and size of private, public and
LGFV debt to around 185% of GDP in 2012 from around 134% in 2008 (Figure 34, see Asia
Special Report - China’s heavy LGFV debt burden, 24 September 2013).
Fig. 34: Significant pick-up in China debt growth
Source: CEIC, IMF, Nomura.
Fig. 35: Contribution to Asia NEER baskets - BIS weights
Source: BIS, Nomura. Note: Based on 2008-2010 trade data.
China hard-landing risks and the associated systemic risks could see periods of capital outflow
and lead spot USD/CNY (CNH) to trade towards and above the daily fixing. We believe China
hard-landing concerns will negatively affect KRW, TWD, SGD, MYR and THB the most
significantly, with PHP, IDR and INR being less exposed (see Asia Special Report: If China
sneezes..., 23 July 2013). This is mainly because of trade channels, where Korea’s trade with
China is the highest in the region at 27.9% of total trade, compared with the Philippines’ 15%
(Figure 35). Our sensitivity analysis of Asia FX to surprises in USD/CNY fixes shows SGD, TWD
and KRW are the most sensitive, with PHP and IDR the least (Figure 36). Lastly, on a financial-
channel basis, equity markets in Taiwan, Singapore and Korea are more dependent on
revenues from China than the rest of Asia (Figure 37).
Target Group Measures
Announced in 2013 Budget
A 1% tax rebate for taxpayers w hose annual income is RM2500-RM50000.
Continuation of BR1M (i.e. families w ith monthly income less than RM3k get assistance of RM500; single unmarried individuals above
21 years of age and earning less than RM2k receive assistance of RM250).
A rebate of RM200 (21-30 years old, monthly income < RM2k) on the purchase of 3G smartphones.
Special allocations - per capita grant, hostel meal assistance, food supplement programme, purchase of text books.
RM100 of schooling assistance to all primary and secondary students.
Value of "1Mayalsia book vouchers" increased to RM250 from RM200.
1.5 months salary as a bonus for civil servants of w hich half month has already been paid.
Minimum pension increased from RM720 to RM820 retroactively from January 2012.
As part of easy loan facilities for SMEs, RM50mn for Indian entrepreneurs.
Bumiputera f inancing fund to help Bumiputera SMEs increase their equity share in the economy.
Skills development/training of poor Malaysian-Indian students w orking in estates.
A special incentive of RM200 per month to all military personnel.
A one-time payment of RM1000 for all former members of armed forces w ho opted for early retirement.
Others
Civil servants Civil servants w ill enjoy a salary hike of betw een RM80 and RM320, w hich w ill cost the government RM1.5bn.
Petronas staff A “token of appreciation” of RM1,000 each to staff of the national oil company Petronas.
Low income
Youth/Students
Civil servants
Minorities
Armed forces
17% 18% 17% 15% 15%
22% 32% 34% 33% 37%
96%
116% 121% 122%134%
134%
166% 171% 170%185%
0%
40%
80%
120%
160%
200%
2008 2009 2010 2011 2012
Central government debt (% GDP)LGFV (% GDP)Private debt (% GDP)Total (% GDP)
CNY weightImpact of 1% CNY
move on NEERs
% %
Korea 27.9 0.28
Taiwan 26.8 0.27
Thailand 17.9 0.18
Malaysia 17.4 0.17
Singapore 17.2 0.17
India 16.6 0.17
Indonesia 16.3 0.16
Philippines 14.9 0.15
Hong Kong 14.0 0.14
Average 18.8 0.19
Nomura | Asia Special Report 26 November 2013
28
Fig. 36: Sensitivity of Asia FX to surprise3 in USD/CNY fix
* Correlation of daily change in Asia FX with the model error. ** Correlation of change in Asia FX during the shortest available window around the USDCNY fix release. Source: Bloomberg, Taipei Forex Inc., Nomura.
Fig. 37: Dependence of regional corporate revenues on China
Source: Bloomberg, Nomura.
Monetary policy divergence across the region
Our economists expect inflation to rise through 2014 and a broad move towards rate hikes,
mainly in H2 2014. However, we also expect to see divergence across the region, with the
Philippines likely to be relatively more aggressive in its policy tightening. In the Philippines, we
forecast Bangko Sentral (BSP) to hike by 100bp starting in Q2, with the economy growing
above potential (Nomura forecasts 6.7% GDP growth in 2014), rising inflation, and risks are for
a further rise in credit growth because of flush liquidity in the banking system. We expect PHP
appreciation in line with this tightening as a stronger PHP would help reduce domestic demand
through lowering remittances on a local-currency basis. Our FX valuation analysis (based on
FEER and SEER) also points to there still being significant space for PHP to appreciate given
as it is still 13% undervalued (Figure 38).
Fig. 38: Asia FX Valuation
Note: Based on data till Q2 2013 and filtered up to Q3 2013, average of FEER and SEER models of Nomura. Source: Bloomberg, CEIC, Nomura.
In Thailand, our economists forecast no rate hike in 2014 while Korea is only likely to hike by
25bp in Q4 given still relatively low inflation and political pressure to keep policy loose. This was
seen in May this year when both Bank of Thailand and Bank of Korea cut rates. From February
until May this year political pressure from their respective Finance Ministries and the top
echelons of power intensified before both central banks finally cut rates (Figure 39). Although
the risk is that benchmark rates are kept lower for longer, there is a possibility that tightening
could emerge through local currency appreciation. This scenario is more likely in Korea, we
believe, because the economy is forecast to grow strongly (by 4.0% in 2014 from 2.9% in 2013)
supported by exports – and KRW is still marginally undervalued at 5% (according to our models).
High levels of household debt and sensitivity to a rate hike could support an implicit tightening
through KRW appreciation.
3) The difference between the actual and model predicted value of China fixing is considered to be the surprise; data since
Jan 2011 used for calculation.
End-of-day* Shortest window**
SGD 3.9% 23.5%
TWD 1.8% 18.0%
KRW -1.3% 15.4%
THB 1.7% 11.6%
MYR 5.3% 10.4%
PHP 2.1% 7.7%
IDR 2.0% 4.9%
0%
10%
20%
30%
40%
50%
60%
70%
HK TW SG KR MY ID
Average 2012 revenue dependence on China for Top-10 companies by market cap
17
74
1
-4 -5-10
-13
-21-24
-40
-20
0
20
40
INR IDR HKD THB CNY KRW MYR PHP SGD TWD
Overvaluation of Asia FX
Nomura | Asia Special Report 26 November 2013
29
Fig. 39: Pressure on Bank of Thailand and Bank of Korea to cut rates
Source: Bloomberg, Nomura.
Fig. 40: Asia FX Forecast
Source: Nomura.
Date Comments
5-Feb-13FM Kittiratt urged BOT Chairman to cut rates to stem
THB appreciation.
20-Feb-13 BOT kept policy rate unchanged at 2.75%.
3-Apr-13FM said he w as not comfortable w ith the level of
the nation’s policy rate.
3-Apr-13 BOT kept policy rate unchanged at 2.75%.
18-Apr-13FM admitted that he had thought about replacing
Governor Prasarn.
26-Apr-13In a meeting, PM Yingluck, FM Kittiratt & BOT off icials
agreed that current policy rate was too high.
30-Apr-13FM expressed disappointment that BOT
policymakers did not reduce benchmark rate.
13-May-13
FM invited BOT Governor, the MPC, and various
senior government officials to a meeting on the
impact of the stronger THB.
29-May-13 BOT cut policy rate by 25bp to 2.50%.
Thailand
Date Comments
20-Feb-13Incoming President Park said she would try to
ensure KRW stability to help local companies .
13-Mar-13FM nominee Hyun said that the nation needs short-
term policy support to spur grow th.
22-Mar-13FM Hyun in introductory speech vow ed to use all
possible policy measures to boost economy
28-Mar-13The Finance Ministry lowered its 2013 economic
growth forecast to 2.3% from 3% earlier.
5-Apr-13BOK Governor Kim met top govt officials and FM
Hyun to discuss key economic/f inancial issues.
11-Apr-13 BOK kept policy rate unchanged at 2.75%.
18-Apr-13FM Hyun said JPY weakening is hurting the
economy more than threats from North Korea.
1-May-13President Park voiced concern that export firms are
facing more difficult market conditions
9-May-13 BOK cut policy rate by 25bp to 2.50%.
Korea
Asia FX Forecast
BBG code 22-Nov End-2013 1Q14 2Q14 3Q14 End-2014 End-2015
Chinese Renminbi Onshore CNY 6.09 6.05 6.06 6.10 6.09 6.03 6.05
Chinese Renminbi Offshore CNH 6.08 6.04 6.06 6.13 6.09 6.03 6.05
CNY fix CNYMUSD 6.14 6.11 6.12 6.13 6.11 6.10 6.10
Hong Kong Dollar HKD 7.75 7.75 7.77 7.80 7.77 7.75 7.85
Indian Rupee INR 62.9 62.2 62.8 61.5 62.2 62.2 65.5
Indonesia Rupiah IDR 11706 11600 11900 12200 12300 12400 12900
Malaysian Ringgit MYR 3.22 3.15 3.20 3.23 3.22 3.21 3.28
Philippines Peso PHP 43.9 43.0 43.3 43.3 43.3 43.2 43.8
Singapore Dollar SGD 1.25 1.24 1.25 1.26 1.27 1.27 1.29
Korean Won KRW 1060 1050 1060 1070 1070 1060 1080
New Taiw an Dollar TWD 29.6 29.4 29.6 29.8 29.9 29.7 30.2
Thai Baht THB 31.8 31.5 32.0 32.3 32.6 32.9 34.0
Nomura | Asia Special Report 26 November 2013
30
Vivek Rajpal +65 6433 6555 [email protected]
Prashant Pande +65 6433 6198 [email protected]
Rates strategy: Seek policy carry while
acknowledging growing differentiation
We see four main themes emerging in Asia ex-Japan rates markets in 2014:
1. Seek ‘policy carry’ through selected receivers: We suggest investors monetise
‘policy carry’ through selected receivers in countries where valuations are attractive
and where we do not expect central banks to tighten monetary policy in the near
future. Trade recommendations: Receive Thailand 2yr, Receive Korea 2yr, Receive
2s5s Singapore flatteners.
2. Yield curves to steepen in select countries on improving growth prospects amid
QE tapering: We believe yield curves will bear steepen in countries with stronger
growth and improving fundamentals. We suggest investors benefit from this via curve
steepeners in these countries. Trade recommendations: Malaysia 2s5s steepeners,
Korea 2s5s steepeners, Pay Malaysia versus US (beta weighted) and Pay Korea
versus US (beta weighted).
3. Positive carry spread trades acknowledging growing differentiation: We believe
investors can also utilise spread trades to benefit from growing differentiation between
economies. Trade recommendations: Pay Korea 5yr versus receive Singapore 5yr,
Pay Malaysia 2yr versus receive Thailand 2yr.
4. Liquidity and local dynamics should weigh on India and China rates: We suggest
investors use the tight liquidity conditions in India and China to pay front-end swap
rates at appropriate levels. We also recommend investors use the improving bond
supply/demand dynamics to buy India bonds. Trade recommendations: Pay INR 1yr
swap, Pay CNY 1yr swap and long 5yr/7yr bond.
Seek ‘policy carry’ through selected receivers
We recommend seeking policy carry in countries where valuations are attractive and where we
do not expect central banks to tighten monetary policy in the foreseeable future. Singapore and
Thailand rates markets offer attractive carry opportunities. We also like Korea front-end
receivers at appropriate levels.
Thailand. Our Southeast Asia economist, Euben Paracuelles, expects the Bank of Thailand
(BOT) to remain on hold throughout 2014 and does not rule out further cuts (see Thailand: Poor
politics make for poor economics). The Thailand curve is pricing in 17bp of rate hikes within three
months, and although it is common for yield curves to price in rate hikes near the end of an
easing cycle, as is the case now, we see it as an opportunity to earn carry. From a valuation
perspective, we recommend initiating outright receivers in Thailand 2yr at levels above 2.85%.
We also note that the six-month FX-implied onshore forward fixings, which are a floating leg for
NDIRS, have risen to a 2.40-45% range from an average of 2.25% in July. The fixings are already
close to the 2.50% policy rate and no monetary tightening is expected, so further increases in
fixings and any resulting upward pressure on rates should also be limited (Figure 41).
In late August and early September, Thailand front-end rates were pressured primarily from
bond outflows that were concentrated in the front end of the curve. We believe that this was
based on the market’s belief that the BOT would hike rates in response to currency pressures
(at this time, the central banks of India and Indonesia were tightening monetary policy to limit
currency depreciation). However, the probability of this market behaviour reoccurring seems
low, as the BOT’s bias has remained dovish and focused on growth, and has not allowed
currency pressures to drive monetary policy decisions. In addition, Thailand also benefits from
its foreign reserves position (e.g., relative to India and Indonesia, see Figure 30 in FX strategy
section) and therefore, if currency depreciation pressures return, it has the ability to use its FX
reserves instead of hiking rates. Therefore, we recommend receiving 2yr THB NDIRS at or
above 2.85% because of its attractive carry; Thailand 2yr offers the best carry/roll down and the
best Sharpe ratio in the region (Figure 42).
Nomura | Asia Special Report 26 November 2013
31
Fig. 41: THB fixing and 2y swap levels
2.0
2.2
2.4
2.6
2.8
3.0
3.2
3.4
Jan-12 Jun-12 Nov-12 Apr-13 Sep-13 Feb-14
THB 2yr Policy rate Fixing
Forward implied
(%)
Source: Bloomberg, Nomura.
Fig. 42: AEJ swap rates: 2yr carry-roll down and Sharpe ratio
2yr Level (%)3M Carry-
Roll (bp)
Sharpe-
Ratio
INR 8.36 -5.4 -0.15
CNY 4.49 -0.3 -0.02
TWD 0.98 3.9 1.05
HKD 0.52 5.6 0.86
KRW 2.84 5.8 0.88
SGD 0.46 6.0 0.74
MYR 3.43 7.2 1.04
THB 2.74 11.0 0.95
Note: Levels as of 25 November 2013, Sharpe ratio calculated as ratio of 3m Carry + Roll and realised volatility over three months. Source: Bloomberg, Nomura.
Singapore. We believe Singapore rates up to the 5yr part of the curve provide a good
carry/rolldown opportunity, because it appears to be heavily dependent on US monetary policy
expectations and the Monetary Authority of Singapore’s (MAS) approach toward the S$NEER
policy band. We continue to expect the MAS to favour a “modest and gradual” appreciation of
the S$NEER policy band, which supports a lower and stable 6M SOR fixing. We note that US
rates markets have started to differentiate between tapering and tightening. In our base case,
our US economists expect tapering to start in January, however, we also anticipate a
strengthening of forward rate guidance. Therefore, the market’s understanding of the difference
between tapering and tightening should increase the importance of carry in front-end rates. The
Singapore rates curve is highly correlated with US rates and has historically performed as a low-
beta partner to the US rates curve. However, from May to August – when the market began to
incorporate Fed QE tapering expectations – this relationship changed and Singapore rates took
on a high-beta relationship to US rates, which led to a cheapening of Singapore rates. In
August, the relationship began to revert back to its low-beta norm.
Using a simple fair-value regression model to determine the fair value of Singapore rates
against US rates and the 6m implied SOR fix, we find that Singapore rates are moving gradually
toward fair value. However, at current levels, they still look approximately 10bp cheap on our
model in the 5yr tenor and, therefore, we continue to see value in receiving Singapore rates
(Figure 43). The 2s5s part of the curve appears to be in bull flattening/bear steepening mode,
so we also see value in expressing our carry trade via 2s5s flatteners. We have been building
this position in several tranches (see AEJ Rates Strategy: The importance of carry to increase,
17 October 2013) with an average entry price of 110bp. We now target 80bp on this trade (SGD
2s5s flattener, Current level 98bp, Average Entry 110bp, Target 80bp, 3M Carry-roll 8.5bp,
reasess 115bp) (Figure 44). Lastly, realised volatility should continue to decline, which also
favours carry trades (Figures 45 and 46).
Nomura | Asia Special Report 26 November 2013
32
Fig. 43: Singapore rates: fair value model
0.5
1.0
1.5
2.0
2.5
3.0
-50
-40
-30
-20
-10
0
10
20
30
40
50
Feb-09 Nov-09 Aug-10 May-11 Feb-12 Nov-12 Aug-13
SG 5yr (Actual - predicted)
SG5yr (RHS)
SG 5yr cheap
SG 5yr rich
(bp)
Source: Nomura, Bloomberg.
Fig. 44: Singapore 2s5s spread – Realised and implied
0
20
40
60
80
100
120
140
Jan-13 Apr-13 Jul-13 Oct-13 Jan-14 Apr-14
Spread Entry
Forward implied
(bp)
Source: Nomura, Bloomberg.
Fig. 45: 5yr carry/rolldown and Sharpe ratio
5yr Level (%)3M Carry-
Roll (bp)
Sharpe-
Ratio
INR 8.505 -0.2 -0.01
CNY 4.669 2.2 0.13
KRW 3.183 5.0 0.42
TWD 1.358 5.5 0.75
MYR 3.965 8.5 0.55
THB 3.450 10.1 0.69
SGD 1.455 14.5 0.90
HKD 1.520 15.5 0.76
Note: Levels as of 25 November 2013, Sharpe ratio calculated as ratio of 3m Carry + Roll and realised volatility over three months. Source: Bloomberg, Nomura.
Fig. 46: AEJ swap rates: Singapore 5yr realised volatility
0
20
40
60
80
100
120
140
160
180
Jan
Feb
Mar
Ap
r
May
Jun
Jul
Aug
Sep
Oct
No
v
Dec
Singapore Swap 5yr in 2013(monthly volatility, annualised)
(bp)
Source: Nomura, Bloomberg.
Korea. We would like Korea front-end receivers at better levels. We expect an improved growth
outlook to exert steepening pressure on the curve, primarily from rising term premiums.
However, as we expect the BOK to remain on hold until Q4 2014, we see value in front-end
receivers and recommend initiating outright receivers in 2yr Korea once they reach 2.90%
(Figure 47). Our Korea economist, Young Sun Kwon, expects the BOK to deliver its first rate
hike in Q4 2014. Furthermore, he sees a non-negligible risk that the collective judgment of the
MPC after April 2014 could become more dovish, delaying the first rate hike to beyond 2014.
(see South Korea: Catching up with global growth). Although this is not our base case, we note
that such an outcome would further support our receive front-end rates recommendation in
Korea.
Nomura | Asia Special Report 26 November 2013
33
Fig. 47: Korea 2yr swap, realised and implied
2.4
2.5
2.6
2.7
2.8
2.9
3.0
Jan-13 Apr-13 Jul-13 Oct-13 Jan-14 Apr-14
KRW 2yr Swap
Forward implied
Initiate receive at 2.90
(%)
Source: Nomura, Bloomberg.
Yield curves to steepen in selected countries on improving growth prospects amid QE tapering
Nomura Economics expects global growth to pick up from 2.8% in 2013 to 3.4% in 2014, and
given our theme of increased differentiation in Asia, we believe yield curves will steepen in the
economies where growth picks up amid QE tapering. This is because: 1) we believe investors
will demand higher term premiums as growth dynamics improve, exerting upward pressure on
rates markets; and 2) as US Treasury yields rise (George Goncalves, our US rates strategist,
expects US 10yr Treasury yields to rise to 3.15% by end-2014) amid QE tapering, the bar for
carry trades from both liquidity and valuation perspectives will rise, which should also exert
upward pressure on the rates market.
We believe Malaysian and Korean rates have been the primary beneficiaries of the ample
liquidity environment since 2011, which has led to a flattening of the rates curve (Figure 50);
however, we expect these two curves to steepen as local and global growth prospects improve
in 2014. The Korean rates market outperformed in 2013 – especially once expectations of QE
tapering began to rise in May – because of its relative safe-haven characteristics (Figure 51).
However, in an improved global growth environment, we believe these safe-haven
characteristics will become less attractive in the rates space, especially if investor sentiment
improves across Asia. We would also expect investors to pay more attention to valuations,
which would support a steepening of the yield curve (Figure 48). Also, our equity strategists are
overweight Korea and expect earnings growth to be the driver of Korean equity markets in 2014
(see Equity Strategy: From Risk Compression to Earning Growth). In Malaysia, the duration of
bond supply is increasing, which should also exert steepening pressure on the curve. In both
Korea and Malaysia, our economists expect rate hikes in H2 2014, so rate hike expectations
should also aid a steepening of the curve as the timing of these hikes becomes clearer. We
initiated Korea and Malaysia steepeners in August and look to increase this position on any
pullback. We target 40bp on KRW 6mfwd 2s5s steepeners (KRW 6mfwd2s5s steepener,
Current level 31bp, Entry 29.1bp, Target 40bp, 3M roll 2bp, reasess 20bp, see AEJ Rates
Portfolio Update: Modifications to reflect our latest views, 14 August 2013) and 70bp on 3mfwd
MYR 2s5s steepeners. (MYR 3mfwd2s5s steepener, Current level 53bp, Entry 59.5bp, Target
70bp, 3M roll -0.73bp, reasess 40bp). Due to this combination of rising term premiums and rate
hike expectations, we expect the Korea and Malaysia rates markets to underperform the US
rates market on a beta-weighted basis. We like paying Malaysia and Korea 5yr swap vs. US 5yr
swap on a beta-weighted basis, but wait for better levels before expressing this view via a trade
recommendation (Figure 49).
Nomura | Asia Special Report 26 November 2013
34
Fig. 48: Korea and Malaysia 2s5s
-10
0
10
20
30
40
50
60
70
80
90Jan
-11
Mar-
11
May-1
1
Jul-
11
Sep
-11
No
v-1
1
Jan
-12
Mar-
12
May-1
2
Jul-
12
Sep
-12
No
v-1
2
Jan
-13
Mar-
13
May-1
3
Jul-
13
Sep
-13
No
v-1
3
Korea 2s5s Malaysia 2s5s(bp)
Source: Nomura, Bloomberg.
Fig. 49: Korea and Malaysia spreads over US 5yr
120
150
180
210
240
270
300
Jan
-11
Mar-
11
May-…
Jul-
11
Sep
-11
No
v-1
1
Jan
-12
Mar-
12
May-…
Jul-
12
Sep
-12
No
v-1
2
Jan
-13
Mar-
13
May-…
Jul-
13
Sep
-13
No
v-1
3
Korea - US 5yr spread
Malaysia - US 5yr spread
(bp)
Source: Nomura, Bloomberg.
Fig. 50: Foreign positioning in government bonds
0%
5%
10%
15%
20%
25%
30%
35%
40%
Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
Malaysia (MGS+GII, $40.2bn, 28.2%)Indonesia (Govt, $28bn, 32.3%)Korea (KTB & MBS, $89.4bn, 17.2%)Thailand (Govt bond, $18.9bn, 17.9%)India (IGBs, $24.8bn, ~3.1%)
Source: CEIC, Bloomberg, Nomura.
Fig. 51: Asia ex-Japan sovereign CDS
0
50
100
150
200
250
300
350
400
Jan-11 Jun-11 Nov-11 Apr-12 Sep-12 Feb-13 Jul-13 Dec-13
Korea Malaysia IndiaThailand Indonesia
(bp)
Source: Nomura, Bloomberg.
Positive carry spread trades to acknowledge growing differentiation
The above two themes were about seeking policy carry and acknowledging growth prospects in
a few Asian economies. We believe investors can also take advantage of spread-trading
opportunities to leverage growing differentiation among Asian economies (see Asia’s turn for
Austerity). We recommend pay Malaysia 2yr NDIRS versus receive Thailand 2yr NDIRS and
pay Korea 5yr versus receive Singapore 5yr as two spread trades that express this view.
On the receive Thailand 2yr versus pay Malaysia 2yr swap recommendation, although we noted
above that we prefer to initiate receive Thailand 2yr at levels above 2.85%, we see value in
Thailand receivers at current levels (2.73%) if received as a spread against Malaysia.
Interestingly, despite the diverging growth dynamics of these markets, front-end rates in
Thailand are pricing in more rate hikes than those in Malaysia (see Asia Local Market Rate
Expectations - Summary of expected swap (fixing) rate changes, 25 November 2013). We
believe this is most likely because in past cycles the BOT has been more active than Bank
Negara Malaysia (BNM) in tightening monetary policy. However, as stated earlier, we do not
expect the BOT to rate hikes in 2014 and have not ruled out a cut. Furthermore, economic
activity data in Thailand have disappointed over the last two months, and monetary authorities
have further reduced their growth forecasts (see Thailand: More risks to an already poor growth
outlook, 1 November 2013). Unlike Thailand, Malaysia’s growth is of little concern. In its latest
policy statement on 7 November, BNM showed confidence in Malaysia’s growth prospects by
stating that “going forward, the growth momentum will benefit from the expected improvement in
Nomura | Asia Special Report 26 November 2013
35
the external sector amid some moderation in domestic demand”. Also, inflation is set to rise on
the implementation of subsidy rationalisation measures announced in the budget. Although
BNM did not appear concerned with the inflation outlook in its latest policy statement, Euben
Paracuelles expects it to become more hawkish as growth prospects improve and inflation
edges higher, which should result in 50bp of rate hikes in H2 (see Malaysia: Avoiding twin
deficits). To reiterate, given these expected policy and growth divergences, we see value in
Thailand versus Malaysia front-end spread trades. We recommend investors express this view
through the 2yr part of the curve (Receive THB 2yr vs. Pay MYR 2yr, Current level -69bp, Entry
-62, Target -80bp, 3M Carry-roll 3.8bp, Add at -53bp, Reassess -44bp). As such, we have
already initiated 30% of our total intended position on this trade, but look to add to it (Figure 52).
We also note that the relationship between these two legs is weak (as shown by the low R-
squared in Figure 53). This weakness is primarily because local factors in these two economies
are important in determining the directionality of rates, and we believe the importance of these
local factors to directionality will grow. As such, we believe the local growth divergence and the
resultant policy divergence should continue to support our trade recommendation in 2014.
Fig. 52: Thailand vs Malaysia 2yr (spot and fwd implied)
-90
-80
-70
-60
-50
-40
May-1
3
Jun
-13
Jul-
13
Aug
-13
Sep
-13
Oct-
13
No
v-1
3
Dec-1
3
Jan
-14
Feb-1
4
Mar-
14
Ap
r-14
May-1
4Receive THB 2yr vs PayMYR 2yr
Target -80 bp (SL at -44 bp)
Add at -53 bp
Forward implied
(bp)
Source: Nomura, Bloomberg.
Fig. 53: THB 2yr vs MYR 2yr (Low R-squared)
y = 0.97x - 0.58R² = 0.49
2.4
2.5
2.6
2.7
2.8
2.9
3.0
3.1 3.2 3.3 3.4 3.5 3.6
TH
B 2
yr
MYR 2yr
Past 131 business days
Past 6 months
Past 3 months
Past month
Today
Source: Nomura, Bloomberg.
Regarding our Singapore 5yr vs. Korea 5yr recommendation, we noted above that we like
Singapore rates up to 5yr part of the curve as a carry trade. We have discussed our paid and
bear steepening bias in Korea rates on improved local and global growth prospects. Given that
both rates markets have a reasonable correlation with US rates, we also see value in
expressing these views as a spread trade (Figure 54). We expect Korea to underperform
Singapore on an absolute as well as beta-weighted basis. The Singapore 5yr swap has a beta
of 1.5 with the Korea 5yr swap (over the last six months) (Figure 55). However, as the
Singapore 5yr is effectively an expression of US monetary policy and the Korean 5yr an
expression of local and global growth prospects, this beta should decline over time, especially in
a scenario where the Fed is expected to strengthen its forward guidance. We initiated 30% of
our total intended position in receive Singapore/pay Korea 5yr recently (see Asia Insights - AEJ
Rates Strategy: Let carry be the differentiating factor, 8 November 2013) and look to increase
this position either in the same form, or in a beta-weighted form. We recommend investors
receive Singapore 5yr versus paying Korea 5yr (Current spread -173bp, 3m carry roll 9.6bp,
30% at -161bp and we look to add the rest at -155bp, Target -180bp, Reassess -145bp).
Nomura | Asia Special Report 26 November 2013
36
Fig. 54: Receive Singapore 5yr versus Pay Korea 5yr (spot and forward implied)
-205
-195
-185
-175
-165
-155
-145
-135
-125
Jan-13 Apr-13 Jul-13 Oct-13 Jan-14 Apr-14
Receive SGD 5yr vs Pay KRW 5yr
Add at -155 bp
Target -175 bp (SL at -145bp)
Forward implied
(bp)
Source: Nomura, Bloomberg.
Fig. 55: Singapore is a high beta partner of Korea (last 1 year)
-60%
-40%
-20%
0%
20%
40%
60%
80%
100%
120%
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13
Beta (SG 5yr vs KR 5yr, 6m rolling)
Correlation (KR 5yr vs SG 5yr, 6m rolling, RHS)
Source: Nomura, Bloomberg.
Liquidity and local dynamics to weigh in India and China rates
Rates markets in India and China are usually driven by local dynamics. Within Asia ex-Japan
rates markets, they have the lowest correlation with US rates. In these economies, the rates
markets are also very much dependent upon interbank liquidity dynamics.
India. After rallying meaningfully throughout H1 2013, currency pressures prompted the
Reserve Bank of India (RBI) to tighten monetary conditions, which exerted significant pressure
on the India rates market in June and July. This led to a bear flattening of the curve, as the RBI
effectively hiked rates by 300bp, taking the operative rate from 7.25% to 10.25%. However,
since September, the turbulence in India’s financial markets has eased. Globally, the FOMC’s
decision to postpone tapering provided Indian policymakers with time and relief. Locally, the
launch of credible dollar-flow measures on FCNR deposits and overseas bank borrowings
bought time for policymakers to act. This reprieve allowed the RBI to reverse some of its
liquidity tightening measures. It has since cut the operative rate from 10.25% to 8.75%, but also
used this window to hike the repo rate from 7.25% to 7.75%, which suggests it was response to
inflationary pressures. Overall, we believe the main driver of monetary policy has shifted from
currency pressures to growth-inflation dynamics (Figure 56). Therefore, we believe India’s rates
markets are being affected by two uncertainties:
1. Expectations for the terminal repo rate, and
2. Expectations of bond buybacks (supply/demand dynamics).
Fig. 56: Event chart (10yr yield and 5yr OIS)
7.50
7.75
8.00
8.25
8.50
8.75
9.00
9.25
7.50
7.75
8.00
8.25
8.50
8.75
9.00
25-Aug-13 19-Sep-13 14-Oct-13 8-Nov-13
5yr (ND) OIS
10y yield (RHS)USD swaps with
OMCs announced
Raghuram
Rajan takes office
September
FOMC
Repo (25bp) hiked and
MSF (75bp) rates cut
MSF
(50bp) cut
CPI (Sep) - upside
surprise
RBI announces
OMOs
(%) (%)
Source: Nomura, RBI, Bloomberg.
Fig. 57: Monthly supply chart
-100
0
100
200
300
400
500
600
700
800
Sep
-12
Oct-
12
No
v-1
2
Dec-1
2
Jan
-13
Feb-1
3
Mar-
13
Ap
r-13
May-1
3
Jun
-13
Jul-
13
Aug
-13
Sep
-13
Oct-
13
No
v-1
3
Dec-1
3
Jan
-14
Feb-1
4
Mar-
14
Net Issuance (INR bn)
Source: Nomura, RBI.
Nomura | Asia Special Report 26 November 2013
37
Looking at the swap curve, the rates market appears to be pricing in 40bp of rate cuts to the
current operative rate. With the operative rate at 8.75%, this is not too far from the view of our
India economist, Sonal Varma, who expects two more 25bp terminal repo rate hikes in H1 2014,
which would raise it to 8.25% (see India: Higher rates for longer). We also note that liquidity
conditions in the Indian banking system are extremely tight. We estimate a total system liquidity
deficit of close to INR1.2trn and see few reasons for liquidity to turn positive in the near term.
Also, Sonal Varma noted that sticky inflation and now a positive delta on growth should limit the
scope for easing. Although we expect the operative rate to be cut in H2 2014 to 8.25%, we
believe this has already been priced in and, therefore, the scope for any rally in the front end
seems very limited. In fact, we see value in paying front-end rates to earn carry and believe
paying the 1yr swap rate at below 8.20% is a good carry trade. We are relatively neutral on 3yr-
5yr swaps. However, we see value in receiving 3yr-5yr swaps on an uptick in rates. We believe
a 5yr swap is a good strategic receive at levels above 8.70% because there is a limit to how
much the curve can steepen in a low-growth environment. Note that, in India rates, the bigger
moves are bull steepening and bear flattening, as the central bank is very active in conducting
monetary policy. On bonds, we like the 5-10yr part of the curve for two reasons:
1. We expect demand/supply dynamics to improve into Q1 next year. We expect the RBI
to conduct open market operations (bond buybacks) worth INR500bn-600bn between
now and March 2014. We also note that the bond supply should decline in Q1 2014,
which would support bonds (Figure 57).
2. Even from a valuation perspective, current bond yields (IGB 7.16 2023 paper is trading
at 9.1%) look very attractive. However, as the operative rate declines to 8% in Q1 2014
(i.e., average funding costs fall and supply/demand become more favourable), we
would expect the 10yr bond and surrounding papers to move towards 8.40-8.50%
levels. We expect bonds to outperform swaps in Q1 2014. However, beyond Q1, we
are neutral on back-end bonds and expect relatively range-bound markets.
At current levels, we suggest investors accumulate 5yr and 7yr bonds and target 40bp of
potential upside in Q1 2014. Specifically (see India rates strategy: Suggest scaling into bonds
slowly and steadily, 4 October 2013), we recommend the IGB 8.07% July 2017 (entry: 8.54%,
target: 8.00%, reassess: 8.80%) and the IGB 8.12% Dec 2020 (entry: 8.82%, target: 8.30%,
reassess: 9.10%). We also suggest investors pay 1yr swaps at levels below 8.20% as we
expect tight interbank liquidity and limited monetary easing to keep the overnight fixings high.
China. Interbank liquidity dynamics are also a very important consideration in China’s rates
markets. Our China economist, Zhiwei Zhang, expects the People’s Bank of China to continue
its monetary tightening bias in 2014 (see China: No pain, no gain). We believe such a bias will
keep the 7-day repo rate elevated relative to historical levels. It is no surprise that the one-
month average 7-day repo rate has risen from 3.75% in September to 4.74%. We believe the
recent tightening of interbank liquidity conditions will persist for longer than consensus expects.
As such, we see value in paying China front-end swap rates, especially the 1yr swap, at or
below 4.20% to benefit from this shift in the repo rate. We also see value in initiating flatteners
as a way to express our paid bias in the front end (Figure 58).
Fig. 58: China 1yr IRS and 7-day repo fixing
0
2
4
6
8
10
12
Jan-12 Jun-12 Nov-12 Apr-13 Sep-13
7-day repo fixing7-day repo fixing (7dMA)CNY 1yr IRS
(%)
Source: Nomura, Bloomberg.
Nomura | Asia Special Report 26 November 2013
38
Martin Whetton +61 2 8062 8611 [email protected]
Charles St-Arnaud +1 212 667 1986 [email protected]
Australia rates outlook
The 2014 outlook for the rates market in Australia starts with a significant divergence of views in
the market. Locally, investors are split over the Reserve Bank of Australia’s (RBA) potential
policy action. In rates markets, the last quarter of 2013 has seen the pricing in of a turn in the
rate cycle toward a more aggressive RBA. Currently, there is a little over 25bp of hikes priced
into the OIS markets for the end of 2014. While not an aggressive assumption, we do not
believe the RBA will deliver a hike in 2014, given the headwinds of the high AUD, below trend
growth and low inflation. Moreover, the RBA is looking for the rotation of the economy away
from resources to building/construction. House price gains have largely been limited to Sydney
and would need to become national to cause greater concern.
In our report Australian rates: When the rate cuts are over (16 October 2013) we looked at the
potential for rates markets to overshoot and to price in the turn of the cycle. We noted that the
Australian rates curve steepens into the end of rate cutting cycles before flattening around 60%
of its steepening move. We also note than the level of the 3yr ACGB typically trades significantly
over the cash rate, with an average of 157bp in the last few cycles.
In 2014 we expect supply to be a substantial headwind for markets. The AOFM has increased
its issuance needs to AUD70bn, from AUD50bn at the start of the financial year. We expect a
similar call on the market for the next financial year, thus weighing on long-end performance.
This supply comes in an environment where we expect the RBA to keep its policy rates on hold.
If market pricing of an RBA rate hike is delivered, this could put pressure on yields to rise over
the year. Nonetheless, while supply is significant, this year also sees the most amount of
maturing debt: AUD17.65bn of ACGBs, AUD35.1bn of semi-government debt, AUD17bn of
supras and semis, and JPY915bn of uridashi issuance (for a full outline of maturity dates by
sector, see Rates Insights - AUD fixed income maturity profile in 2014, 5 November 2013). We
expect the maturity profile to be a significant support for the market in 2014 and should provide
a flattening bias to the curve. It could also underpin the level of AUD if the RBA does end its
cutting cycle and Japanese investors shift their money back into Australia for the capital
appreciation of the exchange rate.
We expect the overall level of rates to rise over the course of 2014, in line with a slow recovery
of the economy and the gradual reduction in the Fed’s QE.
Nomura | Asia Special Report 26 November 2013
39
Michael Kurtz +852 2252 2182 [email protected]
Mixo Das +852 2252 1424 [email protected]
Yiran Zhong +852 2252 1413 [email protected]
Equity strategy: From risk compression to
earnings growth
The year ahead brings an important qualitative change to our equity strategy approach compared
to the last two years. Namely: Going into 2012 we saw Asian equity markets largely as a binary
deep-value opportunity, pricing ‘end-of-the-world’ risk premiums that investors stood to capture as
long as the global economy (and China in particular) avoided a feared major systemic implosion;
and one year ago we suggested that with effective new reflationary global monetary policy
backstops in place, 2013 would usher a gradual compression of still-elevated macro risks that
would drive continued performance of value as Asian equity multiples mean-reverted.
Looking toward 2014, we believe much of the ‘deep value’ argument has now played out as
Asia’s Equity Risk Premium has fallen to 0.8 standard deviations currently vs. its late-2011 high of
2.5 standard deviations (Figure 59). With this, Asian-regional equities have outperformed regional
fixed income since mid-2012 by a respectable 15% (Figure 60).
From here, we believe equities increasingly require more of a growth rationale for upside, rather
than the macro-risk compression of 2012-13. But this begs the question where Asia’s superlative
earnings growth will be found. Overall we expect 13% Asia-Pacific ex-Japan EPS growth in
2014F – driven more by EM Asia at +16% than by Developed Asia-Pacific ex-Japan at +9% –
delivering the MSCI regional benchmark to an end-year target of 535, 14% above current levels.
Style-wise we expect further declines in market appetite for ‘safety’ (e.g. via dividend-
yield, low-beta, ‘quality’, high-cash balance sheets, or deep PBV discounts) and look for
attributes such as beta and risk to outperform in 2014 – to the continued disadvantage of
the region’s ‘high yield’ markets such as Australia or putatively more ‘defensive’ (lower
beta) markets primarily in EM ASEAN (where currency-equity correlations also are most
unhelpful).
Rather, our bias remains toward more externally-focused and cyclical-intense markets
such as Korea, Taiwan and Singapore, while India constitutes an against-the-grain
Overweight for us despite well-known external-account risks, given possible reform-
friendly electoral developments and/or windfalls from any commodity price downside.
We also favor cyclical, growth- or reflation-sensitive sectors such as Tech, Industrials,
Consumer Discretionary and Banks – and we downgrade the Telco sector (by 1.5ppt) to
Underweight in favour of increased positions in Tech and Industrials. Among cyclical
stocks, however, our more cautious China/commodity view inclines us decidedly toward
downstream industries that may benefit from easier input costs rather than upstream (i.e.
extractive) industries. And within Financials, our higher US Treasury yield and US dollar
expectations also incline us away from (most) Property and toward Insurance.
Fig. 59: MSCI Asia-Pacific ex-Japan: Equity risk premium
Forward earnings yield less US 10-yr US Treasury yield
Source: Bloomberg, Nomura Strategy.
Fig. 60: Asia ex-Japan equity / bond relative performance
Total returns
Source: Bloomberg, Datastream, Nomura Strategy.
1
2
3
4
5
6
7
8
9
MXAPJ ERP (%, lhs) LT average
+1 STD -1 STD
Trend
1.6
1.7
1.8
1.9
2.0
Jan
-12
Mar-
12
May-1
2
Jul-
12
Sep
-12
No
v-1
2
Jan
-13
Mar-
13
May-1
3
Jul-
13
Sep
-13
No
v-1
3
Nomura | Asia Special Report 26 November 2013
40
In addition to lower equity risk premiums, we also note that intra-Asian equity cross-correlations
have declined from roughly 90% ‘crisis’ levels in 2011-12 to more mundane (indeed pre-GFC)
sub-70% levels for much of 2013 (Figure 61). Stocks and other financial assets tend to move en
masse in times of panic – pushing correlations toward 100% as all risk is avoided more or less
indiscriminately. Thus declining equity correlations suggest markets’ capacity for risk-bearing
has strengthened considerably over the past two years and investors are growing more
deliberate and discriminating, a change well-suited to the increasing fundamental differentiation
in Asia discussed above by our economics colleagues.
Similarly, as we have noted before, the moderation in Chinese GDP growth from double-digit
pre-GFC (and stimulus-fueled 2010) levels to sub-8% since mid-2012 has also specifically
ushered declining China correlations with Asian-regional stocks – from a staggering 2012 high
correlation of 96% to the low-mid 80s for most of 2013 (Figure 62). In other words, short of ‘hard
landing’ risks, China’s power to ‘spoil parties’ elsewhere is also declining.
Fig. 61: Average pair-wise correlation of 10 sectors: MSCI Asia-Pac ex-Japan
Source: Bloomberg, Nomura Strategy.
Fig. 62: China H-share Index Correlation vs. MSCI APXJ
Source: Bloomberg, Nomura Strategy.
Rather, parts of Asia as diverse as Japan and Emerging ASEAN have risen as new,
independent sources of regional earnings growth – driven by everything from
favourable demographics and new investment (as in ASEAN) to game-changing policy
shifts (Japan).
The prospective resumption of more robust Developed-Market imports in 2014 as
economies in the US and Europe recover also helps Asian corporates diversify away
from otherwise narrower dependence on China-led growth [Nomura economists
forecast global Developed Market real GDP growth nearly to double in 2014, to 2.0%
from 1.1% – whereas they see global Emerging Market growth only inching
incrementally higher to 4.8% next year from 4.7% in 2013].
Moreover the effective rebranding of Asia-Pacific ex-Japan index heavyweight
Australia from ‘China/Resource-play’ to ‘dividend yield play’ over the past two years
has also helped reduce overall index correlation with China – though that may be of
little help to Australian equities (or other ‘dividend yield’ standard-bearers) in 2014 as
US Treasury yields resume an upward bias along with US nominal growth (Figures 63
and 64).
40%
50%
60%
70%
80%
90%
100%
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Avg Correlation
120-d avg
40%
50%
60%
70%
80%
90%
100%China Correl with APXJ - 5w avg of 26-week correl
Nomura | Asia Special Report 26 November 2013
41
Fig. 63: US 10-year Treasury yield & nominal GDP
Dashed line = Nomura forecast
Source: Bloomberg, Nomura Global Economics, Nomura Strategy.
.
Fig. 64: US Treasury yield vs. yield-stock relative performance
Source: Bloomberg, Nomura Strategy..
A year for bottom-up analysis, growth and beta over yield, value or cash
Axiomatically of course, substantial correlation declines ease the portfolio manager’s task of
identifying uncorrelated risk/return opportunities and enhancing portfolio diversification – thus
improving actively managed equity funds’ prospects for superior return generation at a given
level of risk. At the same time, this means that individual stock selection (rather than macro
thematics) is growing more critical to superior portfolio performance.
These changes also suggest that market appetite for ‘safety’ as an investment attribute (e.g. via
dividend-yield, low-beta, deep PBV discounts, etc.) should continue to diminish in 2014. Style-
wise, we thus expect attributes such as beta and risk to outperform in 2014 as opposed to
‘quality’, yield (as noted), or value.
Indeed in addition to our existing country Underweight in Australia, our style bias
against dividend yield for the year ahead, and in favour of beta and growth, also
compels us to downgrade the Asia-Pacific ex-Japan Telecoms sector (by 1.5ppt) to
Underweight – in favor of increasing our existing Overweights in the Tech and
Industrials sectors by 1.0ppt and 0.5ppt, respectively (Figure 96).
At the micro level we also note that markets may begin punishing companies that hold
“too much” cash on their balance sheets as a low-return asset. While cash-heavy
balance sheets were sought out during the GFC as a useful ‘insurance policy’ against
macro uncertainties – and cash-heavy US stocks, for example, substantially
outperformed the market over 2007-11 – we note that cash-rich stocks stopped
outperforming since 2012 (Figures 65 and 66).
The next step, we think, may be that market pressure via underperformance may force
corporate managements to start utilizing such fallow balance sheet resources more
aggressively – whether for capital expenditure, M&A, share buybacks or special
dividends.
-4
-2
0
2
4
6
8
1993
1995
1997
1999
2001
2003
2005
2007
2009
2011
2013
2015
US 10-yr Treasury Yield and Nomura Forecasts, %
US Nominal GDP Growth and Nomura Forecasts, %
1.0
1.5
2.0
2.5
3.0
3.5
4.092
94
96
98
100
102
104
106
108
110
112
World Yield Stocks/All Stocks RPI
US 10-yr Treasury Yield (inverted)
Nomura | Asia Special Report 26 November 2013
42
Fig. 65: Performance of cash-heavy stocks vs S&P 500
Simple average performance of companies in the top quartile by cash/assets ratio among non-financials. Rebalanced quarterly.
Source: Bloomberg, Nomura Strategy.
Fig. 66: Cash-heavy stocks’ relative performance differential
Simple average performance of companies in the top quartile by cash/assets ratio among non-financials. Rebalanced quarterly.
Source: Bloomberg, Nomura Strategy.
Asia-Pacific ex-Japan earnings – export-assisted breakout
After a nearly 120% initial rebound off 2009 lows, Asia-Pacific ex-Japan aggregate 12-month
forward earnings estimates have largely trended sideways for more than two years and in fact
today remain -7% below June 2011 levels (Figure 67) – placing the full onus of equity price
action on forward earnings multiples. This is not entirely surprising: with global growth struggling
to take off meaningfully and key Asia-Pacific EMs struggling with structural challenges of their
own, broad earnings forecasts have lacked identifiable drivers. But a breakout of this sideways
earnings trend may come in 2014, we think – albeit Asia’s plateauing domestic growth
discussed in this report will put much of the burden on the export sector (and the Developed
Market recovery in particular).
Fig. 67: MSCI Asia-Pac ex-Japan 12m Fwd EPS
Source: Datastream, Nomura Strategy.
Looking at region-wide Asia-Pacific nominal GDP on an equity market cap-weighted
basis, our economists’ individual-country forecasts (see Forecast table on page 4)
aggregate to 7.3% in 2014 (i.e. 4.0% real growth and 3.3% inflation), a material pick-up
from a market cap-weighted 6.7% nominal growth in 2013 (3.8% real growth and 2.9%
inflation) – with stronger nominal growth in more advanced Korea, Taiwan and
Singapore (in all of which we recommend Overweight equity allocations) plus Malaysia
-60%
-40%
-20%
0%
20%
40%
60%
2005 2006 2007 2008 2009 2010 2011 2012 2013
Cash Stocks
S&P 500
-10%
-5%
0%
5%
10%
15%
20%
25%
30%
2005 2006 2007 2008 2009 2010 2011 2012 2013
Difference - cash stocks vs S&P
10
15
20
25
30
35
40
45
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Nomura | Asia Special Report 26 November 2013
43
(where we are Neutral) helping offset slower nominal growth in the big emerging
markets of China, India and Indonesia.
Historically, 7% nominal Asia-Pacific GDP growth has implied a roughly 10% increase
in regional 12-month forward earnings; so a 7.2% market cap-weighted nominal GDP
trajectory implies 2014 regional earnings growth in the mid-teens (Figure 68).
Fig. 68: APXJ weighted nominal GDP growth vs consensus forward earnings growth
Dotted lines are Nomura forecasts
Source: Bloomberg, Datastream, Nomura Global Economics, Nomura Strategy.
Asia's earnings growth does remain largely leveraged to the global economy and strongly
correlated with the global trade cycle (Figure 69). Indeed, despite the prominence of
“decoupling” narratives in recent years and investor focus on regional secular consumption
trends, exports as a percentage of Asia ex-Japan GDP remain high at more than 40% (Figure
70) – compared, for example, with 35% for EEMEA and 20% for Latam.
Fig. 69: Global trade vs APXJ consensus forward earnings growth
Global exports growth
Source: CPB, Bloomberg, Datastream, Nomura Strategy.
Fig. 70: Asia ex-Japan: Exports as a % of GDP
For Asia ex Japan (not including Australia)
Source: CEIC, Nomura Strategy.
An Asian earnings breakout in 2014 is also suggested by the strengthening OECD Global
Leading Economic Indicator over the past year (Figure 71), which historically has tended to lead
Asia-Pacific ex-Japan earnings forecasts by roughly four months:
-60
-40
-20
0
20
40
60
80
0
2
4
6
8
10
12
14
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Nominal GDP growth (lhs) Fwd EPS Growth (rhs)
-60%
-40%
-20%
0%
20%
40%
60%
80%
-20
-15
-10
-5
0
5
10
15
20
25
30Global Trade %y-y
MXAPJ 12m fwd EPS growth, rhs
30%
35%
40%
45%
50%
55%
1996 1998 2000 2002 2004 2006 2008 2010 2012
Nomura | Asia Special Report 26 November 2013
44
Fig. 71: OECD Global Leading Economic Indicator vs APXJ consensus forward earnings growth
APXJ earnings are lagged by four months
Source: OECD, Bloomberg, Datastream, Nomura Strategy.
Fig. 72: Asia-Pac ex-Japan EPS growth consensus by sector
2012 actual, 2013 & 2014 consensus
Source: Datastream, Nomura Strategy.
Taking all the above into account, the current consensus 2014 Asia-Pacific ex-Japan earnings
outlook strikes us as largely appropriate. Namely, expected 2014 EPS growth currently stands
at roughly 12% for the Asia-Pac ex-Japan region as a whole (Figure 73), split between 10% for
Developed Asia-Pac ex-Japan (i.e. Australia, Hong Kong and Singapore) and a somewhat
stronger 13% for Emerging Asia ex-Japan.
Fig. 73: 2014 consensus EPS growth forecasts
Value shown only for Country-Sector pairs that have more than 0.1% weight in the MXAPJ index
Note: MSCI indices in local currency. Source: Datastream, Nomura Strategy research.
But within this aggregate, we note that forward earnings forecasts for the Asia-Pacific
ex-Japan region’s more cyclical sectors (Discretionary, Industrials, Materials and Tech)
have curiously remained closely coupled with those of more defensive sectors
(Telecom, Staples, Healthcare) for the past three years (Figure 74). We would expect
upside risks to overall earnings in 2014 to favor cyclical-sector upgrades.
In particular we would expect upside surprises largely to be concentrated where 1)
operating leverage is higher – notably India, Korea and Taiwan among the larger Asia-
Pacific ex-Japan economies (Figure 75) – as well as where 2) export exposure is
greatest, namely Korea and Taiwan (again), as well as Singapore.
-60%
-40%
-20%
0%
20%
40%
60%
80%
-4
-2
0
2
4
6
8
10OECD World LEI %y-y
MXAPJ 12m fwd EPS growth, rhs
-20
-10
0
10
20
30
40 2012 Growth
2013 Growth F
2014 Growth FA
sia
-Pac
ex-J
ap
an
Au
str
ali
a
Ch
ina
Ho
ng
Ko
ng
Ind
ia
Ind
on
esia
Ma
laysia
Ko
rea
Ph
ilip
pin
es
Sin
ga
po
re
Th
ail
an
d
Ta
iwa
n
Index 12% 7% 9% 9% 17% 15% 8% 21% 7% 9% 14% 10%
Discretionary 14% 11% 19% 21% 17% 16% 12% 12% - 2% 15% 12%
Staples 13% 5% 20% - 20% 17% 8% 14% - 16% 50% 10%
Energy 11% -1% 6% - 12% - 27% 33% - - 8% -
Financials 9% 6% 9% 6% 19% 12% 7% 24% 5% 8% 13% 4%
Banks 7% 4% 6% -10% 20% 12% 7% 19% -6% 7% 13% 6%
Property 10% 4% 16% 7% - - - - 18% 11% - -
Healthcare 17% 12% 18% - 23% - - - - - - -
Industrials 27% 1% 14% 17% 14% - 12% 90% 7% 12% - 46%
Materials 22% 15% 17% - 19% 11% 4% 41% - - 15% 13%
Tech 12% 5% 33% - 19% - - 10% - - - 11%
Telecom 5% 7% 0% - 45% 9% 8% 28% 10% 8% 29% 3%
Utilities 15% 0% 6% 6% 10% 10% -2% - - - - -
Nomura | Asia Special Report 26 November 2013
45
Fig. 74: APXJ: consensus forward earnings for Cyclical and Defensive sectors
Rebased to 100 as of October 2003
Source: Bloomberg, Datastream, Nomura Strategy.
Fig. 75: Asia-Pac ex-Japan operating leverage by country
Excluding Banks, Insurance, Brokers and REITs
Source: Bloomberg, Datastream, Nomura Strategy.
Indeed 12-month forward earnings-estimate revision momentum in recent months has been
reasonably strong for North Asia and comparatively weaker for Southeast Asia (with the
exception of the Philippines – Figures 76 and 77):
Fig. 76: North Asia & Australia: Consensus 12-mo. fwd EPS revision
March-to-date
Source: Datastream, Nomura Strategy research.
Fig. 77: Southeast Asia & India: Consensus 12-mo. fwd EPS revision
March-to-date
Source: Datastream, Nomura Strategy research.
In addition to the developed economy-led global recovery, other key fundamental factors underlying our top-down equity allocation approach include the following:
Higher US Treasury yields and stronger US dollar. Figure 63 above already suggests upside
risk to US Treasury yields in light of our house forecasts for accelerating US nominal GDP
growth toward 4.5% by 4Q14 (vs. 3.1% reported in Q3 this year), and our US rates strategist
George Goncalves’ expectation for 10-year Treasury yields to end 2014 at roughly 3.2% (some
45bp above levels at writing). For his part, Nomura global FX Strategist Jens Nordvig wrote
recently that “we still expect USD to outperform next year, albeit at a slower pace than we had
previously assumed, and with the take-off delayed somewhat” (see USD Strength Delayed, 4
October 2013).
In our positive base-line scenario, the QE unwind alongside stronger US economic performance
will allow fixed income yields to rise in an orderly fashion. If so, the ‘tapering’ of QE need not be
net-negative for Asian equities overall and medium-term, as QE’s ‘artificial’ liquidity support
50
100
150
200
250
300
350
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Cyclical Sectors
Defensive sectors
1.5
1.7
1.9
2.1
2.3
2.5
2.7
2.9
3.1
3.3
98
100
102
104
106
108
110
29-M
ar-
13
12-A
pr-
13
26-A
pr-
13
10-M
ay-1
3
24-M
ay-1
3
07-J
un
-13
21-J
un
-13
05-J
ul-
13
19-J
ul-
13
02-A
ug
-13
16-A
ug
-13
30-A
ug
-13
13-S
ep
-13
27-S
ep
-13
11-O
ct-
13
25-O
ct-
13
08-N
ov-1
3
CHINA
HONG KONG
AUSTRALIA
TAIWAN
KOREA
96
98
100
102
104
106
108
29-M
ar-
13
12-A
pr-
13
26-A
pr-
13
10-M
ay-1
3
24-M
ay-1
3
07-J
un
-13
21-J
un
-13
05-J
ul-
13
19-J
ul-
13
02-A
ug
-13
16-A
ug
-13
30-A
ug
-13
13-S
ep
-13
27-S
ep
-13
11-O
ct-
13
25-O
ct-
13
08-N
ov-1
3
PHILIPPINES MALAYSIASINGAPORE INDIATHAILAND INDONESIA
Nomura | Asia Special Report 26 November 2013
46
would diminish just as: a) Asian corporate earnings prospects improve; and b) inter-asset class
flows (i.e., from bonds to stocks) materialize to replace the liquidity previously supplied by
central bank asset purchases. Figures 78 and 79 show strong positive historical correlations
prior to June 2013 between changes in the US 10-year Treasury yield and i) foreign buying of
Asia-Pacific ex-Japan stocks, as well as ii) Asia-Pacific ex-Japan forward PER multiples.
Fig. 78: Change in US Treasury yield vs. foreign net-buying of Asia ex-Japan stocks
Source: Nomura Global Economics.
Fig. 79: US 10yr Treasury yield vs. MSCI APXJ forward PER
26-week change
Source: Bloomberg, Datastream, Nomura Strategy.
Nearer term, however, risks do remain of a resumption of market disorder as QE ‘tapering’
again approaches (as seen in May-August 2013 when Treasury yields backed up by 140 bp).
We did not interpret that episode a generalized ‘EM crisis’ though; rather, we saw a rational and
arguably overdue process of differentiation – i.e., between the structurally sounder Asian
markets (largely those with stronger current account balances and more stable currencies) able
to stand on their own as US dollar funding costs looked set to normalize, vs. the weaker
regional markets that had merely been propped up by fickle short-term yield-seeking flows
(Figure 85).
Strategically, our outlook for a steeper yield curve and generalized US dollar strength is key to
our country preference for Singapore over Hong Kong and our industry preference for Insurance
and Banks over Property within the Financial sector (Figures 80 and 81):
Fig. 80: Singapore-Hong Kong relative performance vs. US Dollar Index
Source: Bloomberg, Nomura Strategy.
Fig. 81: Real Estate relative performance vs US yield curve slope
Source: Bloomberg, Nomura Strategy research.
-1.0
-0.8
-0.6
-0.4
-0.2
0.0
0.2
0.4
0.6
-25,000
-20,000
-15,000
-10,000
-5,000
0
5,000
10,000
15,000
20,000
25,000
6w rolling Asia foreign net-buying (lhs)
6w change in US 10yr yield (rhs)
($mn) (%)
-2.5
-2.0
-1.5
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
-6
-4
-2
0
2
4
6
MXAPJ Fwd PER, 26 week change
US 10yr yield, 26 week change (rhs)
78
79
80
81
82
83
84
85
110
115
120
125
130
135
Jan
-12
Mar-
12
May-1
2
Jul-
12
Sep
-12
No
v-1
2
Jan
-13
Mar-
13
May-1
3
Jul-
13
Sep
-13
No
v-1
3
Relative performance: Singapore vs Hong Kong
DXY Index0.35
0.40
0.45
0.50
0.55
0.60
0.65-0.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5US 10yr-2yr slope
World Real Estate / World (inverted, rhs)
Nomura | Asia Special Report 26 November 2013
47
China slowdown & commodity/energy price risks. With our economists’ expectation for a
Chinese GDP growth moderation to just 6.9% in 2014 from 7.6% in 2013 largely concentrated in
the investment component of China’s economy, slower Chinese demand for hard commodities
and possibly energy will likely be a key external manifestation. Coupled with the above-noted
outlook for US dollar strength, we think this could constitute a ‘double-whammy’ for global
resource pricing.
Fig. 82: DXY vs. LMEX Index
Source: Bloomberg, Nomura Strategy.
This in turn would imply potential top-line revenue slippage in equity markets and sectors
dominated by upstream-sector/extractive activity (e.g. Australia, Metals & Mining, Oil & Gas
extraction, Agriculture); whereas downstream sectors (e.g. Manufacturing, Refining &
Petrochemicals, Power Generation) could at least derive potential flow-through benefits to
bottom-line profitability.
By contrast, though, we think China stocks themselves may already be anticipating the coming
GDP slowdown – arguably leaving less downside risk:
As seen in the Figure 83, by regional valuation standards China’s current 1.5x PBV
appears already to discount expectations of substantial ROE erosion toward levels
seen in Singapore and Hong Kong (i.e. of roughly 10%) – rather than China’s relatively
high actual trailing ROE of 15%. (Note that other markets generating similar mid-teens
ROEs such as India and the Philippines sell at substantially higher PBVs than China.)
Taking this “implied China ROE” of roughly 10%, the scatter-chart in Figure 84 of
actual historical Chinese ROE vs. nominal GDP in turn implies an assumption of
roughly 7.0%-7.5% nominal Chinese GDP. Applying China’s 1.7% GDP deflator thus
far in 2013 would suggest that the H-share aggregate PBV is pricing a probabilistic
downside risk to Chinese GDP growth as low as roughly 5.5%.
2800
3000
3200
3400
3600
3800
400074
76
78
80
82
84
Sep
-11
Dec-1
1
Mar-
12
Jun
-12
Sep
-12
Dec-1
2
Mar-
13
Jun
-13
Sep
-13
DXY index (lhs, inverted) LMEX (rhs)
Nomura | Asia Special Report 26 November 2013
48
Fig. 83: Asia-Pacific ex-Japan: PBV vs. 12-mo. Trailing ROE
Source: Datastream, Nomura Strategy.
Fig. 84: China: Historical ROE vs. Nominal GDP
Source: CEIC, Datastream, Nomura Strategy.
Moreover, for many Chinese industries, lower GDP might be profitability enhancing – if
the incremental growth downside is indeed concentrated in the (over-) investment
component of GDP. As Nomura China strategist Wendy Liu noted in The long & short
view on Chinese equities (II), 19 July, 2013, “with slower GDP growth, the listed A- and
H-share names in sectors currently facing excess capacity may finally see the decline
of the ‘wrong kind’ of capacity. As growth slows…more exits may take place among
unlisted capacity, and the listed names may consolidate market shares, strengthen
pricing power, and improve ROE and FCF.”
EM ASEAN vulnerabilities remain. Aggregating all the above factors (US growth and
monetary normalization, China slowdown and possible commodity/energy price softness), the
Figure 85 presents an aggregate ‘Vulnerability Score’ for Asia ex-Japan equity markets4. We
find that the four Asia ex-Japan equity markets arguably most challenged by the coming 2014
macro environment – each with four out of a possible six ‘red flags’ – are India, Indonesia and
Thailand and Malaysia. By comparison, the two regional markets arguably best-placed to
sidestep the worst potential impact of higher Treasury yields, a stronger dollar and softer
commodity prices are Taiwan (with a ‘perfect’ score of zero red flags) and Korea, followed by
Singapore with two red flags.
4 This incorporates both equity-specific and technical risk factors, including: i) historical equity index correlations against the
(inverse) DXY dollar index, ii) equity inflows (since 2011) as a percent of market capitalization, iii) the comparative exposure
of local equity markets to (more vulnerable) upstream vs. (better insulated) downstream sectors by market capitalization,
and iv) gearing in among non-financial listed companies – as well as broader economy-wide macro risks such as v)
increase in total financial leverage (as a % of GDP since 2008) and vi) external payment balances as a % of central bank
foreign exchange reserves.
APxJ
Australia
China
HK
India
Indonesia
Korea
Malaysia
New Zealand
Philippines
SingaporeTaiwan
Thailand
7%
9%
11%
13%
15%
17%
19%
21%
23%
0.5 1.5 2.5 3.5 4.5
RO
E (%
)
PBV (x)
1Q09
2Q09
y = 47.397x + 6.648R² = 0.3795
0
2
4
6
8
10
12
14
16
18
20
0% 5% 10% 15% 20% 25% 30%
Tra
ilin
g 1
2-m
onth
RO
E
Nominal GDP Growth
Nomura | Asia Special Report 26 November 2013
49
Fig. 85: Asia ex-Japan: Vulnerability to Disorderly ‘QE Unwind’ Scenario
Source: Bloomberg, Datastream, CEIC, Nomura Strategy research.
Nor, in any case, do we yet see compelling value in most of EM ASEAN. The EM
ASEAN markets still sell at mostly premium valuations vs. long-term means on both
PBV and PER bases (Figures 86 and 87) – testament to how richly valued they grew
under the GFC-era regime of cheap US dollar funding:
Fig. 86: Asia ex-Japan: PER & prem./disc. vs. long-term mean
Source: Datastream, Nomura Strategy research.
Fig. 87: Asia ex-Japan: PBV & prem./disc. vs. long-term mean
Source: Datastream, Nomura Strategy research.
FX risks also concentrated in ASEAN... Moreover ASEAN equities may yet prove more
expensive than they (still) appear once the adverse growth- and earnings impacts of FX volatility
and tighter credit/liquidity and fiscal conditions are fully embedded into earnings forecasts, as
we elaborated in The pause that rehashes, 18 September 2013).
As Figure 88 summarizes, the highest correlations between Asia-Pacific currencies and their
respective equity markets (absolute performance) – meaning greater equity volatility when
currencies decline – are found in the four EM ASEAN markets, as well as India. We remain
mindful of these correlations in light of our regional FX team’s forecast for fairly pronounced
2014 local-currency downside particularly in Indonesia (-6.5% vs. the US dollar) and Thailand (-
4.3%).
Historical DXY
inverse
correlation
(beta)
Equity inflows
to local stocks
since 2011 (%
mkt cap)
Downstream minus
Upstream sector
exposure of local
market (%)
Non-Financial
sector corporate
net debt (%
equity)
Economy-wide
private-sector
debt (increase
from 2008, vs
GDP)
External balance
of payments
(financing gap
% reserves)
Total
Vulnerability
Score
Taiwan 0.73 1% 55.4 15.3 18% -0.1 0
Korea 0.40 2% 57.2 5.9 37% -1.1 1
Singapore 0.71 n/a 16.6 28.7 53% - 2
Philippines 0.33 14% 33.5 36.8 7% -1.5 2
Hong Kong 1.06 n/a 23.3 30.4 58% - 3
China 1.43 n/a 5.2 21.9 35% 0.2 3
Malaysia 0.42 6% 17.5 31.9 38% -4.1 4
Thailand 1.14 -4% -5.0 28.1 30% -1.4 4
India 0.98 18% 9.5 4.8 8% -5.3 4
Indonesia 1.26 4% 13.0 29.4 9% -4.2 4
-30%
-20%
-10%
0%
10%
20%
30%
6
8
10
12
14
16
18
20
Philippin
es
Mala
ysia
India
Sin
gapore
Indonesia
Thaila
nd
HK
Austr
alia
Taiw
an
Chin
a
Kore
a
Fw d P/E (lhs)
Premium to L.T. Average (rhs)
-40%
-30%
-20%
-10%
0%
10%
20%
30%
40%
50%
60%
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0In
donesia
Philippin
es
India
Thaila
nd
Mala
ysia
Sin
gapore
Austr
alia
Taiw
an
Chin
a
HK
Kore
a
PBV (lhs)
Premium to L.T. Average (rhs)
Nomura | Asia Special Report 26 November 2013
50
Fig. 88: Summary table: Asia-Pacific equity performance correlations with FX rate
Absolute performance and relative to MSCI Asia-Pacific ex-Japan Index; HK correlations w/ DXY index
Source: Bloomberg, Nomura Strategy research.
…but stay overweight India. India, on the other hand, presents a curious case for equity
managers. In October we upgraded Indian stocks tactically to a ‘small Overweight’ as a means
of building in a long-side hedge against the risks of weaker US data, lower Treasury yields and
a softer US dollar trend – conditions which subsequently failed to materialize amid surprising US
economic resilience post-October’s congressional fiscal standoff. Nonetheless coming into the
New Year we keep our tactical India Overweight in place. The main reasons are 1) local politics
and 2) our above-noted commodity and energy price expectations. Namely:
A strong showing by the pro-growth/pro-business opposition BJP in India’s five state
elections ongoing through early December could substantially lift equity market
sentiment (boosting reform optimism ahead of even more impactful May 2014 national
polls).
As one of only two Asia-Pacific ex-Japan net importers of both hard commodities and
energy (Thailand being the other – Figure 89), India also is disproportionately
advantaged by the manifest recent softness in commodity and energy prices (which, as
noted, a China slowdown and stronger US dollar in 2014 could both sustain).
Fig. 89: India-Australia-EM ASEAN commodity net-export comparison
Difference between export share and import share of each category
Source: CEIC, Nomura Strategy.
Indeed the benefits of softer commodity prices may already be starting to boost India’s
corporate performance: Indian calendar Q3 corporate results were comparatively
strong (see our India strategist Prabhat Awasthi’s India Equity Strategy - Sept-quarter
Country Current 1yr ago Current 1yr ago
Thailand 0.79 0.37 0.77 0.43
Philippines 0.63 0.15 0.59 0.03
Malaysia 0.56 0.14 0.50 -0.28
India 0.52 0.43 0.65 0.71
Indonesia 0.47 0.13 0.50 -0.19
Taiwan 0.43 0.54 0.06 0.46
Korea 0.40 0.53 0.27 0.28
Singapore 0.32 0.28 0.27 0.29
Australia 0.09 0.09 0.51 0.32
Hong Kong -0.02 -0.15 0.38 0.31
China A -0.06 0.12 -0.06 -0.05
Japan -0.69 -0.60 -0.31 -0.30
Correlation of absolute
performance
Correlation of relative
performance
-30
-20
-10
0
10
20
30
40
Australia Indonesia Malaysia Thailand Philippines India
Food/Agri Fuel Ores & Metals
Nomura | Asia Special Report 26 November 2013
51
review, November 19) – marking not only the strongest q/q Sept-quarter top-line Sales
growth in the post-GFC period but also a rebound in bottom-line profits as muted input
costs helped support margins.
Backstopped by these factors, foreign equity buying in India has remained under positive
momentum since September – in sharp contrast to EM ASEAN, which has continued to be net-
sold by foreign investors, even as their benchmark indexes were rallying in September-October
(Figures 90 and 91).
Fig. 90: Cumulative Foreign Buying in Asia Since May 21
US$mn
Source: Bloomberg, Nomura Strategy.
Fig. 91: Cumulative Foreign Buying in Asia Since May 21
% Mkt-Cap
Source: Bloomberg, Nomura Strategy.
Japan as surprise demand engine? Finally we note that upside earnings surprises could also
result if Japan’s reflationary demand recovery continues to gain potency. For much of 2013
investors mainly seemed to view Japan’s monetary easing through the prism of zero-sum
currency competitiveness effects, but as a result we believe markets may still underappreciate
the potential benefits for global exporters from the reflation of Japanese domestic demand itself.
Japan’s economy is still the world’s third-largest, at US$6.0trn in 2012, with a sizeable
consumption/GDP ratio of 58% and an import/GDP ratio of 15%. Not only does the
world's third-largest economy finally "doing the right thing" after two decades of
monetary error arguably remove a key 'macro background risk' from Asian-regional
and other global risk assets, but Japan may also stand as a key potential new
incremental source of final demand to drive corporate top-line revenues.
Indeed in absolute US dollar terms, Japan’s base of annual private consumption as of
2012 was still much larger than China’s -- roughly US$3.6trn vs. US$2.8trn
respectively (Figure 92).
-6,000
-4,000
-2,000
0
2,000
4,000
6,000
8,000
10,000
12,000
20-M
ay-1
3
03-J
un
-13
17-J
un
-13
01-J
ul-
13
15-J
ul-
13
29-J
ul-
13
12-A
ug
-13
26-A
ug
-13
09-S
ep
-13
23-S
ep
-13
07-O
ct-
13
21-O
ct-
13
04-N
ov-1
3
18-N
ov-1
3
Korea India
Taiwan Philippines
Indoneisa Thailand
-4.0%
-3.5%
-3.0%
-2.5%
-2.0%
-1.5%
-1.0%
-0.5%
0.0%
0.5%
1.0%
1.5%
2.0%
2.5%
20-M
ay-1
3
03-J
un
-13
17-J
un
-13
01-J
ul-
13
15-J
ul-
13
29-J
ul-
13
12-A
ug
-13
26-A
ug
-13
09-S
ep
-13
23-S
ep
-13
07-O
ct-
13
21-O
ct-
13
04-N
ov-1
3
18-N
ov-1
3
Korea India
Taiwan Philippines
Indoneisa Thailand
Nomura | Asia Special Report 26 November 2013
52
Fig. 92: China vs. Japan: Private Consumption (USD bn)
Source: CEIC, Nomura strategy.
Fig. 93: China vs. Japan: Imports (USD bn)
Source: CEIC, Nomura strategy.
Similarly noteworthy is the fact that China is the single largest source of Japanese
imports, alone accounting for 27% of Japanese imports ex- the Mid-East (i.e. oil).
Fig. 94: Japan import composition by country (ex-Mid-East)
Source: CEIC, Nomura Strategy.
Fig. 95: Japan import composition by product (ex-Energy)
Source: CEIC, Nomura Strategy.
Equity Allocation/Recommendations
Looking toward 2014, we believe much of the ‘deep value’ argument for Asia-Pacific ex-Japan
equity upside has now played out, and that markets are growing more deliberate and
discriminating – a change well-suited to the increasing fundamental differentiation in Asia
discussed in this report by our economics colleagues. With equity valuation mean-reversion
largely ‘in the bag’ now, equities increasingly require more of a conventional growth rationale for
upside, rather than the macro-risk compression of 2012-13; but this equally begs the question
where Asia’s superlative earnings growth will be found.
Overall we believe risks around the aggregate +12% Asia-Pacific ex-Japan 2014 earnings
growth consensus to be roughly balanced, with our own regional earnings growth
forecast at +13%; however our forecast disaggregates to an above-consensus +16%
outlook for Emerging Asia (vs. consensus +13%) and a below-consensus +9% forecast
for Developed Asia-Pacific ex-Japan (vs. consensus +10%).
-20%
-10%
0%
10%
20%
30%
40%
50%
60%
0
500
1,000
1,500
2,000
2,500
3,000
3,500
4,000
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
China: Private Consumption Expenditure, US$bnJapan: Private Consumption Expenditure, US$bnChina: y-y% (RHS)
Japan: y-y% (RHS)
-20%
-10%
0%
10%
20%
30%
40%
50%
60%
0
200
400
600
800
1,000
1,200
1,400
1,600
1,800
2,000
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
China: Imports of Goods and Services, US$bnJapan: Imports of Goods and Services, US$bnChina: y-y% (RHS)
Japan: y-y% (RHS)
China27%
ASEAN18%EU
12%USA10%
Australia8%
South Korea
5%
Taiwan3%
Others17%
Electrical Machinery
19%
Miscellaneous Articles
19%
Chemicals12%
Food & Beverages
12%
Basic Manafactur
ed Goods12%
Machinery11%
Inedible Crude
Materials & oil
10%
Others5%
Nomura | Asia Special Report 26 November 2013
53
With this, we look for index upside of +17% and +9%, respectively on the benchmark
MSCI Emerging Asia and Developed Asia-Pacific ex-Japan indices in 2014 – delivering
our end-2014 index targets to 785 for local-currency MSCI EM Asia, and 410 for the FTSE
developed Asia-Pacific ex-Japan index. These, in turn, produce a broad MSCI Asia-
Pacific ex-Japan index target of 535, or 14% above current levels at writing.
Figure 96 summarizes our preferred Country and Sector allocations within the region:
Style-wise we expect further declines in market appetite for ‘safety’ (e.g. via dividend-
yield, low-beta, ‘quality’, high-cash balance sheets, or deep PBV discounts) and look
for attributes such as beta and risk to outperform in 2014 – to the continued
disadvantage of the region’s ‘high yield’ markets such as Australia or putatively more
‘defensive’ (lower beta) markets primarily in EM ASEAN (where currency-equity
correlations also happen to be most unhelpful).
Rather, given our expectation that global Developed Markets will lead 2014 growth, our
bias remains toward more externally-focused and cyclical-intense markets such as
Korea, Taiwan and Singapore.
India, by contrast, constitutes an against-the-grain Overweight for us despite well-
known external-account risks, given possible reform-friendly electoral developments
related to May 2014 national polls and/or windfalls from any commodity price
downside.
We also favor cyclical, growth- or reflation-sensitive sectors such as Tech, Industrials,
Consumer Discretionary and Banks – and we downgrade the Telco sector (by 1.5ppt)
to Underweight in favour of increasing our existing Overweights in the Tech and
Industrials sectors by 1.0ppt and 0.5ppt, respectively.
Among cyclical stocks, however, our more cautious China/commodity view inclines us
decidedly toward downstream industries (e.g. Manufacturing, Refining &
Petrochemicals) that may benefit from easier input costs rather than
upstream/extractive industries (e.g. Metals & Mining, large-cap Oil & Gas extraction)
for whom these trends would more represent top-line revenue headwinds.
Our higher US Treasury yield and US dollar expectations for the year ahead also
incline us away from (most) Property and toward Insurance and Banks within
Financials – as well as underpinning our preference for Singapore over Hong Kong
among the DM Asia-Pacific ex-Japan markets.
Nomura | Asia Special Report 26 November 2013
54
Fig. 96: Recommended country and sector weightings
Source: Datastream, Nomura Strategy.
Stock selection: Earnings focus for 2014
Looking beyond the macro overlay, substantial equity correlation declines since 2012 mean
axiomatically that individual stock selection (rather than macro thematics) should rise as a
critical determinant of portfolio performance in the year ahead – particularly, we think, where
strong company-specific growth prospects are identifiable.
Such growth stories could flow from effective implementation of Corporate Strategy,
for example, new synergies following major M&A deals, via strategic partnership with
firms that bring new value propositions to the table, profitability-enhancing corporate
restructurings, or management refocus on new performance metrics (e.g. from market
share expansion to return on capital).
Growth could come from deliberate investments in New Products, Technologies or
Markets that are expected to generate a revenue- or bottom-line payoff over the
forecast horizon. New markets of course could be geographically defined, but may also
be new market segments defined, for example, by price points, age demographics, etc.
Some companies will be able to tap new growth and/or transformational opportunities
driven by Policy/Reform Initiatives – most prominently, perhaps, in China following
the reformist November 9-12 Communist Party Plenum, but with similar if less
attention-grabbing structural initiatives, or pressure for same, gaining momentum in
several Asia-Pacific ex-Japan economies as diverse and distant as India and Korea
(not to mention Japan itself).
Lastly, many companies will benefit simply from Lateral Growth Exposure to
compelling demand stories elsewhere, be it the US recovery (with an increasing
contribution, we think, from capital spending), Europe’s economic resuscitation, Asia
ex-Japan’s own still-strong demand stories such as Korea and the more resilient parts
Country Allocation
MSCI
Abs Abs.
Weight (%) Weight (%)
Australia 25.7% 21.2% -4.5 Under
China 18.8% 18.8% 0.0 Neutral
Korea 15.4% 18.4% 3.0 Over
Taiwan 10.7% 13.7% 3.0 Over
Hong Kong 9.4% 7.4% -2.0 Under
India 5.8% 6.8% 1.0 Over
Singapore 4.9% 5.9% 1.0 Over
Malaysia 3.6% 3.6% 0.0 Neutral
Indonesia 2.2% 1.2% -1.0 Under
Thailand 2.3% 1.8% -0.5 Under
Philippines 0.8% 0.8% 0.0 Neutral
New Zealand 0.4% 0.4% 0.0 Neutral
Total 100% 100.0% 0.0
Sector Allocation
MSCI
Abs Abs.
Weight (%) Weight (%)
Financials 37.3% 41.3% 4.0 Over
Information Technology 14.5% 17.5% 3.0 Over
Materials 9.4% 9.4% 0.0 Neutral
Industrials 7.8% 9.8% 2.0 Over
Consumer Discretionary 8.1% 10.1% 2.0 Over
Energy 6.2% 6.2% 0.0 Neutral
Consumer Staples 6.3% 0.3% -6.0 Under
Telecommunication Services 5.1% 3.6% -1.5 Under
Utilities 3.1% 1.1% -2.0 Under
Health Care 2.1% 0.6% -1.5 Under
Total 100% 100% 0.0
Weight (ppt)
Nomura Recommendation
Rel.
Weight (ppt)
Nomura Recommendation
Rel.
Nomura | Asia Special Report 26 November 2013
55
Benjamin Lo – NIHK +852 2252 6220 [email protected]
Gordon Kwan – NIHK +852 2252 2104 [email protected]
of ASEAN (e.g. Philippines, Malaysia), or the radical positive changes materializing in
Japan under ‘Abenomics’.
In Figure 97 and the remaining text below we identify a basket of 21 Asia-Pacific ex-
Japan stocks that each offer a compelling growth ‘angle’ by one or several of these
drivers. This list boasts superior average FY14F and FY15F earnings growth of 26.3% and
17.7%, respectively (excluding the highest and lowest two outliers in each year), substantially
stronger than respective consensus market-wide earnings growth of 12.4% and 10.4%.
Moreover, the selected stocks on average have 23% upside to our analysts’ target prices –
more than double the Bloomberg consensus upside of 11% – and our individual target prices
are higher than consensus in all but two of the 21 selections. Our list offers an average beta of
1.1x, with two-thirds of the names featuring betas of one or higher.
These stock picks also are broadly representative of our regional country and sector
preferences, with the largest sector concentrations by market-cap found in Tech (29%),
Industrials (24%), Financials (16%) and Consumer Discretionary (9%); and the largest country
concentrations in Hong Kong/China (40%), Korea (24%), India (10%) and Taiwan (8%).
Fig. 97: High-conviction Asia-Pacific ex-Japan earnings ‘all stars’ for 2014
Source: Bloomberg, Nomura Research.
China/Hong Kong
Hutchison (13 HK, TP HKD 110.00)
Lateral growth exposure: With Europe likely to be an incrementally positive driver for
Hutch, we believe management’s strategy of reinvesting in European assets and
deleveraging ahead of an interest rate up-cycle will be positive to NAV and earnings.
Corporate strategy: Current EPS CAGR projection of 16% during 2012-15F is biased
to the upside if Hutch executes further asset realignments in 2014F. Although we do
not factor in the potential spin-off of Watsons Group, we note that a spin-off valuation
close to Dairy Farm’s (DFI SP, NR) 17x EV/EBITDA would bring a HKD16 lift to NAV.
COSL (2883 HK, TP HKD 29.50)
Lateral growth exposure: COSL offers superior earnings visibility (20% CAGR over
the next three years), thanks to the structural trend of customers boosting spending
towards oil/gas exploration amid sustained high oil prices. Anchor customer (60% of
revenue) CNOOC’s January capex guidance could propel the stock higher.
Policy/reform beneficiary: China’s energy sector reform could boost domestic
upstream oil/gas exploration and development spending.
Nomura Consensus Nomura Consensus
Company Ticker Mcap (USD) Beta Rating Currency TP TP Price Upside Upside 2013 EPS 2014 EPS 2015 EPS
Hutchison Whampoa 13 HK 53,261 0.99 Buy HKD 110.00 105.35 96.60 14% 9% 22.4% 15.1% 10.6%
China Oilfield Services 2883 HK 13,800 1.14 Buy HKD 29.50 23.80 23.70 25% 0% 33.3% 13.4% 21.8%
BYD 1211 HK 11,569 1.18 Buy HKD 50.00 26.58 37.70 33% -29% 850.0% 169.5% 42.3%
China Longyuan Power 916 HK 10,200 0.77 Buy HKD 11.20 9.86 9.79 14% 1% 15.8% 18.7% 16.7%
China Resources Gas 1193 HK 6,354 0.44 Buy HKD 25.90 21.26 22.00 18% -3% 31.2% 23.4% 24.4%
Sa Sa International 178 HK 3,226 0.79 Buy HKD 10.40 9.53 8.78 19% 9% 25.7% 27.2% 28.4%
Canadian Solar CSIQ US 1,472 2.09 Buy USD 42.00 40.00 31.28 34% 28% na 220.2% 15.2%
AutoNavi* AMAP US 1,063 1.32 Buy USD 19.00 15.75 15.27 24% 3% -110.1% na na
SK Hynix 000660 KS 21,218 1.03 Buy KRW 40,000 40,906 32,050 25% 28% na 46.0% -15.0%
Naver Corp 035420 KS 19,779 0.70 Buy KRW 780,000 708,161 625,000 25% 13% -5.2% 43.6% 57.4%
LG Chem 051910 KS 18,226 1.39 Buy KRW 400,000 375,481 287,000 39% 31% -3.9% 31.6% 21.8%
Medy-Tox 086900 KS 951 0.75 Buy KRW 230,000 228,750 176,600 30% 30% 27.4% 54.2% 23.0%
MediaTek 2454 TT 15,773 1.28 Buy TWD 510.00 467.01 415.00 23% 13% 59.4% 27.2% 19.7%
Catcher Technology 2474 TT 4,392 1.41 Buy TWD 216.00 194.21 173.50 25% 12% 21.9% 1.6% 17.6%
HCL Technologies HCLT IN 11,451 0.69 Buy INR 1,400.0 1,236.8 1,061.9 32% 16% 38.7% 14.0% 11.8%
Maruti Suzuki MSIL IN 7,878 1.08 Buy INR 1,960.0 1,703.1 1,647.0 19% 3% 15.7% 26.8% 19.1%
Lupin LPC IN 6,032 0.58 Buy INR 972.0 994.7 845.9 15% 18% 31.3% 21.1% 11.0%
CIMB Group Holdings CIMB MK 17,217 1.49 Buy MYR 9.00 8.19 7.40 22% 11% -1.0% 16.9% 13.8%
Sembcorp Marine SMM SP 7,330 1.28 Buy SGD 5.20 4.78 4.39 19% 9% -4.1% 12.8% 25.2%
CapitaMalls Asia CMA SP 6,314 1.14 Buy SGD 2.41 2.36 2.00 21% 18% 50.6% 20.5% 5.4%
QBE Insurance Group QBE AU 17,483 0.98 Buy AUD 18.30 16.72 15.70 17% 7% 50.9% 33.8% 15.9%
3) TP = target price; 4) Closing price as of 21 Nov 2013
Nomura Forecast Growth (%)**
Note: 1) *See company write-up below; 2) **Sasa, Maruti and Lupin have March year-endings; for comparability, 2013 for these companies means April 2013 to March 2014, and so on. HCL Tech has a
June year-ending; for comparability, 2013 for HCL Tech means July 2013 to June 2014.
Nomura | Asia Special Report 26 November 2013
56
Daniel Raats – NIHK +852 2252 2197 [email protected]
Leping Huang, PhD – NIHK +852 2252 1598 [email protected]
Joseph Lam, CFA – NIHK +852 2252 2106 [email protected]
Emma Liu – NIHK +852 2252 6172 [email protected]
Nitin Kumar – NSL +65 6433 6967 [email protected]
Leping Huang, PhD – NIHK +852 2252 1598 [email protected]
BYD (1211 HK, TP HKD 50.00)
Policy/reform beneficiary: China’s EV market may reach CNY207bn between 2013-
15F (14x vs. 2010-12) and we expect BYD to take a leading role in this market given
its comprehensive EV portfolio (e-busses and e-taxis) and operational knowhow.
New markets/products: BYD plans to build a production and R&D base in Nanjing
that will make 1,000 e-buses/year by end-2014; it will launch the first e-taxi company in
the city (400 vehicles initially); and build 11 charging stations. We expect major cities
(eg, Tianjin, Guangzhou and Shenzhen) to publish air pollution control plans soon.
Corporate strategy: Margin expansion in handset business is achieved by a rising mix
of higher-margin metal casings for high-end smartphones.
Longyuan (916 HK, TP HKD 11.20)
New markets/products: Superior scale and geographical diversification support the
highest degree of earnings and cash flow surety in the wind space.
Policy/reform beneficiary: With the government's ambitious energy diversification
targets, policy risk remains skewed to the upside.
Corporate strategy: Best placed to take advantage of improvement in PRC wind farm
operator fundamentals given strongest balance sheet.
CR Gas (1193 HK, TP HKD 25.90)
Policy/reform beneficiary: Promising organic and acquisitive growth story amid the
government’s promotion of clean energy usage including natural gas in China. Given
SOE status and its relationship with local governments, we see potential for continuing
acquisition of third-party projects.
Corporate strategy: Harvesting the heavy investment in previous years. We are
confident in seeing full gas cost pass-through for the company.
Sa Sa International (178 HK, TP HKD 10.40)
Lateral growth exposure: We expect strong sales growth in HK & Macau (40% of
total revenue) as we believe traffic growth of mainland customers is sustainable in
FY14F.
New markets/products: We expect Sa Sa to perform well in the long term as we are
bullish on China cosmetics given the under-penetrated market.
Corporate strategy: We believe GPM expansion is on track thanks to improving brand
mix. House brands have higher GPM (>70%) and we expect house brands to account
for 44/45% of total sales in FY14/15F (vs. 42.5% in FY13).
Canadian Solar (CSIQ US, TP USD 42.00)
Lateral growth exposure: Continued consolidation in midstream in China to enable
market share gains and better ASPs, strong cashflows from project sales in Canada
seen in its recent project sales to Concord and Blackrock.
New markets/products: Further potential project pipeline growth in Japan (key
earnings/cashflow driver in 2015F), SE Asia (Thailand, Indonesia and Philippines),
Middle East (recent supply deal with Saudi-Aramco is a solid start), the US and India.
Policy/reform beneficiary: New feed-in-tariff for 2014 in China for utility and
distributed projects, FIT 3.0 in Canada.
AutoNavi (AMAP US, TP USD 19.00)
Lateral growth exposure: We expect the shift of China smartphone ecosystems to
add value towards handset components and mobile internet service providers.
New markets/products: Collaborations with Sina, Qihu360, Dianping, Evernote, and
360 Group Guide will help establish a strong map eco-system. Bundling map app with
products by partners including Alibaba to lower per-unit installation costs.
Nomura | Asia Special Report 26 November 2013
57
CW Chung – NFIK +822 3783 2312 [email protected]
Eric Cha – NFIK +822 3783 2337 [email protected]
Cindy Park – NFIK +822 3783 2324 [email protected]
Cara Song – NFIK +822 3783 2328 [email protected]
Aaron Jeng, CFA – NITB +886 2 2176 9962 [email protected]
Corporate strategy: Driven by management’s ‘free for all’ strategy implemented at
end-Aug 2013 and rising R&D expenses and product upgrades, we expect monthly
active users to reach 200mn by end-2015F (vs 85mn in 3Q13). This reflects a
conscious decision to sacrifice earnings to build an eventually monetisable user base.
Korea
SK Hynix (000660 KS, TP KRW 40,000)
Lateral growth exposure: We believe memory is in a long-term bull cycle after an
early 2013F bottom due to disciplined capex, tech migration and industry
consolidation. Key beneficiary of tight memory supply over the next two years owing to
strong China demand for smartphones/tablets and we estimate SK Hynix has more
than 50% market share in China. We see memory prices making a soft landing
possibly in 2H14F.
Corporate strategy: The company has been quick to recover from the fire incident at
its Wuxi fab, and we expect quarterly earnings to recover from a bottom in 4Q13F.
Naver (035420 KS, TP KRW 780,000)
Lateral growth exposure: Continued search dominance with over 70% mobile query
share in Korea. Mobile messaging has attractive upside globally along with
smartphone penetration. Major markets are in Japan (80% of revenue), Thailand and
Taiwan.
New markets/products: Aggressive LINE push into LatAm and India and currently
tapping into France, Germany and Italy too. US next.
Corporate strategy: LINE’s success reflects differentiated user experience, intense
marketing, user-friendly business model and experienced management.
LG Chem (051910 KS, TP KRW 400,000)
Corporate strategy: Successful transformation of chemical product mix, expansion
into China and Kazakhstan to secure demand and competitive feedstock cost.
New markets/products: Improvement in electronic materials and batteries supported
by rising LCD utilization (2H14) and volume growth in polymer batteries (key customer,
Apple). New products with longer-term potential include ITO film and LCD glass.
Policy/reform beneficiary: Favourable policy environment for the electrical vehicle
industry should boost its automotive battery business.
Medy-Tox (086900 KS, TP KRW 230,000)
New markets/products: Ageing population will boost cosmetics demand in Korea. By
end-FY13F, Medy-Tox plans to complete its third clinical test for a next-gen
formulation to penetrate developed markets from 2015. On 26 Sept 2013, Medy-Tox
signed a distribution contract with Allergan (AGN US, NR), the world’s leading
botulinum toxin (Botox) maker, propelling the business into the global league.
Taiwan
MediaTek (2454 TT, TP TWD 510.00)
Lateral growth exposure: We project FY13/14F EPS growth at 59/27% thanks to
continuing market share gains as QCOM and SPRD are proving less competitive.
Corporate strategy: In addition to various collaborations with handset makers,
software and content providers, we believe a key structural reason for MTK’s success
is the duplication of the white box business model in smartphones from feature
phones.
New markets/products: Partnership with TSMC to make the higher-margin product
Octa-core, slated for mass production from year-end, will differentiate turnkey
solutions.
Nomura | Asia Special Report 26 November 2013
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Eason Hung – NITB +886 2 2176 9965 [email protected]
Ashwin Mehta – NFASL +91 22 4037 4465 [email protected]
Kapil Singh – NFASL +91 22 4037 4199 [email protected]
Saion Mukherjee – NFASL +91 22 4037 4184 [email protected]
Julian Chua – NSM +60 3 2027 6892 [email protected]
Catcher Technology (2474 TT, TP TWD 216.00)
Lateral growth exposure: We forecast solid 18-26% operating profit growth in FY14-
15F, although the earnings profile is less impressive owing to high non-operating
income in FY13. We believe the company is a key beneficiary of the increasing
adoption of metal casings and market share gains in the smartphone market.
Beneficiary of any upside at Apple or US tech generally.
New markets/products: Given Apple’s supplier diversification strategy, Catcher
should win 10-12% of iPhone market share, or 12%/16% of 2014F sales/earnings, in
our view.
India
HCL Technologies (HCLT IN, TP INR 1,400)
Lateral growth exposure: HCLT’s superior positioning in IMS (1/3rd of revenue) will
continue to drive market share gains in the upcoming deal rebids. We expect 28%
CAGR in IMS over FY13-15F driven by USD240bn+ of global IT spending (~2.3x that
of applications development & maintenance), the low Indian IT penetration of ~4%, and
HCLT’s strong deal flow. Global/US recovery could push up discretionary spending
and provide potential growth upsides to enterprise applications and engineering/R&D
services (largest among tier 1 IT), where current street expectations are conservative.
Corporate strategy: Cross selling of other services to clients entered through its
strong IMS practice would be a key part of their growth strategy. HCLT is best placed
within tier-1 IT to overcome potential hurdles from US immigration tightening, given
highest local presence.
Maruti Suzuki (MSIL IN, TP INR 1,960)
Lateral growth exposure: Given high exposure to the rural market (31% of domestic
volume), we believe MSIL will continue to outperform the Indian passenger car
industry. MSIL contributed ~27% to parent Suzuki Motor Corporation’s (7629 JT,
Neutral) revenue in the previous financial year and MSIL has the ability to leverage on
SMC’s global footprint.
Corporate strategy: MSIL has been able to maintain strong profitability despite lower
volumes and increased discounts due to cost reduction and localisation initiatives and
we see scope for margin improvements from lower discounts amid demand recovery.
New markets/products: Strong R&D evidenced by new UV models.
Lupin (LPC IN, TP INR 972.00)
Lateral growth exposure: Lupin has emerged as the largest Indian generic company
in the US and Japan. This is a key reason we believe Lupin is poised for sustainable
growth of 20% earnings CAGR over FY13-16F. Particularly in the US, where Lupin
pursues niche and limited competition opportunities, product approvals remain the key
catalyst and we note that Lupin’s ANDA pipeline presents high visibility and is one of
the best in the industry.
New markets/products: In India, Lupin has completely transformed from an anti-TB
and anti-infective player into a prominent chronic therapy player. Accretive acquisitions
and sustained growth in India and other emerging markets will remain key components
of its growth strategy.
ASEAN
CIMB (CIMB MK, TP MYR 9.00)
Corporate strategy: Driven by the restructuring of Malaysian consumer business, loan
growth in Malaysia is sustaining its upward momentum supported by ASB unit trust
financing, mortgages and auto loans and is well positioned to capture financing growth
from ETP projects. Potential turnaround in the ex-RBS IB business offers upside.
Lateral growth exposure: Despite the difficult operating environment in Indonesia
(30% of group earnings), management is guiding for a strong IB pipeline across the
Nomura | Asia Special Report 26 November 2013
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Nitin Kumar – NSL +65 6433 6967 [email protected]
Min Chow Sai – NSL +65 6433 6959 [email protected]
Toby Langley, CFA – NAL +61 2 8062 8436 [email protected]
APAC region and income growth in Singapore and Thailand. Further supportive global
macro conditions would lead to higher-than-expected capital market revenues.
Sembcorp Marine (SMM SP, TP SGD 5.20)
Lateral growth exposure: SMM’s record order book of SGD13.5bn, the start of
operations at its new Tuas yard, and the completion of its Estaleiro Jurong Aracruz
(EJA) shipyard in Brazil in 2014 will provide solid earnings visibility, in our view.
New markets/projects: Sustained new order flow from Mexico, in our view, is
reflective of the need for modernization and expansion of the drilling fleet in the region
and we expect energy reforms in Mexico to open up the oil and gas sector to foreign
participation and end PEMEX’s state monopoly to further boost demand for jack-ups.
CapitaMalls Asia (CMA SP, TP SGD 2.41)
Lateral growth exposure: FY13F will likely see maiden full-year contribution from new
malls in Japan, China and Singapore that were acquired or completed during FY12. In
addition to the malls scheduled to open in 2014F, CMA’s core earnings growth in
FY15F to be underpinned by upside rental reversion from both the Olinas Mall in Tokyo
and the seven malls opened in China during 2012.
Corporate strategy: Although the operating environment in China will be more
competitive in the next two years, we expect CMA’s operating model to prevail in the
long run and the potential exit of weaker industry players may present opportunities for
CMA to further grow its portfolio.
New markets/projects: We expect the first acquisition in Guangzhou (on 20 Nov
2013) to provide an additional lift to FY15F core earnings.
Australia
QBE Insurance Group (QBE AU, TP AUD 18.30)
Lateral growth exposure: US business looks set to benefit from a return of positive
pricing within the commercial insurance market and its underwriting-biased earnings
profile will continue to offer resilience amid the slowdown in Australian P&C sector
which is likely to persist into FY14F.
Corporate strategy: New management team focusing on the value of the group’s
existing operations (in contrast to the previous management’s acquisition-driven
strategy).
New markets/products: First major player to introduce telematics insurance in
Australia.
Nomura | Asia Special Report 26 November 2013
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Recent Asia Special Reports
Date Report Title
18-Oct-13 Malaysia: At a fiscal crossroads
24-Sep-13 China's heavy LGFV debt burden
06-Sep-13 Asia's wake-up call
30-Aug-13 India and Indonesia: External funding gaps and policy reponses
23-Jul-13 If China sneezes…
19-Jul-13 India: Turbulent times ahead
28-Jun-13 Asia's rising risk premium
17-Jun-13 South Korea's deflation fears are overdone
19-Apr-13 Lower commodity prices – a boon for Asia
15-Mar-13 China: Rising risks of financial crisis
06-Mar-13 Southeast Asia: Different strokes
28-Nov-12 2013 Outlook: Asia's overheating risks
14-Nov-12 South Korea: An Economic Democracy
25-Oct-12 India reforms (Part I): A long way to go
11-Oct-12 Introducing NESII – The Nomura Economic Surprise Index for India
24-Sep-12 Thailand: New growth engines
14-Sep-12 China primed to surprise on the upside
05-Sep-12 Better hedges for a China hard landing
03-Sep-12 India's chronic balance of payments
07-Aug-12 Asia's inflation wildcard
02-Aug-12 Indonesia: Policy swings
31-Jul-12 India: A poor monsoon and its impact (Q&A)
09-Jul-12 South Korea: Prolonged low growth, inflation and rates through 2013
31-May-12 Pan-Asia: Inventory cycle threatens a slow recovery
29-May-12 China's peaking FX reserves
02-May-12 India: Make or break
23-Apr-12 The China compass
16-Apr-12 Korea: Uncomfortable trade-off
11-Apr-12 India: Four cyclical tailwinds to watch
27-Mar-12 Capital account liberalisation in China
09-Mar-12 India budget preview: Fiscal cheer
01-Mar-12 Asia: What if oil prices keep rising?
23-Feb-12 Philippines – Fiscal space to maneuver
16-Jan-12 Decoding India’s stubbornly high inflation
20-Dec-11 Implications from North Korea
18-Nov-11 A cold winter in China
03-Nov-11 Thailand: Dealing with another disaster
31-Oct-11 China Risks
19-Oct-11 Korea: Falling, converging bond yields
21-Sep-11 China: The case for structurally higher inflation
08-Aug-11 Global market turbulence: Implications for Asia
Nomura | Asia Special Report 26 November 2013
61
Disclosure Appendix A-1
ANALYST CERTIFICATIONS
We, Rob Subbaraman, Craig Chan, Vivek Rajpal and Michael Kurtz, NIHK, hereby certify (1) that the views expressed in this Research report accurately reflect our personal views about any or all of the subject securities or issuers referred to in this Research report, (2) no part of our compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this Research report and (3) no part of our compensation is tied to any specific investment banking transactions performed by Nomura Securities International, Inc., Nomura International plc or any other Nomura Group company.
Important Disclosures Online availability of research and conflict-of-interest disclosures Nomura research is available on www.nomuranow.com/research, Bloomberg, Capital IQ, Factset, MarkitHub, Reuters and ThomsonOne. Important disclosures may be read at http://go.nomuranow.com/research/globalresearchportal/pages/disclosures/disclosures.aspx or requested from Nomura Securities International, Inc., on 1-877-865-5752. If you have any difficulties with the website, please email [email protected] for help. The analysts responsible for preparing this report have received compensation based upon various factors including the firm's total revenues, a portion of which is generated by Investment Banking activities. Unless otherwise noted, the non-US analysts listed at the front of this report are not registered/qualified as research analysts under FINRA/NYSE rules, may not be associated persons of NSI, and may not be subject to FINRA Rule 2711 and NYSE Rule 472 restrictions on communications with covered companies, public appearances, and trading securities held by a research analyst account. Nomura Global Financial Products Inc. (“NGFP”) Nomura Derivative Products Inc. (“NDPI”) and Nomura International plc. (“NIplc”) are registered with the Commodities Futures Trading Commission and the National Futures Association (NFA) as swap dealers. NGFP, NDPI, and NIplc are generally engaged in the trading of swaps and other derivative products, any of which may be the subject of this report. Any authors named in this report are research analysts unless otherwise indicated. Industry Specialists identified in some Nomura International plc research reports are employees within the Firm who are responsible for the sales and trading effort in the sector for which they have coverage. Industry Specialists do not contribute in any manner to the content of research reports in which their names appear. Marketing Analysts identified in some Nomura research reports are research analysts employed by Nomura International plc who are primarily responsible for marketing Nomura’s Equity Research product in the sector for which they have coverage. Marketing Analysts may also contribute to research reports in which their names appear and publish research on their sector. ADDITIONAL DISCLOSURES REQUIRED IN THE U.S. Principal Trading: Nomura Securities International, Inc and its affiliates will usually trade as principal in the fixed income securities (or in related derivatives) that are the subject of this research report. Analyst Interactions with other Nomura Securities International, Inc. Personnel: The fixed income research analysts of Nomura Securities International, Inc and its affiliates regularly interact with sales and trading desk personnel in connection with obtaining liquidity and pricing information for their respective coverage universe.
Valuation methodology - Fixed Income Nomura’s Fixed Income Strategists express views on the price of securities and financial markets by providing trade recommendations. These can be relative value recommendations, directional trade recommendations, asset allocation recommendations, or a mixture of all three. The analysis which is embedded in a trade recommendation would include, but not be limited to: • Fundamental analysis regarding whether a security’s price deviates from its underlying macro- or micro-economic fundamentals. • Quantitative analysis of price variations. • Technical factors such as regulatory changes, changes to risk appetite in the market, unexpected rating actions, primary market activity and supply/ demand considerations. The timeframe for a trade recommendation is variable. Tactical ideas have a short timeframe, typically less than three months. Strategic trade ideas have a longer timeframe of typically more than three months.
Distribution of ratings (Global) The distribution of all ratings published by Nomura Global Equity Research is as follows: 44% have been assigned a Buy rating which, for purposes of mandatory disclosures, are classified as a Buy rating; 41% of companies with this rating are investment banking clients of the Nomura Group*. 46% have been assigned a Neutral rating which, for purposes of mandatory disclosures, is classified as a Hold rating; 54% of companies with this rating are investment banking clients of the Nomura Group*. 10% have been assigned a Reduce rating which, for purposes of mandatory disclosures, are classified as a Sell rating; 21% of companies with this rating are investment banking clients of the Nomura Group*. As at 30 September 2013. *The Nomura Group as defined in the Disclaimer section at the end of this report.
Explanation of Nomura's equity research rating system in Europe, Middle East and Africa, US and Latin America, and Japan and Asia ex-Japan from 21 October 2013 The rating system is a relative system, indicating expected performance against a specific benchmark identified for each individual stock, subject to limited management discretion. An analyst’s target price is an assessment of the current intrinsic fair value of the stock based on an appropriate valuation methodology determined by the analyst. Valuation methodologies include, but are not limited to, discounted cash flow analysis, expected return on equity and multiple analysis. Analysts may also indicate expected absolute upside/downside relative to the stated target price, defined as (target price - current price)/current price.
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STOCKS A rating of 'Buy', indicates that the analyst expects the stock to outperform the Benchmark over the next 12 months. A rating of 'Neutral', indicates that the analyst expects the stock to perform in line with the Benchmark over the next 12 months. A rating of 'Reduce', indicates that the analyst expects the stock to underperform the Benchmark over the next 12 months. A rating of 'Suspended', indicates that the rating, target price and estimates have been suspended temporarily to comply with applicable regulations and/or firm policies. Securities and/or companies that are labelled as 'Not rated' or shown as 'No rating' are not in regular research coverage. Investors should not expect continuing or additional information from Nomura relating to such securities and/or companies. Benchmarks are as follows: United States/Europe/Asia ex-Japan: please see valuation methodologies for explanations of relevant benchmarks for stocks, which can be accessed at: http://go.nomuranow.com/research/globalresearchportal/pages/disclosures/disclosures.aspx; Global Emerging Markets (ex-Asia): MSCI Emerging Markets ex-Asia, unless otherwise stated in the valuation methodology; Japan: Russell/Nomura Large Cap.
SECTORS A 'Bullish' stance, indicates that the analyst expects the sector to outperform the Benchmark during the next 12 months. A 'Neutral' stance, indicates that the analyst expects the sector to perform in line with the Benchmark during the next 12 months. A 'Bearish' stance, indicates that the analyst expects the sector to underperform the Benchmark during the next 12 months. Sectors that are labelled as 'Not rated' or shown as 'N/A' are not assigned ratings. Benchmarks are as follows: United States: S&P 500; Europe: Dow Jones STOXX 600; Global Emerging Markets (ex-Asia): MSCI Emerging Markets ex-Asia. Japan/Asia ex-Japan: Sector ratings are not assigned.
Explanation of Nomura's equity research rating system in Japan and Asia ex-Japan prior to 21 October 2013 STOCKS Stock recommendations are based on absolute valuation upside (downside), which is defined as (Target Price - Current Price) / Current Price, subject to limited management discretion. In most cases, the Target Price will equal the analyst's 12-month intrinsic valuation of the stock, based on an appropriate valuation methodology such as discounted cash flow, multiple analysis, etc. A 'Buy' recommendation indicates that potential upside is 15% or more. A 'Neutral' recommendation indicates that potential upside is less than 15% or downside is less than 5%. A 'Reduce' recommendation indicates that potential downside is 5% or more. A rating of 'Suspended' indicates that the rating and target price have been suspended temporarily to comply with applicable regulations and/or firm policies in certain circumstances including when Nomura is acting in an advisory capacity in a merger or strategic transaction involving the subject company. Securities and/or companies that are labelled as 'Not rated' or shown as 'No rating' are not in regular research coverage of the Nomura entity identified in the top banner. Investors should not expect continuing or additional information from Nomura relating to such securities and/or companies.
SECTORS A 'Bullish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a positive absolute recommendation. A 'Neutral' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a neutral absolute recommendation. A 'Bearish' rating means most stocks in the sector have (or the weighted average recommendation of the stocks under coverage is) a negative absolute recommendation.
Target Price A Target Price, if discussed, reflects in part the analyst's estimates for the company's earnings. The achievement of any target price may be impeded by general market and macroeconomic trends, and by other risks related to the company or the market, and may not occur if the company's earnings differ from estimates.
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