March Monthly Strategy: HSI may fall again on epidemic after short-term rebound
- Coronavirus fears spreading across the globe. Starting from late Feb the spread of coronavirus has been worsening as the number of new cases reported outside China exceeded that in China in the past consecutive days. It is expected the epidemic will drag global GDP growth to the lowest ever since 2008 financial crisis, meanwhile sell-off was already seen in US market.
- Fed cut rate by 50 bps. As US stocks tumbled, investors took shelter in US Treasury, driving yields lower. On 3 Mar, the Fed cut rate by 50 bps in an unscheduled meeting in light of the risks being posed by the coronavirus to economic activity. However, slashing interest rate once or twice would do little help in bolstering a sagging market.
- Three indicators to watch when timing the bottom. Ongoing virus outbreak outside China adds new risk to global economy and financial market. Hong Kong market can hardly stay aloof unaffected. We believe HSI is likely to extend its loss from the peak in mid-Jan and 25,989 in end-Feb is not yet the absolute bottom. HSI could be trending lower after the short-term rebound. By valuation, HSI has reached its trough at 9.3-9.6x forward P/E for a number of times in recent years. Revisiting 9.6x forward P/E implies a 6% potential downside in HSI from here. In other words, 24,800 could be the bottom. However, earnings forecasts are subject to uncertainties as possible disappointing results and management guidelines announced in Mar could lead to downward revision of forecasts.
- Bottom estimated at 24,500-25,200. A near-term rebound is likely as HSI hits 26,000 to form a “double bottom”. But HSI has already broken the medium-term uptrend since Aug 2019, so the next support level for HSI should be 25,200. Besides, the forming of “head and shoulders” could drag HSI further to 24,500. HSCEI is also expected to stage a rebound with medium-term support at 9,750.
- VIX signals a trough in short term. A sell-off triggered by major bad news usually bottoms out amid panic. VHSI ranged from 26-30 when HSI hit the bottom in the past two years. On 28 Feb, VHSI rose to above 32, topping the previous panic range. It could signal a trough in the short term.
- Investment strategy – buy in three phases. In phase 1, investors may focus on sectors with policy support such as infrastructure, construction machinery, cement and 5G telco equipment. We recommend stocks less impacted by the epidemic with policy support.
- Phase 2 – China consumer stocks less affected by epidemic. When outbreak is fully contained in China, go for China consumer stocks which are less impacted by COVID-19, including property management, education, healthcare, dairy, gas, internet, as well as handset equipment names that benefit from work resumption. China consumer stocks is expected to show higher earnings visibility amid overseas outbreak.
- Phase 3 – Sectors mostly hit by epidemic. When the global epidemic is eventually contained, bottom-fish sectors with positive outlook in the long run, such as sports apparel, export, transportation, retail, and franchised restaurant. These sectors experience significant fall in stock price during outbreak and leave huge room for upward revision in earnings and valuation. Normally stock price hits the trough before all news are out. Investors may consider bargain hunting the abovementioned sectors when risk aversion begins to cool down. One of the reference indicators is gold price. If gold price slides back to the peak of previous trajectory and below US$ 1,550 with weakening momentum, it indicates a significant drop in risk aversion.
