HSC Strategy Report

HSC put out a very thorough and comprehensive report this week.

This makes excellent reading, for anyone who has not read it yet.

Kudos to HSC and to everyone else, Enjoy!

Executive summary

Has the market bottomed? Yes we believe it has for the time being. But that doesn’t mean we have seen the long term bottom in this bear market yet. The stock market has bounced off the 370 level on the VN index twice in mid June and has since rallied over 30%. Domestic buyers have returned to the market and market turnover has improved dramatically in the past six weeks. The technical selling in key blue chips stocks has come to an end and foreigners have are more active in the market.

We also suspect that some money has shifted out of gold and back into the stock market. These flows are small and could easily be reversed.

The key to the market’s bounce is a return of some stability to the currency and money markets. May/June was a volatile time and the gap between the official and unofficial VND/US$ exchange rates widened as much as 18% in June. That gap has almost closed again.

This new mood of relative optimism has been fueled by a dramatic fall in the trade balance and a peaking in the monthly CPI numbers. The credit crunch has halted the runaway economy and in the 2-H evidence of a slowdown is accumulating. Even the recent 31% hike in petrol prices won’t halt this trend for very long.

The macro problems that bedeviled the 1-H have started to subside and now all attention is focused on how hard the landing will be. In our base case scenario we forecasts a fairly soft landing with GDP growth of 6% this year. Imports have already fallen sharply and credit is hard to come by. Other indicators such as industrial production and retail sales are likely to experience a slowdown as the effects spread.

Now that the asset bubble has burst we await the microeconomic fallout as prices in the real estate and stock markets have already fallen heavily. Given that much of the country’s credit is anchored by collateral such as property or in some cases stocks we expect to see a rise in doubtful loans from now on.

In addition the economic slowdown is leading to a downtick in demand and putting pressure on core earnings. Margins are falling as input costs have been rising faster than output prices. 1-H earnings did not see the effect of this but in the 2-H core earnings are likely to slow significantly.

Most sectors will be affected including banks, real estate companies and construction firms. However oil related, pharmaceutical and consumer goods companies should do relatively better as they escape the worst.

In addition provisioning against writedowns in equity positions will place an additional burden on year-end earnings. If current prices remain the same a 30% writedown of the value of a typical equity portfolio would seem fair to us. Most companies have chosen to delay this exercise until the audited results at the end of the year.

We forecast that FY2008 corporate earnings will fall -2% leading to a 28% drop at the EPS level. This is due to the heavy dilution leftover from last year (using IAS standard calculations for outstanding shares).

While the market has staged a good recovery from an oversold position we think that in Q4 we may have to test the bottom again as the investors price in slowing earnings. In our opinion this will be the final downturn in the current bear market and this would be the last chance for medium to long term investors to buy in close to the market’s lows. Hence we would be buyers into any weakness.

As Vietnam is a relatively young market out stock picks are focused on a best of breed strategy. There is a lot of pent-up growth potential across most sectors which will be released again as the economy starts to recover next year. Companies with good management and solid balance sheets will be best placed to benefit regardless of the sector they are in.

The long term story is intact and indeed the current weakness offers the opportunity to buy into it at very reasonable valuations in the coming months. So while the short term horizon does offer a few clouds, beyond the clouds the sun awaits.

http://www.hsc.com.vn/Upload/ Reports/Strategy-Report- August-2008.pdf