KLCI below 1,000 level sooner!

Market sentiments remain weak and likely to be weaker and much volatile. Since its all time high of 1,524 in Jan 2008, the KLCI fell to a recent low of 1,089 on 21 Jul 2008, and it would be a surprise if the index to test below 1,000 level.

The political front doesn’t help, and if that being taken into consideration based on the experience of Thailand and Indonesia, the market P/E could hit a low of 9-10x versus the historical average of 11-12x. It is almost with a great certainty that the pre-Budget 2009 rally will not happen as current political development – the tussle in between members of Pakatan Rakyat, and Barisan Nasional is causing greater uncertainties over economic policies.

Despite the Fed leaving the rate steady, the Dow Jones Industrial Average (DJIA) did not move much. It stayed below the long term key resistance of 11,750. The pace of retail sales has slowed with the effects of stimulus fading and real personal consumption expenditures to contract in 2H08. Consumers continue to pull back on big ticket discretionary items like auto and furniture.

In the KLCI run up from 970 points to its all time high of 1,524.7, it was primarily driven by foreign hedge funds that were funded by Yen-carry trades. And the corresponding drop in recent months can be due to outflows of these funds and the Ringgit’s weakness.

Until we see greater commitment by the authority to support stronger Ringgit, this direction will remain irreversible. The newly formed council by economic advisers, headed by PM Badawi pointed out that the current slowing economic growth has the potential to be most severe downturn in decades – perhaps even exceeding the 1997/98 Asian financial crisis. The Selangor Restaurant Keeper’s Association with 1,770 members has seen falling sales in recent months as patronage has declined, especially in mid-high end restaurants. Revenues are down by as much as 30-40% yoy.

The downside risk for 2H08 and possibly 1Q09 earnings are concentrated in certain sectors – banks, energy, construction, property and utilities. Bank could see a weaker result due to weaker non-interest income from weaker capital markets and mark-to-market losses on securities. Energy services sector continue to see margin pressure from higher costs. Revenue growth assumptions for construction and property stocks continue to be optimistic and uncertainty over the IPP windfall tax and rising fuel cost has affected utilities stock performance, in my opinion.