Hong Kong: Asia’s equity rally has been largely bulletproof this year with the regional benchmark up about 10 per cent in less than four months.
What might be more concerning is how calm the market has been — volatility on the MSCI Asia Pacific Index is now at a level last seen in October, just before the massive risk asset sell-off that sent stocks plunging 14 per cent in less than three months.
For some investors, it’s not a question of if the rally will come to an end, but rather when, and that could be as soon as the second quarter.
“For the second quarter, we believe equity valuations are at risk,” said Florian Ielpo, portfolio manager with Unigestion’s Multi Asset Navigator fund, in a second-quarter macro investment report to clients. Higher valuations and expectations of disappointing earnings outlook amid concerns surrounding economic growth suggests that market have been complacent, the note added.
What concerns Ielpo is that while in the past three periods of slowdown or recession, the trigger for a recovery was a sharp improvement in economic conditions, that’s not the case this time: growth is decent yet decelerating.
Rather, the trigger was a combination of discount valuations coupled with a “significant change in tone” by developed market central banks, especially the Federal Reserve, Ielpo said. And both of those elements are at risk, he said.
Indeed, forward valuations for both global and Asia stocks have surged since the end of the year. The blended forward 12-month price-to-earnings ratio for both the MSCI All-Country World Index and the MSCI Asia Pacific Index have jumped 20 per cent and 18 per cent respectively from the December low. Both indexes have rallied more than 10 per cent each this year.
Meanwhile, analysts’ earnings growth expectations have been steadily revised downwards so far this year for the MSCI World Index, down to 2 per cent at the end of March from 5 per cent at the start of the year, according to Ielpo.
Very early earnings results from Asia may also be starting to confirm this view.
Fast Retailing Co., operator of the Uniqlo clothing brand and shops, cut its annual profit forecast for the first time in three years after the market close on Thursday. Still, the shares rose.
In the US, Bloomberg Intelligence analysts Gina Martin Adams and Michael Casper are a bit more optimistic for the fortunes of S&P 500 stocks, as rock-bottom estimates may give companies a better chance of surprising to the upside.
“S&P 500 companies that confirm analyst views that margin expansion will support second-half profit recovery may fare best,” they said in a report this week. “With sentiment highly sceptical, we think price reactions this earnings season could be as extreme as they were in response to fourth-quarter reports.”