Markets at Crossroads

MONTHLY OUTLOOKAugust 2020

02

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IN THIS ISSUE

IN THIS ISSUE

The OCBC Wealth Panel draws on the collective expertise and experience of wealth management experts from the OCBC Group, namely OCBC Bank, OCBC Investment Research, Lion Global Investors and Bank of Singapore. With over 200 years of collective investment experience, the OCBC Wealth Panel is dedicated to provide timely advisory services to grow, manage and protect your wealth.

Rebound Amid Continued Uncertainty

Maintain Neutral Position

Escalating US-China Tensions Adds to Uncertainties

Still Positive on EM High Yield

Higher for Longer Gold Prices

GLOBAL OUTLOOK

EQUITIES

HONG KONG / CHINA MARKET OUTLOOK

BONDS

FX & COMMODITIES

P 04-05

P 06-07

P 08

P 09

P 10

Hong Kong’s Recovery Remains A Long Way O�

SPECIALS

P 11

About the OCBC Wealth Panel

The path ahead remains highly uncertain. Di�culties in controlling the renewed spread of Covid-19 have cast doubt on the pace of economic recovery.

More positively, con�dence in Europe’s recovery has been reinforced by an agreement over the €750 billion Recovery Fund.

Overall, the pace of economic recovery worldwide is set to become more uneven after the initial surge that followed the easing of lockdowns. China now seems likely to record positive Gross domestic product (GDP)growth for the full 2020 year, while Europe is set to contract by 7.9% and the US by 5.1%, both slightly worse than previously expected. As a result, world GDP is set to fall 2.2% in 2020, with the improved outlook for China accounting for an upward revision from last month’s forecast of -2.5% global GDP growth.

Reduced policy support and, in some cases, renewed outbreaks of Covid-19 will undermine momentum. In many developed economies, activity will not return to pre-crisis levels until late in 2021 or 2022. As a result, policymakers are likely to proceed with caution when attempting to unwind policy support measures.

Markets at Crossroads

03

ELI LEEHead of Investment Strategy, Bank of Singapore

Rebound Amid Continued Uncertainty

GLOBAL OUTLOOK

“The recession is o�cially over, as restrictions ease and economic activity picks up, but business conditions are likely to remain very di�cult.”

• While we believe the low of the cycle is behind us, a full recovery to pre-Covid-19 levels of output will not happen until 2022.

• China now seems likely to record positive GDP growth for the full 2020 year, while Europe is set to contract by 7.9% and the US by 5.1%, both slightly worse than previously expected. As a result, world Gross Domestic Product (GDP) is set to fall 2.2% in 2020, with the improved outlook for China accounting for an upward revision from last month’s forecast of -2.5% global GDP growth.

• After widespread shutdowns in Q2 2020, we should not be surprised that simply turning the lights on again resulted in an initial sharp spike of growth from an extremely low base. The danger lies in extrapolating this initial sharp bounce to a complete V-shaped recovery. The path of the global recovery remains highly uncertain and heavily dependent on ongoing policy support.

• Reduced policy support and, in some cases, renewed outbreaks of Covid-19 will undermine momentum. In many developed economies, activity will not return to pre-crisis levels until late in 2021 or 2022. As a result, policymakers are likely to proceed with caution

when attempting to unwind policy support measures.

• Overall, the pace of economic recovery worldwide is set to become more uneven after the initial surge that followed the easing of lockdowns.

Growth momentum plateauing• In our base case, the reality of a

drawn-out recovery process will be uneasy with the optimism in markets today, and already we are beginning to see signs of growth momentum plateauing.

• In the US labour market, after 15 weeks of consecutive declines in initial jobless claims numbers, from its peak in March at 6.9 million to 1.3 million, the �gure has turned and increased in the two weeks to 24 July. Of note, the Conference Board Consumer Con�dence index also fell in July, to 92.6 after three consecutive months of increase to 98.3 in June.

• Even in China, which is more advanced in the process of controlling the pandemic, high frequency monitors suggest that the pace of normalisation in activity is moderating. This should not be surprising, given that global economic weakness is posing a signi�cant headwind for China, for which international trade and exports

are major economic components.

Rising infection trends unlikely to lead to widespread shutdowns• The recovery momentum has been

hindered by rising infection rates in various hotspots. In the US, the good news is that the rate of new cases has started to decline.

• We do not expect US policymakers to return to widespread lockdowns, given reduced political will and a more subdued death rate due to the lower average age of those infected.

• In the absence of an e�ective vaccine however, the threat of subsequent waves of infection will continue to loom large. This continues to a�ect the pace of re-opening and negatively impact consumer and investor con�dence.

Wide-ranging stimulus to remain• At the July Federal Open Market

Committee meeting, the Federal Reserve reiterated their “whatever it takes” stance to support the recovery.

• The Fed also extended seven of this year’s crisis programmes, including the Primary and Secondary Market Corporate Credit programmes and the Paycheque Protection Programme Liquidity Facility, all due to expire over

04 GLOBAL OUTLOOK

September to end-December.• In 2H 2020, we further expect the Fed

to further strengthen their commitment to keeping rates at near-zero levels, using an ‘average in�ation targeting’ framework which e�ectively represents a further easing in US monetary policy.

• On the �scal side, coming on the heels of the historic €750 billion stimulus passed in the European Union, we expect another US �scal package soon.

Vaccine race gathers momentum • The successful eventual release of

Covid-19 treatments should limit the long term impact of the virus on global growth.

• As we move through the second half of 2020, scientists around the world are racing against time to overcome the overwhelming Covid-19 related hurdles that stand in the way of a full

re-opening of the global economy.• At the end of July, there were at least

139 candidate vaccines in pre-clinical evaluation, and 26 candidate vaccines in the clinical evaluation stage.

• Given the speed of clinical trials progression amid the deepening health crisis, there is limited clarity and alignment at this point from various regulators globally on what constitutes acceptable standards for a

safe and e�ective vaccine. This poses a challenge.

• De�nitions of a successful vaccine can vary as well, given that some vaccines work on triggering the immune system to �ght as opposed to preventing infection, while others do not produce sterilising immunity (production of neutralising antibodies blocking the virus from entering the cells).

• While we believe the low of the cycle is behind us, a full recovery to pre-Covid-19 levels of output will not happen until 2022.

• China now seems likely to record positive GDP growth for the full 2020 year, while Europe is set to contract by 7.9% and the US by 5.1%, both slightly worse than previously expected. As a result, world Gross Domestic Product (GDP) is set to fall 2.2% in 2020, with the improved outlook for China accounting for an upward revision from last month’s forecast of -2.5% global GDP growth.

• After widespread shutdowns in Q2 2020, we should not be surprised that simply turning the lights on again resulted in an initial sharp spike of growth from an extremely low base. The danger lies in extrapolating this initial sharp bounce to a complete V-shaped recovery. The path of the global recovery remains highly uncertain and heavily dependent on ongoing policy support.

• Reduced policy support and, in some cases, renewed outbreaks of Covid-19 will undermine momentum. In many developed economies, activity will not return to pre-crisis levels until late in 2021 or 2022. As a result, policymakers are likely to proceed with caution

05GLOBAL OUTLOOK

when attempting to unwind policy support measures.

• Overall, the pace of economic recovery worldwide is set to become more uneven after the initial surge that followed the easing of lockdowns.

Growth momentum plateauing• In our base case, the reality of a

drawn-out recovery process will be uneasy with the optimism in markets today, and already we are beginning to see signs of growth momentum plateauing.

• In the US labour market, after 15 weeks of consecutive declines in initial jobless claims numbers, from its peak in March at 6.9 million to 1.3 million, the �gure has turned and increased in the two weeks to 24 July. Of note, the Conference Board Consumer Con�dence index also fell in July, to 92.6 after three consecutive months of increase to 98.3 in June.

• Even in China, which is more advanced in the process of controlling the pandemic, high frequency monitors suggest that the pace of normalisation in activity is moderating. This should not be surprising, given that global economic weakness is posing a signi�cant headwind for China, for which international trade and exports

are major economic components.

Rising infection trends unlikely to lead to widespread shutdowns• The recovery momentum has been

hindered by rising infection rates in various hotspots. In the US, the good news is that the rate of new cases has started to decline.

• We do not expect US policymakers to return to widespread lockdowns, given reduced political will and a more subdued death rate due to the lower average age of those infected.

• In the absence of an e�ective vaccine however, the threat of subsequent waves of infection will continue to loom large. This continues to a�ect the pace of re-opening and negatively impact consumer and investor con�dence.

Wide-ranging stimulus to remain• At the July Federal Open Market

Committee meeting, the Federal Reserve reiterated their “whatever it takes” stance to support the recovery.

• The Fed also extended seven of this year’s crisis programmes, including the Primary and Secondary Market Corporate Credit programmes and the Paycheque Protection Programme Liquidity Facility, all due to expire over

September to end-December.• In 2H 2020, we further expect the Fed

to further strengthen their commitment to keeping rates at near-zero levels, using an ‘average in�ation targeting’ framework which e�ectively represents a further easing in US monetary policy.

• On the �scal side, coming on the heels of the historic €750 billion stimulus passed in the European Union, we expect another US �scal package soon.

Vaccine race gathers momentum • The successful eventual release of

Covid-19 treatments should limit the long term impact of the virus on global growth.

• As we move through the second half of 2020, scientists around the world are racing against time to overcome the overwhelming Covid-19 related hurdles that stand in the way of a full

% 2019 2020 2021

Developed Markets 1.7 -5.5 4.4 US 2.3 -5.1 4.4 Eurozone 1.2 -7.9 5.5 Japan 0.8 -3.6 3.0Emerging Markets 3.6 0.0 6.0 China 6.1 1.6 7.0 Rest of Asia 4.9 0.7 7.5World 2.9 -2.2 5.4

Global growth outlook

Source: Bank of Singapore

re-opening of the global economy.• At the end of July, there were at least

139 candidate vaccines in pre-clinical evaluation, and 26 candidate vaccines in the clinical evaluation stage.

• Given the speed of clinical trials progression amid the deepening health crisis, there is limited clarity and alignment at this point from various regulators globally on what constitutes acceptable standards for a

safe and e�ective vaccine. This poses a challenge.

• De�nitions of a successful vaccine can vary as well, given that some vaccines work on triggering the immune system to �ght as opposed to preventing infection, while others do not produce sterilising immunity (production of neutralising antibodies blocking the virus from entering the cells).

ELI LEEHead of Investment Strategy, Bank of Singapore

EQUITIES

06 EQUITIES

• For equities, we see the longer-term risk-reward to be sound as we emerge from the Covid-19 recession and enter the next expansionary cycle, and this underpins our equal weight stance in equities in our asset allocation strategy.

• Over the near term, however, we see the risks of equity volatility to be higher than average, considering that valuations have largely priced in the initial phase of the recovery to 2021, and that major risks related to renewed Covid-19 infections, the US elections and US-China geopolitics loom in the backdrop.

• In our view, while investors will need to maintain core positions in growth sectors such as technology and healthcare, this is an opportune time to rebalance portfolio weights out of growth and momentum stocks that have outperformed dramatically, and move into cyclical and value names with resilient balance sheets and stable business models, as these are expected to bene�t from the long-term economic recovery.

United States• The 2Q2020 reporting season saw

consensus expecting a deep 42% year-on-year (y-o-y) decline in earnings per share for the S&P500 index.

• The pull-forward of digital trends, as well as an environment of low rates

provide conducive conditions for the strong year-to-date performance of growth stocks in the US. However, record market concentration represents a risk to aggregate index performance. Exceptionally large index weights of mega-cap technolo-gy names could result in the S&P500 index being susceptible to sector- or company-idiosyncratic shocks.

• In our view, potential catalysts for a rotation from growth to value/ cyclicals include

(a) an abatement in new Covid-19 cases in the US and advances in a vaccine development

(b) positive earnings revision for adversely a�ected sectors, and

(c) further �scal stimulus in coming weeks.

Europe• Europe did not disappoint when all

came together to approve the European Union (EU) Recovery Fund. The approval was amply re�ected in the foreign exchange market with the prompt appreciation of the EUR.

• In equities, however, the price action of European indices such as MSCI Europe has been relatively muted, with the already rich valuations. Though this development should lower the risk premium of the region, the direct impact of the measures is more medium-term in nature (rather

than short-term) and hence is unlikely to be re�ected in earnings forecasts anytime soon. Furthermore, the massive Euro rally would be negative for exporters that derive a signi�cant portion of revenue overseas.

• Looking ahead, investors are likely to focus on how smooth the recovery trajectory will be for various economies, and managements’ commentary on the outlook during this earnings season, after a record number of companies withdrew guidance in the last round of earnings.

Japan• With limited growth drivers, Japan’s

equities trailed its global peers and moved in a tight range for July, with some rotational buying interest continuing in small and mid-cap stocks with higher growth exposure. During the month, the raising of the alert level in Tokyo on renewed viral infection cases weighed on investor sentiment and diminished some of the risk-on appetite.

• Near term, we expect further market consolidation with subdued sentiment, due to ongoing concerns over Covid-19 resurgence, heightened US-China tensions and subdued guidance expected from the 1Q2020 reporting season. Attention should focus on Japanese corporates’ �rst full year guidance and outlook statement,

Maintain Neutral Position

“We continue to maintain our equal-weight position in equities given the risks and uncertainties ahead, even as economic data o�er some support as economies re-open.”

given this was previously put on hold due to dim visibility from the Covid-19 outbreak during the FY2019 reporting period.

• Overall, valuations of the Topix index at 16-17 times forward FY2021E price-to-earnings ratio (PER) level appears to have priced in recovery scenarios, although buoyant market liquidity could continue to lend support to extended valuations. Within the current modest growth environment, we prefer accumulating quality names in stages, given our view that consensus estimates remain on the optimistic end.

Asia ex-Japan• The MSCI Asia ex-Japan Index

appreciated for a second consecutive month in July, following a �rm rebound in June.

• However, the fallout from the Covid-19 pandemic has continued to exert pressure on the �nancial system, as illustrated by the Reserve Bank of India’s latest Financial Stability Report. It highlighted that the gross non-performing ratio of all commer-cial banks may increase from 8.5% in March 2020 to 12.5-14.7% by March next year.

• S-REITs kickstarted the earnings season in Singapore. What we have seen is an a�rmation of the trend where the logistics and data centre sub-sectors have been resilient, while performance for the retail and hospitality REITs were lacklustre. However, for retail, there is some optimism based on operational data, where occupancy rates and rents have only come o� slightly for the suburban malls. Asset valuations in Singapore have also unsurprisingly seen some impairment by low-to-mid single-digits. This was largely due to rental assumptions being moderated.

• What did come as a surprise to the market was the announcement by the Monetary Authority of Singapore (MAS) to call for the locally-incorporated

banks headquartered in Singapore to cap their total dividends per share (DPS) for FY2020 at 60% of FY2019’s DPS, and also to o�er shareholders the option of receiving their dividends in scrip instead. While the latest dividend cap for the banking sector is a disappointment for investors this year, mandating prudence on capital usage is largely in line with regulators’ cautious stance globally amid the Covid-19 outbreak. We believe Singapore banks are still relatively less constrained than European banks despite this latest development.

China• 2Q2020 macro data showed economic

activities continuing the path to recovery, with better-than-expected infrastructure and property activities. While headline retail growth was still in negative territory, the robust momentum for online retail sales remained intact. The rebound in 2Q2020 could lower the government’s incentive to ramp up the intensity of policy support in the near term, but we believe the possibility of lowering policy rates remains.

• The onshore A-share market outperformed o�shore China

equities, Hong Kong and Asia ex-Japan in July. Comparing the strong outperformance of the China A-shares market with the previous rally in 2014-15, our view is that the current situation is relatively healthy, with better control in overall leverage and a more targeted and disciplined monetary easing. We believe the government would be ready to step in to pre-empt a replay of the “2015-rally” if needed.

• At current levels, PER valuations of MSCI China index look stretched and are beyond the +2 standard deviation level to historical average. The launch of the Hang Seng TECH Index would be positive for market sentiment and is expected to draw passive fund �ows with the expected launch of exchange-traded funds (ETFs) tracking the HS TECH index.

• Given the stretched valuations, the market is set to be more volatile and vulnerable to consolidation and pro�t taking on the back of renewed US-China tensions and potentially disappointing 2Q2020 results. Multiple headlines on US-China tensions would add to uncertainties in the near-term and this remains our biggest concern for the Chinese equities market.

07EQUITIES

• For equities, we see the longer-term risk-reward to be sound as we emerge from the Covid-19 recession and enter the next expansionary cycle, and this underpins our equal weight stance in equities in our asset allocation strategy.

• Over the near term, however, we see the risks of equity volatility to be higher than average, considering that valuations have largely priced in the initial phase of the recovery to 2021, and that major risks related to renewed Covid-19 infections, the US elections and US-China geopolitics loom in the backdrop.

• In our view, while investors will need to maintain core positions in growth sectors such as technology and healthcare, this is an opportune time to rebalance portfolio weights out of growth and momentum stocks that have outperformed dramatically, and move into cyclical and value names with resilient balance sheets and stable business models, as these are expected to bene�t from the long-term economic recovery.

United States• The 2Q2020 reporting season saw

consensus expecting a deep 42% year-on-year (y-o-y) decline in earnings per share for the S&P500 index.

• The pull-forward of digital trends, as well as an environment of low rates

provide conducive conditions for the strong year-to-date performance of growth stocks in the US. However, record market concentration represents a risk to aggregate index performance. Exceptionally large index weights of mega-cap technolo-gy names could result in the S&P500 index being susceptible to sector- or company-idiosyncratic shocks.

• In our view, potential catalysts for a rotation from growth to value/ cyclicals include

(a) an abatement in new Covid-19 cases in the US and advances in a vaccine development

(b) positive earnings revision for adversely a�ected sectors, and

(c) further �scal stimulus in coming weeks.

Europe• Europe did not disappoint when all

came together to approve the European Union (EU) Recovery Fund. The approval was amply re�ected in the foreign exchange market with the prompt appreciation of the EUR.

• In equities, however, the price action of European indices such as MSCI Europe has been relatively muted, with the already rich valuations. Though this development should lower the risk premium of the region, the direct impact of the measures is more medium-term in nature (rather

than short-term) and hence is unlikely to be re�ected in earnings forecasts anytime soon. Furthermore, the massive Euro rally would be negative for exporters that derive a signi�cant portion of revenue overseas.

• Looking ahead, investors are likely to focus on how smooth the recovery trajectory will be for various economies, and managements’ commentary on the outlook during this earnings season, after a record number of companies withdrew guidance in the last round of earnings.

Japan• With limited growth drivers, Japan’s

equities trailed its global peers and moved in a tight range for July, with some rotational buying interest continuing in small and mid-cap stocks with higher growth exposure. During the month, the raising of the alert level in Tokyo on renewed viral infection cases weighed on investor sentiment and diminished some of the risk-on appetite.

• Near term, we expect further market consolidation with subdued sentiment, due to ongoing concerns over Covid-19 resurgence, heightened US-China tensions and subdued guidance expected from the 1Q2020 reporting season. Attention should focus on Japanese corporates’ �rst full year guidance and outlook statement,

given this was previously put on hold due to dim visibility from the Covid-19 outbreak during the FY2019 reporting period.

• Overall, valuations of the Topix index at 16-17 times forward FY2021E price-to-earnings ratio (PER) level appears to have priced in recovery scenarios, although buoyant market liquidity could continue to lend support to extended valuations. Within the current modest growth environment, we prefer accumulating quality names in stages, given our view that consensus estimates remain on the optimistic end.

Asia ex-Japan• The MSCI Asia ex-Japan Index

appreciated for a second consecutive month in July, following a �rm rebound in June.

• However, the fallout from the Covid-19 pandemic has continued to exert pressure on the �nancial system, as illustrated by the Reserve Bank of India’s latest Financial Stability Report. It highlighted that the gross non-performing ratio of all commer-cial banks may increase from 8.5% in March 2020 to 12.5-14.7% by March next year.

• S-REITs kickstarted the earnings season in Singapore. What we have seen is an a�rmation of the trend where the logistics and data centre sub-sectors have been resilient, while performance for the retail and hospitality REITs were lacklustre. However, for retail, there is some optimism based on operational data, where occupancy rates and rents have only come o� slightly for the suburban malls. Asset valuations in Singapore have also unsurprisingly seen some impairment by low-to-mid single-digits. This was largely due to rental assumptions being moderated.

• What did come as a surprise to the market was the announcement by the Monetary Authority of Singapore (MAS) to call for the locally-incorporated

banks headquartered in Singapore to cap their total dividends per share (DPS) for FY2020 at 60% of FY2019’s DPS, and also to o�er shareholders the option of receiving their dividends in scrip instead. While the latest dividend cap for the banking sector is a disappointment for investors this year, mandating prudence on capital usage is largely in line with regulators’ cautious stance globally amid the Covid-19 outbreak. We believe Singapore banks are still relatively less constrained than European banks despite this latest development.

China• 2Q2020 macro data showed economic

activities continuing the path to recovery, with better-than-expected infrastructure and property activities. While headline retail growth was still in negative territory, the robust momentum for online retail sales remained intact. The rebound in 2Q2020 could lower the government’s incentive to ramp up the intensity of policy support in the near term, but we believe the possibility of lowering policy rates remains.

• The onshore A-share market outperformed o�shore China

equities, Hong Kong and Asia ex-Japan in July. Comparing the strong outperformance of the China A-shares market with the previous rally in 2014-15, our view is that the current situation is relatively healthy, with better control in overall leverage and a more targeted and disciplined monetary easing. We believe the government would be ready to step in to pre-empt a replay of the “2015-rally” if needed.

• At current levels, PER valuations of MSCI China index look stretched and are beyond the +2 standard deviation level to historical average. The launch of the Hang Seng TECH Index would be positive for market sentiment and is expected to draw passive fund �ows with the expected launch of exchange-traded funds (ETFs) tracking the HS TECH index.

• Given the stretched valuations, the market is set to be more volatile and vulnerable to consolidation and pro�t taking on the back of renewed US-China tensions and potentially disappointing 2Q2020 results. Multiple headlines on US-China tensions would add to uncertainties in the near-term and this remains our biggest concern for the Chinese equities market.

Equity valuations have largely priced in the initial phase of the recovery to 2021

P/E ratios based on next year’s earnings22

20

18

16

14

12

10

8

6

World

10-year high

10-year low

Current levels

+1 s.d.

-1 s.d.

Emerging Markets US Europe

Asia ex-Japan Japan

Note: Chart shows the forward price-to-earnings (P/E) ratios of major equity indices based on current prices and consensus earnings estimates for the next �nancial year, vs. their respective 10-year historical highs and lows, as well as levels corresponding to one standard deviation above and below their 10-year historical averages.Source: Bloomberg, MSCI, Bank of Singapore; as at 2 August 2020

ELI LEEHead of Investment Strategy, Bank of Singapore

HONG KONG / CHINA MARKET OUTLOOK 08

HONG KONG / CHINA MARKET OUTLOOK

• 2Q macro data showed economic activities continuing on the path to recovery, with better-than-expected infrastructure and property activities. While headline retail growth was still in negative territory, the robust momentum for online retail sales remained intact. While the rebound in 2Q could lower the government’s incentive to ramp up the intensity of policy support in the near term, we believe the possibility of lowering policy rates remains.

• The onshore A-share (CSI300) market has outperformed o�shore China equities, HK and Asia ex-Japan in July. Comparing the strong outperformance of the China A-shares market with the previous rally in 2014-15, our view is that the current situation is relatively more “healthy”, with better control in overall leverage and a more targeted and disciplined monetary easing. We believe the government would be ready to step in to pre-empt a replay of the “2015-rally” if needed.

• At current levels, PER valuations of MSCI China look stretched and are beyond the +2 s.d. level to historical average. The launch of the Hang Seng TECH Index would be positive for market sentiment and is expected to draw passive fund �ows with the expected launch of exchange-trade funds (ETFs) tracking the HS TECH index. Given the stretched valuations, the market is set to be more volatile and vulnerable to consolidation and pro�t taking on the back of renewed US-China tensions and potentially disappointing 2Q results. Multiple headlines on US-China tensions would add to uncertainties in the near-term and this remains our biggest concern for the Chinese equities market.

• Should geopolitical tensions escalate, the A-shares market would be better positioned than the o�shore Chinese equities markets. We recommend that investors deploy a barbell strategy focusing on reasonably valued growth stocks and market leaders that would bene�t from cyclical growth upside. Any consolidation would be an opportunity to accumulate on a dip.

• In addition to the investment themes highlighted previously, we prefer laggards that are market leaders and could bene�t from cyclical growth upside. With infrastructure �xed asset investment (FAI) remaining solid and property FAI growth accelerating, we believe infrastructure and construction-related sectors, such as construction machinery and materials would also bene�t from the cyclical pick up.

• We also prefer Macau gaming, which would o�er tactical trading opportunities with an uplift of quarantine requirements, China insurance for a gradual recovery, and selective Chinese property developers. While we maintain our preference for rising online engagement as an investment theme, the share prices of many players are approaching our fair value estimates, and we recommend that investors accumulate on dips.

Escalating US-China Tensions Adds to Uncertainties

“Given the stretched valuations, the market is set to be more volatile and vulnerable to consolidation and pro�t taking on the back of renewed US-China tensions and potentially disappointing 2Q results. Multiple headlines on US-China tensions would add to uncertainties in the near-term and this remains our biggest concern for the Chinese equities market.”

VASU MENONExecutive Director, Investment Strategy, Wealth Management Singapore, OCBC Bank

BONDS

09BONDS

Still Positive on EM High Yield

“The extent to which the second wave of Covid-19 infections adversely impacts the global economic recovery remains the biggest risk facing corporate bond markets.”

• For the third straight month, global corporate bonds rallied strongly, helped by policy support from the Federal Reserve. Emerging Market (EM) corporate bonds was up 2.2%, with High Yield (HY) up 2.3% and Investment Grade (IG) up 2.1%. In Developed Markets (DM), IG rose 3.1% while US HY rose a remarkable 4.4%.

Emerging Market spreads stage big rally• EM HY spreads tightened 26 basis points

(bps) in July and at +630 bps have erased around 60% of the loss since 23 March. Meanwhile, EM IG spreads tightened 20 bps to +270 bps, still well o� the pre-Covid-19 tight of +190 bps.

Technical picture improves with positive in�ows• For the week ending 29 July, EM

bonds recorded net in�ows of US$0.18 billion on top of the US$ 1.22 billion and US$1.89 billion in positive in�ows the previous weeks. Despite the more positive recent numbers, there has still been out�ows of US$47.4 billion during 2020. However, out�ows in hard currency bonds have been much more muted,

accounting for only US$7.1 billion of this total.

Prefer Asian High Yield• We remain overweight in Asian HY,

especially Chinese HY property bonds. During July, Chinese HY outperformed its IG counterparts, re�ecting the optimism from the reopening of China’s economy, continuous recovery in sales for the property development sector, and the abundance of market liquidity from central bank stimulus. The credit spread margins between Chinese IG and HY sector tightened to 587bp from 671bp at end-June. This compares to 473bp at the beginning of the year. It means Chinese HY bonds are still better relative value. The plentiful market liquidity also limits a major risk – re�nancing risk – for HY issuers. These factors continue to support our overweight call for the Chinese HY property sector.

• We acknowledge intensifying uncertainties in the coming quarter as the US presidential election in November this year approaches, given that China-US relations is perceived to be a strategy to win votes. Any escalation of con�ict between the

two countries could cause volatility, more so in Chinese HY bonds. As a result, we prefer quality HY names and investors should become more selective than previously, given the rally of HY bonds verses IG bonds since the March low.

Maintain overweight rating on High Yield and market weight on Investment grade• We are maintaining our overweight

stance on EM HY and neutral stance on EM IG. However, given the potential for periods of higher volatility emanating from both economic and political noise in the coming months, we would focus on the lower-beta “BB” portion of the market.

• HY has outperformed in recent months as the markets have pivoted from focusing on worst-case fat-tail outcomes to better economic data from re-opening of markets and ongoing central bank support, anchored by the Fed. In the absence of a signi�cant recurrence of the pandemic in key markets, we expect this trend to continue in the coming months.

10 FX & COMMODITIES

VASU MENONExecutive Director, Investment Strategy, Wealth Management Singapore, OCBC Bank

FX & COMMODITIES

Higher For Longer Gold Prices

“The possibility of central banks attempting to in�ate away a debt overhang in a world of near-zero interest rates and worries of currency debasement, means that gold will remain attractive as a safe-haven.”

Oil• We are raising 12-month Brent oil price

target to US$50/barrel versus US$45/barrel previously. Oil prices could be choppy for a bit longer as another wave of infections and recovering North American oil supply will likely weigh on oil price sentiment. The rise in gasoline and distillate inventories, which come amid the US summer driving season – when demand usually rises sharply, and inventories normally fall – also warns that easy gains in oil prices are behind us. This all comes as the market is preparing for the OPEC+ alliance to pull back from unprecedented production cuts in August. But any weakness in oil prices is likely to be temporary.

Currency• The broad US Dollar (USD) decline has

accelerated over the past four weeks, and there may be little in the horizon that could halt this decline. What we may be seeing is a broad-based USD sell-o� beyond the typical risk-on/risk-o� dynamics.

• In the near term, the virus situation in the US remains severe, and it is a negative factor for the USD. Uncertainty about �scal policy support for the US economy also weighs on the greenback and may even be structural negative for the greenback. Meanwhile, a dovish Federal Reserve means US Treasury yields will be depressed, further compromising the rate di�erential advantage of the USD.

• Thus, USD-negative drivers are in plain sight. The issue is that everyone

• We expect oil demand to continue to grind higher and next year might surprise on the upside if international trade recovers. In addition, OPEC+ compliance is likely to remain strong and support oil prices, while radical reductions in drilling across the world should remain in place until oil prices start to rise above US$50/barrel.

Gold• Gold has outshone other reserve

currencies such as the US Dollar (USD), Japanese Yen (JPY), Euro (EUR) and Swiss Franc (CHF) this year. Risk of central banks attempting to in�ate away a debt overhang in a world of near-zero interest rates and worries of currency debasement should keep gold as a “haven” asset of choice.

• Gold is well supported by falling US real yields. This will limit corrections and keep gold as a “haven” asset of choice versus other traditional “safe assets” such as government bonds, given that the bene�ts of declining nominal yields are mostly exhausted with interest rates at virtually zero in the US and little indication that the Fed intends to drop them into negative territory.

• Gold’s rise is also an indication of currency debasement fears stoked by expansion of central bank balance sheets. Gold does not have the comparative negatives of other “haven” currencies such as the USD, JPY, EUR or CHF, as central banks can print money but cannot print gold.

is on the same side of the boat now, and price movements are starting to look stretched. This leaves room for a potential USD rebound. In particular, the major currencies are running into key support/resistance levels against the USD, and any sign of fatigue may quickly develop into a stronger USD as pro�t-taking kicks in.

• In Asia, broad-based USD weakness means stronger Asian currencies against the greenback. However, we see several factors that are also supportive of the USD vis-à-vis Asian currencies. In the near term, Sino-US tension and a tight correlation between USD-CNH (Chinese currency) and selected USD-Asia currency pairs, may o�er support to the USD vis-à-vis Asian currencies.

• Portfolio in�ows into Asia have also

softened. In addition, we note the ongoing weakness of aggregate Asian economic prints (except for China) relative to US and Europe. This should also limit the room that Asian currencies have to appreciate.

• On the Singapore Dollar (SGD) front, even though the USD/SGD has broken lower, the SGD NEER (nominal e�ective exchange rate) remains anchored to the parity level. This suggests that the USD/SGD decline re�ects broader USD weakness, rather than any domestic SGD-positive drivers.

• Note that the correlation between the USD/SGD and the DXY (USD) Index is also tight. Thus, do not rule out further declines in the USD/SGD, especially if the broad USD continues to capitulate.

“Hong Kong’s GDP surprised on the downside with a contraction of 9.0% year-on-year (YoY) although the decline narrowed slightly from the downwardly revised growth of -9.1% YoY in the �rst quarter. Private consumption (-14.5% YoY, largest fall on record despite pent-up demand and relief measures), �xed investments (-20.6% YoY, the worst since the second quarter of 1999) and the exports of services (record -46.6 per cent YoY) remained the main drags amid the Covid-19 shock. The exports of goods turned out to be a bright spot with the decline narrowing from 9.7% YoY in the �rst quarter to 2.1% YoY in the second quarter. This could be attributed to the re-opening of the global economy from May and China’s recovery. Moving into the third quarter, the resurgence of Covid-19 is set to complicate the recovery. With most of the economic activities coming to a near-standstill amid the strictest containment measures since the coronavirus outbreak, local consumption, �xed investments and exports of services may remain mired in a downtrend. On a positive note, the economic contraction in the third quarter may still narrow from here given the low base e�ect and the benign recovery of other major economies. In conclusion, we expect GDP to fall by 6 to 7% depending on the Covid-19 development.”

• Hong Kong’s economy shrank for the fourth consecutive quarter and missed expectation by contracting 9% YoY in the second quarter. The decline narrowed slightly from the down-wardly revised growth of -9.1% YoY in the �rst quarter. Also, the seasonally adjusted quarter-on-quarter (qoq) growth contracted at a milder rate than in the �rst quarter by 0.1%.

• Zooming in, the decline in private consumption widened to a record 14.5% YoY in the second quarter, due to worsening unemployment, weak wage prospects and social-distancing measures. These indicate that a combination of slowdown in new infections, pent-up demand, relief measures and positive wealth e�ect from the stock market and housing market rally were not a game changer for the local consumption.

• Worse still, �xed investments plunged by 20.6% YoY, the worst since the

second quarter of 1999 as business sentiment remained soft amid the lingering e�ects of the Covid-19 shock and dire economic outlook.

• Externally, as the travel restrictions were tightened from late March, exports of services shrank by record 46.6% YoY. By contrast, the exports of goods turned out to be a bright spot with the decline narrowing from 9.7% YoY in the �rst quarter to 2.1% YoY in the second quarter. This could be attributed to the re-opening of global economy from May and the China’s recovery.

• Moving into the third quarter, the resurgence of Covid-19 reinforces the fact that the road to recovery will be a bumpy ride. With most of the economic activities coming to a near-standstill amid the strictest containment measures since the coronavirus outbreak, we may see a new wave of bankruptcies and layo�s

especially in the hardest-hit sectors including F&B, tourism, retail and hospitality. We expect overall unemployment rate (6.2% in the second quarter) will rise further towards 7%. Meanwhile, local consumption, �xed investments and exports of services may remain mired in a downtrend as a result of virus resurgence.

• On a positive note, the economic contraction in the second quarter may still narrow from here given the low base e�ect and the benign recovery of major economies. For the fourth quarter, the outlook will hinge largely on the Covid-19 development. In conclusion, we tip a recession of 6% for 2020 on the assumption that there will be additional relief measures to help put a �oor under the damaged economy. However, further downside is still possible should Covid-19 situation keep worsening.

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CARIE LIEconomist, Treasury Research, Treasury Division, OCBC Wing Hang

Hong Kong’s Recovery Remains A Long Way O�

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