Thursday 28 Sep 2023
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This article first appeared in Capital, The Edge Malaysia Weekly on November 22, 2021 - November 28, 2021

MALAYSIA’s headline inflation picked up in September after four months of decline, with food prices being the key contributor. In view of the pent-up demand and rising cost of business, the upside risk to inflation appears to be getting more pronounced moving into 2022.

What will this mean for the equity market and how should investors build a portfolio to hedge against rising inflation?

Raising interest rates to tame rising inflation will have a negative impact on the stock market. At the same time, when corporate earnings are affected by inflationary pressure, equity prices will adjust accordingly to reflect that.

“If the inflationary pressure is caused by too much liquidity in the market, one of the ways [to tackle that] is to raise interest rates. In the case of the US, it is undertaking the tapering exercise. That will help, but with less liquidity, there will be less cheap money chasing after equities,” Ivy Ng, head of research at CGS-CIMB Securities, tells The Edge. That said, she expects Malaysia’s overnight policy rate (OPR) to start rising only in mid-2022.

Alexander Chia, head of research at RHB Research Institute, points out that generally, higher inflation will increase the cost of funds, which in turn will weigh on equities. As such, he recommends that investors look for stocks that can generate a strong cash flow as well as high-dividend-yielding stocks.

“We will look at the commodity play, such as oil and gas (O&G) stocks, but are not so positive on plantation stocks because we think crude palm oil prices have peaked,” he says.

Although O&G and plantation stocks have benefitted from the commodity boom, Ng advises investors to go only for short-term trades as the current commodity rally is unlikely to be replicated every year.

While property is another conventional asset class for hedging against inflation, her advice is to invest in property firms that can thrive in the current environment. Similarly, in the real estate investment trust (REIT) segment, the focus should be on REITs that have decent occupancy rates and footfall.

In the consumer segment, rising raw material prices have resulted in a mixed outlook for companies.

“It is very dependent on the ability to raise product prices — whether demand is enough for them to raise prices without affecting their sales volume. But you can see brewers have started to raise prices because they feel demand can absorb that price hike,” Ng says of Carlsberg Brewery Malaysia Bhd’s confirmation about a fortnight ago that it will revise the prices of some of its drinks from the middle of this month to account for rising costs.

“Companies will have to review their cash flow and decide how much dividends they can afford to give. You have to study the tax impact.”

Despite gold being a hedge against inflation, Ng does not foresee investors flocking to jewellers such as Tomei Consolidated Bhd and Poh Kong Holdings Bhd to buy gold.

“Jewellers may make short-term gains from the stocks they have. I don’t think people will buy physical gold when they want to hedge against inflation because you can also buy gold directly through the various exchanges,” she explains.

Fortress Capital Asset Management CEO Thomas Yong says while it is typical to quote defensive investments as a hedge against inflation, it is unwise to choose any single asset class or investment type for that purpose.

“A better alternative is to have a portfolio of different asset classes to generate investment returns that are higher than the rate of inflation. Portfolio risks are always easier to manage, while still achieving the required returns.

“Additionally, in every instance of a protracted low interest rate environment, asset price inflation — when prices of financial assets rise above their intrinsic value — is inevitable. As such, taking an overly defensive stance at this time could be counter-productive.”

Nonetheless, Yong’s advice is to confine investments to asset classes where investors can meaningfully assess their underlying intrinsic value.

Although inflation could adversely impact production costs, he says in many instances, businesses are able to pass on the higher costs to their customers.

Having said that, Yong notes that equity prices may be affected at the later stages of the inflationary cycle when interest rates start to rise once economic recovery is fully evident.

From a portfolio perspective, he advocates dividend stocks as another option for investors with a low risk appetite.

Kenny Yee, Rakuten Trade head of research, expects bumper dividends from plantation stocks, which have enjoyed robust earnings growth this year.

But Ng cautions that the past dividend performance of local corporates may not be reflective of their future performance, especially when new taxes such as the prosperity tax — which Putrajaya assures will be a one-off tax — will be implemented next year.

Printed computer paper manufacturer Computer Forms (M) Bhd registered the highest 12-month trailing dividend yield among all listed companies on Bursa Malaysia at 29.2%. It declared a special dividend of 20 sen per share after pocketing more than RM90 million from a land sale.

Glove stocks have become part of the dividend yield play following a slump in their share prices after the global vaccine rollout. The dividend yields for Hartalega Holdings Bhd and Top Glove Corp Bhd have risen to 14% and 13.6% respectively following year-to-date declines of 48.6% and 55.9% in their share prices.

Kossan Rubber Industries Bhd and Supermax Corp Bhd, however, have much lower dividend yields of 5.9% and 2.2% respectively.

Malayan Banking Bhd is the only financial institution with a dividend yield of more than 5%, at 8.2%.

REITs such as Amanahraya, UOA, Sentral and KIP are among the top dividend-yielding counters at 16.9%, 7.6%, 7.6% and 7.4% respectively.

Interest in equities not dampened by inflationary pressure

Yee believes that unlike developed countries such as the US, the local stock market is less sensitive to inflation concerns when it comes to investing.

“I don’t see a significant impact on returns in the stock market … There is still sustainable interest in equities until there is a selldown, when we move into safer asset classes like gold. When you look at commodities, gold prices have not moved a lot, while prices of other commodities have been driven by pent-up demand post-Covid.”

He is of the view that food and beverage operators are capable of managing higher raw material prices. Moreover, market demand is projected to remain resilient despite a slight increase in prices.

Yee says that going forward, local investors will continue to seek high-growth stocks such as those in the technology sector, depending on their valuations.

Ng has an “overweight” call on the sector, with Inari Amertron Bhd being her top pick, in anticipation of strong demand for chips in the next few quarters as well as the restoring of capacity with more workers.

Malaysia’s inflation, as measured by the Consumer Price Index, expanded 2.2% in September from a year earlier.

UOB Research expects inflationary pressures to remain manageable in 4Q2021, cushioned by government relief measures. Full-year inflation is expected to average 2.5% for 2021, which is within Bank Negara Malaysia’s forecast of 2% to 3%.

“That said, heading into 2022, upside risks to the inflation outlook have emerged following a global energy crunch, prolonged global supply chain bottlenecks and labour shortage post-pandemic, which could lead to more persistent inflation and second-round effects.

“While utility discounts and fuel and cooking oil subsidies are expected to be extended into 2022, regulators are due to firm up the next base electricity tariff adjustment for the period beginning January 2022 to December 2024 amid surging fuel costs. Hence, we reiterate our inflation outlook for 2022 at 2.5%,” UOB Research says in an Oct 22 note.


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