Ride the value recovery trade


Extension of Value rally depends on how soon earnings can recover; Growth sectors still preferred in the long term
Chief Investment Office26 Nov 2020
Photo credit: AFP Photo


The global rally broadened in November as an onslaught of positive news delighted markets. Encouraging progress made in the discovery of a vaccine for COVID-19 had triggered the recovery trade; there was much angst from the pandemic and the deep economic recession.

The rally could extend into 2021 as investors look beyond the resurgence of virus cases and towards a recovery next year. Markets are also taking the change in US political leadership favourably, as the new president would likely first focus on the pandemic and economic recovery, and the restoration of US credibility in international relations, especially with regard to the US-China tensions.

Figure 1: Global equities responding to a V-shaped recovery in 2021

Source: Bloomberg, DBS

Investors are thus taking the lead by buying into laggards, which are markets and sectors under tremendous pressure due to the pandemic. These markets and sectors will stand to gain the most from a credible vaccine, as their valuations have been compressed to near historically low levels.

As risk appetite and macroeconomic conditions improve, we see tactical buying opportunities in some of these countries and sectors. They include ASEAN, Europe, property, energy, financials, and tourism-related sectors, which will take advantage of potential good news on vaccine development.

We outline the key drivers of these sectors:

ASEAN: A vaccine discovery should benefit ASEAN the most as the region suffered multiple whammies from the loss in tourism receipts, decline in exports, contraction in domestic consumption, and foreign outflows due to the pandemic. We expect these headwinds to unwind gradually as economic activities slowly resume.

Furthermore, ASEAN is trading at discount to the rest of the region. This means the region has ample room to play catch up.

Figure 2: Foreign flows have started to trickle in after unprecedented outflows

Source: Bloomberg, DBS
* As of 25 November 2020
** Total including Thailand, Indonesia, Philippines and Malaysia

Europe: Europe did not participate in the global rally in the earlier rebound from March due to its lack of exposure in the Technology sector. The pandemic has hit many core sectors in Europe, depressing their earnings outlook and valuations. These sectors include oil and gas, banks, and consumer stocks.  As the outlook brightens amid progress in vaccine discovery, and with the US elections out of the way, valuation can normalise.

Figure 3: Time for core sectors in the Eurozone to catch up in a broad-based recovery

Source: Bloomberg, DBS

Energy: Oil prices have recovered from their lows as economic activities gradually resume. We believe that oil supply and demand should become more balanced as global economic activities pick up into next year, while the Organization of Petroleum Exporting Countries+ members are still sticking with the production cut schedule.  At the centre of the oil crisis was the energy sector. Sector earnings have gradually improved after bottoming in 2Q20.

Figure 4: Energy sector to catch up with the recovery in oil prices

Source: Bloomberg, DBS

Banks: The global banking sector has faced multiple headwinds over net interest margin (NIM) compression as well as slower loan growth and fee income as the world came to a standstill due to the pandemic. With a gradual economic recovery on the horizon, we expect the operating environment for banks to improve next year. Meanwhile, rising bond yields should relief some NIM pressure, and the appointment of Janet Yellen as the US Treasury Secretary should ease concerns about financial regulatory tightening.

Potentially, banks should trade towards their average price-to-book (P/B) valuations. They include banks in the US, Asia, and Europe. Resumption of dividend payouts for Singapore, Hong Kong and Europe banks are added positives.

Figure 5: Global banks P/B

Source: Bloomberg, DBS

Asia ex-Japan Real Estate and REITs: This sector trades at a deep discount to RNAV and high dividend yields, making it a bargain. In Hong Kong and Singapore, property prices and sales are rather resilient in this environment, with primary residential projects continuing to receive good sales response.

Commercial, hospitality, and retail Real Estate Investment Trusts (REITs) have also been badly affected by the pandemic due to lockdowns and social distancing measures, as well as a cut in dividends. Vaccine developments have reignited the hope of the pandemic ending soon, with normalcy resuming. Their share prices should react correspondingly.

Figure 6: Asia ex-Japan property sector trading below 1x P/B and below average

Source: Bloomberg, DBS

Tourism: Hotels, airport operators, restaurants, and the travel sector have been the hardest hit due to global lockdowns. They should bounce back quite strongly on positive vaccine development news. For Asia, we favour the integrated resort operators in Singapore and Macau, as well as airport operators as recovery plays.

Barbell Strategy: The DBS CIO Barbell Index has exposure to Airbus Group (AIR FP), Marriot International Inc (MAR US), Europe oil majors, Chinese banks, and REITs, which are good value recovery plays. Thus, the strategy will be able to capture the upside in this rotation into value trades. Inevitably, Growth stocks have been pushed aside in favour of Value, but this is only until valuations normalise. Over the long term, Growth should outperform Value. The Barbell Strategy captures irreversible long-term secular growth trends.

Figure 7: Growth has proven to outperform Value in the long run

Source: Bloomberg, DBS

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