With the global economy facing stagflation, where prices are higher with lower incomes, the Singapore market stands out as a shelter, says PhillipCapital analyst Paul Chew.

At this point, inflation has been exacerbated by the Russia-Ukraine conflict, which has driven up crude oil prices to their highest in 13 years. As a result, global growth is expected to decelerate as interest rates continue to climb.

In light of how the yield curve has recently inverted, Chew notes how this places the market back on recession watch.

“The debate rages as to whether the Fed can orchestrate a soft landing for the economy. We are more upbeat. In the recent six rate-hiking cycles, two led to a soft landing (no recession) and three were followed by recessions that were not entirely triggered by the hiking cycle,” he writes in his strategy report dated April 4.

On this, Chew sees Singapore as being an “alpha generator” in global equities.

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“Almost every sector in the Straits Times Index (STI) enjoys a tailwind,” he says.

First, bank earnings are set to enjoy a huge lift upon entering an interest rate cycle, as a 100 basis point rise in rates can increase earnings by around 18%. “We believe the three domestic banks have excess deposits or float totalling $160 billion that can immediately benefit from the rise in short-term rates,” says Chew. The three banks are all index heavyweights with a combined weightage of 45% of the STI.

Secondly, the reopening of borders and relaxation of social restrictions will be a further boost for corporate earnings, primarily for the transport, telecommunications, retail and hospitality sectors as they make up a combined 20% of the STI.

Chew points out that since tourism accounted for 5% of GDP in 2019, it is likely going to become a significant economic driver over the next 12-18 months.

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Singapore also has not been overtly affected by the current de-rating of tech stocks from stretched valuations, regulatory risks and supply-chain disruptions, as tech represents only 2% of the STI.

Finally, the Singapore dollar (SGD) is expected to stand firmer against regional currencies with the Monetary Authority of Singapore (MAS) looking to keep a tightening bias.

A look back at the 1QFY2022

Looking back at the 1QFY2022, the STI rose 9.1% during the quarter, which was its best performance since an 11.3% rally in the 1QFY2021, notes Chew.

Banks and conglomerates led the gainers, with rising interest rates being the dominant theme in the 1QFY2022; the rising interest rates will determine the success or losses for certain businesses, while higher interest rates will lift margins, thereby benefitting banks.

“On the flip side, REITs retreated as higher rates can affect dividend growth and lower the attractiveness of their leveraged dividend yields,” the analyst writes.

Financial, construction and reopening sectors favoured

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As it stands, the Russian-Ukraine conflict has long-term implications for several sectors, most notably defence, as an unfortunate arms race has developed due to this conflict.

Germany has already kick-started the race with a one-off EUR100 billion ($149 billion) fund to upgrade its defence budget, in addition to investing more than 2% of its GDP in defence. “We worry every country will now look to outdo one another in military spending,” says Chew.

On this, the analyst has highlighted the two SGX-listed stocks with defence-related revenue: ST Engineering and Civmec, both unrated by the brokerage.

Another repercussion arising from the war is the diversification of energy sources away from Russian energy and the volatility of renewable energy, since renewable energy is very much weather-dependent and subject to repricing after years of underinvestment in fossil fuels.

Within the Singapore market, Chew has indicated his preference for the financial, construction and reopening sectors.

“Financials will ride the rise in interest rates. The Fed funds rate is expected to rise by more than two percentage points this year, producing a two-year tailwind for the banks and exchanges. Construction, namely building materials, will gain from a return of foreign labour and construction activity,” he writes.

Following the government’s relaxation of border controls and group activities on March 29, Chew is upbeat on counters that will benefit from the reopening theme.

“ComfortDelGro is down 48% from pre-pandemic levels despite generating $905 million of free cash flow over the past two pandemic years,” says Chew, who has a "buy" call on ComfortDelGro with a target price of $1.80.

Telcos, according to Chew, are another cluster of re-opening plays. He estimates roaming to make up around 15% of revenue generated by the telcos for their mobile segment, and are "almost pure profit".

Chew, who has a "neutral" call and target price of $1.35 on StarHub, estimates that roaming makes up around half of the telco's FY2019 PATMI.

Stock picks for Phillip Absolute 10

With the recent changes in the global economy, the brokerage has switched up its Absolute 10 portfolio.

In the 1QFY2022, PhillipCapital added dual-listed Del Monte Pacific and removed Thai Beverage (ThaiBev).

For the 2QFY2022, it has included OCBC in its portfolio and removed Q&M Dental due to slower earnings momentum from the decline in Covid-19 polymerase chain reaction (PCR) test revenue.

The brokerage has given both Del Monte Pacific and OCBC “buy” calls with target prices of 63 cents and $14.22 respectively.

“Our portfolio is leveraged on rising interest rates and the reopening theme,” says Chew. “We expect upside in dividends and earnings surprises for DBS and OCBC, [in addition to] our reopening beneficiaries that are City Developments Limited (CDL), ComfortDelGro and Frasers Centrepoint Trust (FCT).”

PhillipCapital has also rated DBS “accumulate” with a target price of $41.60. CDL, ComfortDelGro and FCT have “buy” calls with target prices of $9.19, $1.80 and $2.64 respectively.

Chew’s decisions on the stock picks are made based on local reopening measures and wider geopolitical considerations at present.

For the telco sector, Chew notes that Asian Pay TV Trust (APTT) offers an attractive 7% yield with upside from sales of 5G backhaul to mobile operators. In addition, HRnetGroup can ride on growth in hiring volumes and salaries with greater reopening measures in place, while Keppel Corp can benefit from the disposal of loss making and other low return businesses.

The brokerage has rated APTT “accumulate” with a target price of $1.23, while HRnetGroup received a “buy” call with a target price of $1.18.

The STI closed 28.04 points higher or 0.82% up at 3,445.01 points.

Most sectors in STI to enjoy tailwinds in stagflation environment: PhillipCapital

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