Friday, December 18, 2009

My 2010 KLCI target

When things are slowing down at this time of the year, I'm in much more contemplative mood, attempting to look forward what 2010 might bring. I looked at two strategy reports, one from OSK(pessimistic) and the other one from CIMB(optimistic). OSK has a target of 1345 while CIMB has a target of 1450.

Before I summarized my thoughts, this is a good chart to start with -- giving us a long term perspective.

The next critical variable is GDP growth assumption. Financial sector a weightage of 35% in FBMKLCI, thus getting GDP growth is critical, most think it should be coming in around 3.5%.

The third variable is ex-change rate assumption. Volatile exchange rate will create a havoc in earning estimates -- top line or gain/loss provision related to forex. I'm assuming we are staying around 3.30-3.40 range.

The forth variable is how much growth the market is pricing in for 2011. I believe at current KLCI level, we have pretty much pricing in 2010 growth. People tend to be cautious in the early stage of recovery(below trend SD) and a lot more aggressive when earning is peaking(above trend SD).

The fifth variable is commodity outlook. 20% of the weightage in FBM-KLCI hinges on plantation stocks. My average price target is about RM 2,400 MT(closer to CIMB but higher than OSK RM 1,900).

Most people wold agree that 2009 EPS is about RM $ 73/share. There is not much difference in growth expectation between pessismist(16%) and optimist(18%). Since the gap is small, derriving the target is more or less depending on PE multiple - if we pick a long term PE average of 16.5, KLCI fair valuea are between 1,397 - 1,421.

The flow of the argument seems to be logical but there is only one problem, do I believe in 16-18% earning growth? Believing in the numbers mean the earning will have to recover back to the same level of 2007, $ 85 / share especially with quite a bit of earning dilution from right issues in some of the big caps(Maybank, TM, Axiata, IOI, etc).

I believe the analysts could get it right this time. Looking at companies in the FBM-KLCI components, banking stocks like CIMB, PBBank, AMMB should be able to drive earnings improvement even though contribution from Maybank could be muted. The catalysts are mainly driven by (i) general economic recovery (ii) regional expansion to bear fruits (iii) stronger corporate finance activities.

The expectations on the conglomerate like Sime Darby are Genting not that high. With little bit help of stronger commodity price and global economy, cyclical stocks like IOI, MISC, KL Kepong, PPB should have no problem of going back to 2007 level.

Bottom line, I'm eyeing KLCI between 1,275 - 1,450. There is one big negative catalyst that I'm watching very carefully -- exit strategy of central bankers/governments. If they withdraw accomodative monetary policy and stimulus too early, all bets are off.

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