Why 4 Stars Rating on Thailand?

Stock markets capitulated in October, resulting in a flurry of changes in our Star Ratings (Click here for an overview of the changes). We have retained our 4 Star “Very Attractive” rating on the Thai equity market, and in this article, we discuss why the Thai equity market still remains an attractive investment option at this point, despite the impending global slowdown.

Chart 1: Performance of the SET Index



Source: Bloomberg, in local currency terms

Like its peers, the Thai stock market was not spared the October market bloodbath. At the close of the market on 29 October 2008, the Thai benchmark SET (Stock Exchange of Thailand) index had lost 35.6% in the month of October alone. From its peak last year to the recent trough, the SET index lost a hefty 58%. This is the second-worst bear market decline in the past 21 years, as the recent fall was only “bettered” by the massive 88.2% decline seen from 1994 to 1998 (See Table 1, all returns in local currency terms).

Table 1: Historical Declines in the SET Index

Source: Bloomberg, iFAST compilations, returns in local currency terms

Looking at recent declines (-58%) in a more historical perspective suggests that the Thai equity market is bottoming out. The fall in the SET index during the Asian financial crisis (-88.2%) occurred under circumstances when the Thai baht lost more than half its value, resulting in a host of negative repercussions of the Thai economy. Current economic problems are unlikely to mirror the magnitude of that crisis and the market has corrected significantly, factoring in the current deteriorating global economic conditions.

Thai Exports

The global economy is undoubtedly slowing, as developed nations slip into negative growth: the US recently reported -0.3% quarter-on-quarter annualised growth for the 3rd quarter of 2008. Despite this, the Thai economy remains relatively resilient, with the Bank of Thailand expecting growth of 4.3%-5% for 2008 and 3.8%-5% for 2009.  

With the expected slowdown in consumption from the US and EU, export-oriented Asian economies are likely to suffer a hit. However, analysis of Thailand’s 2007 GDP shows that net exports accounted for only 15.9% of GDP. Moreover, Thailand’s exports are now more Asia-centric trade, which should provide some protection against an expected sharp fall in exports to the US and EU.

In 1993, the US and EU accounted for 44.4% of Thailand’s exports while Asia (excluding Japan) contributed just 29.5%. For the first 9 months of 2008, the US and EU’s combined contribution has fallen to just 26.4%. On the other hand, Asia ex-Japan now accounts for 54.7% of all Thai exports. With lesser dependence on the EU and the US, Thai exports are in better shape to weather the effects of a slowdown in the developing nations.

Domestic Consumption to drive the Thai Economy

We expect exports to grow slower in 2009, reducing the contribution of net export growth to Thailand’s GDP. Private consumption, the largest contributor to 2007 GDP at 51.9%, has remained robust so far in 2008 and we expect this to buffer downside to Thailand’s economic growth going forward. For the first 9 months of 2008, the private consumption index has grown 4.6% year-on-year, despite the multitude of problems (both political and economic) which have plagued consumer confidence this year (see Chart 2).

Chart 2



Source: Bank of Thailand

Inflation, the bane of Thai consumers in 2008, has taken its cue from falling global oil prices and declined significantly in recent months (see Chart 3). October’s inflation came in at 3.9% year-on-year, a far cry from the 9.2% in July. As oil and commodity prices remain weak, inflation is expected to taper off in late 2008 and 2009, which should boost consumer confidence and promote consumption. This will also reduce the pressure on imports, which could help keep the trade balance in positive territory.

Given that inflationary concerns have all but abated, the Bank of Thailand now has the leeway to loosen monetary policy at the upcoming interest rate meeting in December. From the current 3.75%, we expect a minimal 25 basis point cut in December, with further cuts in 2009 to help boost the competitiveness of Thai exports. This could signal a weaker Thai baht against the US dollar, but we do not expect a drastic plunge but rather, a more gradual weakening. Given that Thailand has foreign reserves of US$103.2 billion (as at 7 November 2008), the Bank of Thailand the ability to intervene in foreign exchange markets to reduce the currency’s volatility.    

Chart 3



Source: Bank of Thailand, OPEC

Key Risk to Growth

While the Thai economy remains well-positioned to ride out the slowdown, the key detractor is the uncertainty on the political front. Demonstrations from the People’s Alliance for Democracy (PAD) supporters continue, and protesters have occupied the Government House grounds since August. Clashes between the PAD demonstrators and pro-government supporters have resulted in numerous casualties and several deaths, and there is the fear that such clashes could escalate, resulting in further bloodshed. Samak Sundaravej, former leader of the People’s Power Party (PPP), was Prime Minister (PM) of Thailand for less than 8 months before being ousted for infringement of the Thai Constitution. Newly-appointed PM Somchai Wongsawat is the brother-in-law of ousted former PM Thaksin Shinawatra, and this has further displeased the PAD.

The political turbulence and continued demonstrations has hampered the tourism industry, and tourist arrivals have fallen sharply. Foreign tourist arrivals for September fell 16.5% year-on-year, as political tensions escalated, and Thai hotels have reported falling occupancy figures. The political uncertainty and demonstrations have also impacted foreign investor sentiment, as foreign investors net sold almost 140 billion baht of Thai stocks in 2008 (as of 12 Nov 2008), compared to net buys of 83.5 billion baht and 55.5 billion baht in 2006 and 2007 respectively.

Thai Equity Market Valuations

There appears to be no foreseeable solution to Thailand’s political crisis, and investor sentiment on the Thai equity market is likely to remain poor. However, we expect the main detractor to growth to be the slowing global economy.

At the close of the market on 29 October 2008, the SET index traded at just 0.83X price-to-book (PB), the lowest since 2001. Also, the PE ratio on a trailing basis was just 5.9X, the lowest on record. 2009 earnings are likely to come under pressure as the global economy slows, and we are factoring in a 7.7% decline in 2009 earnings. Our estimated PE ratios for the Thai equity market are 6.1X and 6.6X for 2008 and 2009 respectively (as at 13 November 2008), representing attractive forward valuations.

Chart 4

 

Source: Bloomberg

Conclusion

The sell-down in October has seen the Thai equity market suffer one of the worst declines in the past 21 years. Thai equities have been sold down to attractive valuations, even after factoring in a decline in corporate earnings, presenting investors with an excellent investment opportunity. While global economic conditions may deteriorate further, the Thai economy is expected to remain relatively resilient and a recession is not on the cards. However, political worries could continue to weigh down on investor sentiment and result in continued depressed valuations for the Thai market.

We have a 4 star “Very Attractive” rating on the Thai equity market and would suggest limit exposure to Thai equities in the supplementary portion of their portfolio.

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