Positioning for the expected strong rally in 1Q10: Since early
August, we have maintained our short-term (three-month) cautious, yet
medium-term (6-to-12-month) positive view on MSCI China. Our key
arguments for our short-term cautious view include: (1) the expected
pressure from the rise in stock supply; and (2) the leveling out of
macro data improvements. We expect MSCI China to resume its rally
in 1Q10, in light of positive fundamentals including: (1) the expected
material improvements in the liquidity situation in early 2010; (2) our
view that the government will not start serious tightening until 2Q
FY10; (3) the expectation that China’s strong economic growth
momentum will continue in 2010, boosted by a solid recovery in
exports, a broad-based pickup in private consumption, and further
expansion in private housing investment; (4) expected strong 4Q09
earnings results, to be released in 1Q FY10; and (5) faster Rmb
appreciation in 2010. In light of the improved economic and corporate
profit growth outlook for FY10, we raise our end-FY10 MSCI China
index target to 78, based on 17.2x FY10E P/E, or a 10% premium to
the long-term average trailing P/E of 15.6x.
• Focusing on defensive growth stocks: While the key theme this year
has been buying high-beta and bombed-out stocks for the recovery
trade, we believe the key investment strategy for 2010 should be to
focus on the stocks characterized by defensive growth, given: (1) the
expected broad-based tightening kicking in as of 2Q10; and (2) a
potential sharp slowdown in fixed asset investment growth in 2011 as
the two-year (FY09/10) economic stimulus policies fade away. We
recommend that investors accumulate defensive growth stocks—stocks
with good earnings visibility, a low penetration rate, strong secular
growth, and that are likely to be least affected by a potential tightening
in 2Q10 and a downshift in FAI growth in 2011—for the expected rally
in 1Q10.
• Key investment strategy: (1) Banks are our top picks among large-cap
names, because of their good earnings visibility for FY10, benign asset
quality outlook, potential for the NIM expansion, and undemanding
valuation with dividend yield support. (2) We stay OW on upstream
energy, especially coal, as an inflation hedge and as a beneficiary of the
potential coal price spike later this year. (3) We are positive on
defensive growth names, including internet, gas, and tissue and diaper
companies, as well as a few selected consumer staples.