CIMB Principal Asset Management
April 29, 2009

We need to monitor developments closely. After all, the World Health Organization has declared the new strain of swine flu to be a "public health emergency of international concern" but cautioned it was too early to tell whether it would erupt into a global outbreak.

Scientists are currently baffled and deeply worried by the latest outbreak for two reasons: It appears to combine bird, swine and human viruses in a way that hasn’t been seen before, and it is spreading from person to person. (Source: WSJ)

Since the news broke two days ago, the MSCI Asia ex-Japan Index has fallen by 4.5%. Individual market performance were as follows: Hang Seng (-4.6%); KOSPI (-4.0%); Taiwan (-4.8%); Singapore (-2.39%) and Malaysia ( 2.7%). Surprisingly, Indonesia was unscathed, rising 0.29%.

In our view, markets fell on profit taking after having risen 20-26% since early February. Swine flu was only the excuse.

Where are market valuations? Asia Pacific ex-Japan is at PER of 13.9x. Although, this is above the long-term average of 12.6x, earnings are currently depressed and therefore the PER is not the best indicator. Price to book valuation, which is more appropriate, would suggest that regional markets are still undervalued at 1.6x compared to the long-term average of 1.9x.

The SARs epidemic was first reported in mid-to-late February 2003 in Hong Kong, the Philippines, Singapore, Taiwan and Vietnam. The number of cases soared in March, continued to increase into April, stabilized in May and stopped rising in June.

During the period, GDP in Hong Kong, Singapore and Taiwan fell 1.2% qoq in 2Q 2003 but rebounded sharply in 3Q 2003. GDP growth remained positive elsewhere in Asia, while merchandise exports were largely unaffected. The main sector impacted was tourism. Tourism arrivals fell 60-80% yoy in Hong Kong, Malaysia, Singapore and Taiwan in Q2 2003.

Markets fell 13-18% relative to the S & P 500 Index in the most affected economies, including Hong Kong, Singapore and Taiwan. Asian stock markets recovered quickly in May 2003 as the number of new cases dwindled. (Source: Credit Suisse)

We are currently in very early stages of a possible pandemic or it could turn out to be a non-event as the spread of the virus is contained. Even in the case of a pandemic, we believe that markets will not react as negatively this time round. Investors may be prone to extrapolation, but they do learn from previous mistakes. Hence, any heavy sell-down will be a buying opportunity.

After raising equity allocation to 85-90% to participate in this bear market rally, we are now in profit taking mode. Although, regional price to book valuations would suggest further upside, we would rather be conservative and reduce equity weightings as the market rises.

In Malaysia, the PER valuation is now at 13.7x for 2009 and price to book is at 1.8x. CIMB predicts that the market will hit 1060 by the December 2009. But to do so, the market will have to start discounting 2010 earnings or price to book. We are only in May 2009 and it is still too early. We will be reducing equity weightings as well.