It does not take a large outbreak to undermine recovery.
Chief Market Strategist, Asia Pacific
Asia is going through another round of COVID-19 outbreak, leading to varying degree of lockdown in order to contain the spread. The Asian equity market has underperformed the U.S. and Europe in 2021 and the question is what would be the catalysts for Asia to rebound again?
There are a few lessons learnt from the latest bout of infection in the region. First, it does not take a large outbreak to undermine recovery. Singapore’s latest round of lockdown measures were announced despite only 20-40 new cases each day, which is modest in absolute number and relative to the size of the population. The more infectious B1617 variant prompt the authorities to take decisive action to contain the spread.
Second, international and regional travel could take much longer to resume normality. Travel bubbles are fragile in the face of new outbreak. The Hong Kong-Singapore travel corridor was suspended twice before any traveler can take advantage due to outbreaks in Hong Kong in late 2020 and Singapore in recent weeks. This would mean an ongoing freeze for the region’s travel industry.
Third, the progress of vaccination continues to be slow in most Asian economies. As Exhibit 1 shows, except for Singapore, most Asian economies has less than 20% of its population receiving at least one dose of vaccine. This is due to a combination of vaccine hesitancy and lack of available vaccine. Our calculation shows that most Asian economies will not reach herd immunity (assuming at 60% of the population) until late 2022, or even 2023, if the pace of vaccination stays at the current level.
EXHIBIT 1: ASIA LAGS BEHIND IN VACCINATION
As we have seen in the U.S. and the UK, where the progress of vaccination is more advanced, reopening of their economies have yet to counter a pickup in infection, while the number of severe cases and deaths is declining. This shows that immunization is a critical condition to stabilize, but not eliminate, infection and allow for their economies to enjoy a more sustained recovery. This should be accompanied by ample and accurate tests, as well as track and trace programs.
While the debate of whether the Federal Reserve would need to push forward its interest rate hike given faster price rise, Asian central banks are not in the position to consider policy normalization, except for China, given the latest outbreak and the uncertainties of future waves.
We believe Asian equity underperformance is driven by other factors in addition to the pandemic. China’s performance in controlling the pandemic continues to be robust and it is accelerating its vaccination progress. However, its fiscal and monetary policy normalization and regulatory scrutiny on the tech sector were weighing on market sentiment. For export-oriented markets, such as South Korea and Taiwan, global demand for electronics is more influential than the domestic economy. We should not dismiss that local investors’ knee-jerk reaction and the risk of outbreak in key manufacturing plants leading to production disruption could prompt short-term volatility. However, external demand continues to be an important driver and the outlook is still encouraging.
With the 1Q earnings season for Asia ex-Japan largely over, the results are encouraging. Earnings per share (EPS) outperformed market consensus by 15%, with consumer discretionary, finance and materials showing the biggest positive surprises in EPS relative to consensus. Real estate and utilities were the more disappointing sector. Korea, Singapore and Taiwan were the strong performing markets in positive EPS surprise.
In the near term, the pandemic may prompt investors to revert to the 2020 playbook and rotating back towards defensives and tech, or those companies that are more resilient in an outbreak. A peaking in infection number should turn this around in individual markets for cyclical sector to outperform again. Overall, headline indices may not be particularly inspiring as these rotations take place. Ideally, the latest bout of outbreak would prompt the public to be more enthusiastic with getting vaccinated. This would pave the way for a more sustained recovery in late 2021 and 2022 and lead to a broader rebound in earnings.