Market volatility has increased with the forecast 2021 price/earnings (PE) ratio of the Stock Exchange of Thailand reaching its upper band. Assuming no new wave of infections or renewed lockdowns (domestic and overseas), economic recovery remains our base-case assumption for the second half of 2020.
The SET should also resume an uptrend after a short-term pullback. Aside from sticking with stocks that clearly benefit from business reopening, there is still room for further rotation into value and catch-up plays with 2021 PE ratios that are below their five-year mean and whose price recoveries lag the market.
Evidence of business recovery and potential earnings forecast upgrades -- after overly heavy downward revisions amid Covid-19 concerns in recent months -- will support the market through the second half of 2020 and into 2021, we believe.
Our base-case 12-month SET index target is 1,454 points, a 4.5% discount to our year-end 2021 target of 1,522, representing a PE of 17.5 times, the upper bound of the past decade, and earnings per share (EPS) of 87 baht. Our 2021 EPS forecast is a bit above the consensus number of 84.10, as we expect earnings forecast upgrades to be prompted by strong rebounds in several areas of the economy next year.
History shows (such as in 2008-11) that analysts tend to cut profit forecasts deeply in the midst of an economic crisis, then ramp them back up as the recovery trend becomes obvious. Our 2021 EPS projection is roughly on a par with the 2019 EPS of 86.60, but below the 2018 figure of 95.60.
Our base-case scenario does not assume a new wave of coronavirus infections, intensified global conflict (trade or geopolitical, ahead of the US presidential election) or a substantial divergence of oil prices from our base-case assumption of $40 a barrel for Brent crude.
BEST-CASE OUTLOOK
In our bull-case scenario, the 12-month target is still pegged to a PE ratio of 17.5 times, but our EPS estimate is 92 baht. Still applying a 4.5% discount to our year-end 2021 target, the implied SET target for midyear 2021 is 1,538 points.
Effective government economic measures and disbursement, a full recovery from Covid-19 (domestic and abroad), no other economic shocks and sustained low bond yields are the key underlying factors that would be necessary for our bull-case scenario to play out.
Under our bear-case scenario, the 12-month SET target is 1,207, a 4.5% discount to our year-end 2021 target of 1,264, representing a PE of 15.8 times -- the SET's long-term mean -- and EPS of 80 baht. In this scenario, the market is squeezed by weaker global and domestic macroeconomic conditions, a slow recovery from Covid-19 and ineffective government stimulus measures and disbursement.
Other risks include the possibility of a surge of coronavirus cases in Thailand, lower oil prices, renewed tensions between the US and other countries and escalating conflict in the Middle East.
The SET's current equity yield gap versus the Thai 10-year sovereign bond is already in a moderately expensive space, but the 2021 gap of 4.55% is still 0.3 standard deviations (SD) wider than the mean, so it is relatively cheap. The yields of longer bonds seem to have bottomed out and are trending up. A 50-basis-point rise in bond yields would merely bring the yield gap back to the long-term mean.
The SET's forward PE ratio of 21.4 times (3.5 SD above its long-term mean since 2010) is expensive, reflecting the abnormally low EPS this year. The 2021 PE ratio of 17.1 times (1.1 SD above the 10-year mean and 0.8 SD above the five-year mean) is already in the upper band of 16 to 17.5 times seen in the past decade. Nonetheless, the relative absence of earnings forecast upgrades could push the PE ratio above its normal upper band if investors sense a stronger recovery trend than analysts anticipate.
VALUE AND LAGGARDS
Assuming a near-normal business environment next year, a handful of stocks are still trading at undemanding 2021 PE ratios, while the SET is about 0.8 SD above its five-year mean. Firms with 2021 PE ratios below 9 times still make up 17% of Bualuang Securities' coverage, and about 29% of the stocks under coverage have 2021 PE ratios at least 0.5 SD below their five-year mean (to account for perceived earnings risk).
Among those sectors, we prefer Contractors (project tenders in the second half of 2020), Banks (the possibility of lighter loan-loss provisions than assumed), Property (sales recovery), Finance (strong loan growth and contained NPLs), Agribusiness and Food (sustained high meat prices), Consumer (recovering demand) and Healthcare (recovering demand into the high season).
We are most concerned about the following risks: softer economic trends (more severe Covid-19 impact), a subpar Thai government economic performance, falling oil prices and geopolitical/trade conflicts.