Wednesday, 19 December 2018


 They will maul you, kill you, and worst of all: force you to liquidate your margin share financing account.

2018 will be known as the year that we, the Malaysian investor, decided to get rid of the 'stupid premium' accorded to stocks once and for all.

Having been an article of faith since practically forever, we have finally awoken from our delusions and have started assigning proper valuations to these companies.

The stupid premium is simply this ; rich valuation given to stocks with simplistic business models and previously held monopolies. We loved tech counters which dominates government contracts via murky direct tenders, assuring them of fat profits at the expense of the government's coffers i.e. taxpayers (MYEG, SCICOM, PRESBHD, DSONIC). On average, these four counters have fallen by 60%.

Tech - screwed

Or how about the upstream oil and gas service providers that we used to love so much? While oil prices staged a brief recovery this year, these companies' debt loads threaten to swallow them whole. Remember that BARAKAH used to be worth RM1.50 barely four years ago (now trading at 5 sen, or a 96% loss). And the lovely SAPNRG, which is now worth about 33 sen from its peak of RM4.50 five years ago (92% loss). We have already told you about the dangers of investing in oil and gas counters.

Very smart people (institutional funds, pension funds, bankers, etc) are fully invested in these stocks and have committed to holding them until near-worthlessness, it would seem. These companies have lost roughly half their value this year on average.

Oil and Gas - running on fumes

Spare a thought for the parcel delivery companies who were counting on e-commerce (greater parcel volumes) to save them. Turns out they couldn't catch up with rising expenses, a shift in the operating environment, and Jack Ma's declining enthusiasm - we should know, we traded these stocks at their absolute peaks.

Parcel companies - 'bungkus' already

And last but not least, the construction companies that were the toast of the town as recently as a year ago. By virtue of their own abilities and/or connections, they could count on getting the biggest share of major infrastructure projects. That angle has been thoroughly extinguished post-May 9; everything is being reassessed and those heady days are over. Just look at the big players in the KVMRT project and where they are now.

Construction? Go fly a kite.

Collectively, we have put stupid premiums - or, to put it more delicately, rich valuations - to these stocks in the past. We never needed a truly credible angle; any big contract announcement will do. Any link to the latest high concept thematics is OK. We forget that contracts won and contracts executed are two different things. We also forget that a contract is an agreement between the client and contractor - if the client is the Government of Malaysia, it can choose not to continue the contract, because (1) it can and (2) it can't spare any money.

 Sweet dreams (are made of this). Source.

For similar reasons, this is why we don't take seriously companies that have billions of ringgit worth of contracts but questionable abilities to execute them. Upstream oil and gas companies do this all the time - big, fancy contracts used to prop up their stock prices, until suddenly they don't anymore.

Notice the four sectors we highlighted - each used to have a protective moat around them:

1) Oil and gas - Petronas throwing around lucrative contracts, an enthusiastic public market supporting any fundraising efforts.

2) Mail and logistics - friendly government regulation to promote e-commerce activity.

3) Construction - margins managed by the PDP contract structure, companies favoured purely due to historical ability to execute instead of best pricing.

4) Tech - government fully supporting new IT solutions and integrated software systems regardless of pricing, only favouring certain companies.

These moats/protectionist measures are all similar in one way. You guessed it:

Money pump. Source.

Will these protections come back? Who knows; for now it is really every company for itself. There are no longer any handouts and no easy ways out. Not because we have faith in political willpower, but simply because the money is gone.

We believe that the market and the market's participants (that's all of us us) have changed for good. We will no longer put premiums on companies that don't deserve them. For those companies, they are the ones who have to contend with trouble ahead; less contracts, overcapacity but underutilisation, weak sector prospects, and so forth.

We also believe that 2019 will be a serious bear market for stocks. A decline of 10% from present levels is expected... to be just the beginning.

When Google image searches turn into accidental lifelong enlightenment. Source


We specifically highlighted the companies above as their stocks are the first victims of a bear market's vicious self-perpetuating cycle.

Here we outline a progression of events that may already be happening.

Scenario A : Lower investors' expectation ----> stocks lose premiums over net tangible assets (NTA) ---> lousy sector prospects ---- > lower investors' expectation ---> stocks trade below their NTAs 

Scenario B : Global economic growth slowdown ----> Lower demand for key commodities (palm oil and crude oil) ----> Malaysia's economic growth slows down ----> corporate earnings (banks, construction, property companies etc) slows down ----> added pressure from even weaker ringgit (due to our weak fiscal position) ----> [Scenario A] for Bursa Malaysia stocks

And, to cap it all off:

Scenario B ----> Scenario A ----> steadily weaker quarterly GDP growth ----> negative GDP ----> recession scenario.

Blue = Events that are already happening as you read this
Yellow =  Events that are at risk of happening soon (give it six months)
Red = Apocalyptic worst case scenario that will probably cut the KLCI's value by half

How to time the crash tho?? Source.

We may have called the overvaluations a stupid premium, but the market catches up very fast. The collective wisdom of the market has already priced in the weakening growth expectations of companies. 

The ones we highlighted above are just the first stage - they are the previous market champions whose stock prices (justified or otherwise) used to outpace the broader market. Many of them are growth companies with an appetite for expansion (vying for contracts, M&A). But their misfortunes are a sign of worse things ahead for the entire market, and for the economy. 

This bear market is different from the most recent global recessions. It is not triggered by the collapse of some far flung investment bank. There are no toxic assets, loans, or securitised loans threatening the global banking order (we have plugged that gap). Trade wars are noisy and make for good newspaper reading, but even they are not enough to trigger this oncoming economic slowdown.

We are simply reverting to the mean. Global capital markets have been fueled by cheap money over the past 9-10 years (no more of that). This time, a slowdown means exactly that.

During the same period, emerging markets have also been reaping the rewards of ever greater FDIs, championed by China (no more of that, or at least much less).

We have had it so easy that governments and entire countries can cut lousy long term, debt fueled deals. Banks have loosened their standards faster than you can pronounce 'Lloyd Blankfein'. Even the most pious of us have committed sins to cover gaping holes.

Pump priming, something Malaysia are truly world champions at, has occurred at a global scale, fueling industries, global trade, and global consumption.

But in the end, everything comes with a price. A slowdown means that it's time to count the costs of 10 years of nearly unimpeded growth fueled by easy lending and cheap capital. 

Malaysia's Government now has no cash to spare. Neither does the US. China? They won't give a shit about your country; any and every form of protectionism will be for its own people. 

We are heading into uncharted territory as an economy. Without fiscal prodding, how will Malaysia truly fare? With a horrendously low taxpayer base, and still mounting debts, where and how can we finance growth? Don't take our word for it; our Finance Minister has already warned us of at a few years of severe pain.  

Are you hoping to see a fiscal balance eventually? Fat chance of that - pump priming created the gap between the Government's revenues and expenses in the best of years. In the worst of years (like right now)? The deficit is driven simply by ever increasing expenses to service debts et cetera (Editor's Note : as an alternative, we can also use 'ad infinitum').

If you think a balance budget is nothing but a pipe dream, the following is from 15 years ago.

We're trying not to be scaremongers or doom merchants, but we do implore you to look at the facts and think rational thoughts. 

Lembaga Tabung Haji can no longer afford to pay dividends to its depositors. So how about the rest of our GLC funds? Their pool of unrealised income (paper profits from investments) will dwindle the more the market falls. In many cases, their positions have become so large that they have chosen to go all in with their investment in losing companies. 

One simple example - Malaysia Airlines had RM12 billion in unsustainable debt until it was finally absorbed by Khazanah. At the moment, we have certain public listed companies (*wink*) with total debts of between RM8 to RM14 billion each. Do you really think they will make it out of this bottomless pit? (Editor's Note : PLCs with institutional funds support don't really go through bankruptcy; they tend to get privatised / 'restructured' at fractions of their original value instead)

                                  MAS's last financial statement before its privatisation in 2014.

When the market no longer supports stocks of past champions, their major shareholders will suffer. They are stuck in a liquidity trap with no way to dispose their shareholdings. It is likely that the EPF, KWAP, or what-have-yous, will 'do a Khazanah' or simply hold on to their investments. Aside from real investment savvy, their strength also lies in two things: their infinite holding power in stocks and the faith that Malaysians have accorded to them as custodian of our money.

Our main point is this: don't expect similar dividend yields from EPF and its cohorts. If it used to be 7%, prepare for 3.5% or below in a real bear market scenario. (Editor's Note : at least their market exposure would be hedged by their bond positions, though as the largest holder of Malaysian Government Securities, a rising yield environment will not help with overall investment performance). If the FBM KLCI drops 30-40% in this bear market, any dividend will wholly reflect market performance. Whether that will be acceptable politically, we're not sure.

We may be completely wrong, but right now we are following the smart money; there is little reason to suspect that the current market troubles are over. When corporate earnings justify lower stock prices, there are no premiums to be afforded; expectations would be inverted (lower income due to external factors), thus possibly driving stocks lower. Of course, we may be completely wrong, but ask yourself: would you consider buying TM stock now? How about ECOWORLD? How about GENTING?

And those are just the blue chip companies that make billions of ringgit in revenues. How about the lesser lights and the loss-makers? You know what we think about those, we assume.


The short answer is - no one really knows. Even professional investors are confounded by the worst year for hedge funds in  a decade. How about low-cost, passive index funds? Possible ticking time bomb there too.

The truth is, this current generation has never truly lived through a global recession. We can't play outside the rulebook that has been prescribed to us over the past 10-15 years; buy the dips, stay the course. We think this is misplaced faith - during a crisis scenario, there will be such a severe disconnect between actual value and existing stock prices that most people will end up cutting their losses and give up (Editor's Note : good thing you're not managing billions. Otherwise you'll end up throwing good money after bad via a rights issue ;) ).

We have said time and again that long term forecasting on stocks is no better than guesswork. Even the smartest analysts and quants resort to what is essentially a calculated guess backed by historical data. Not crisis period data or economic slowdown data - perhaps these simply do not exist - but simply past performance of stocks over the past 10 years, a period with the biggest bull market the world has ever seen. But of course, they will tell you that past returns do not correlate to future performance. So is there a point?

It's becoming so comical that one respected research house and another can come to wildly different forecasts for the FBM KLCI at the end of 2019 - on the same day, no less. The deviation between the forecast is 192 points, or about 10%. We don't find these kinds of forecast or information as useful at all. Do you?


It can be 1,900 points or 600 points by end-2019 for all we know. Our advice: don't be primed into thinking that all is well in the economy, or the stock market, right now. The companies that you have seen earlier all have a money problem; less money to service debt, less money to ensure a healthy cash flow, less money coming in as revenue and profits as demand slows down, and definitely less money to make M&A moves to generate more money.

Malaysia's stocks are beginning to fall in tandem, regardless of their catalysts. This is the truly scary part.

Sure, there are good companies to invest in but you will have to take the pain with the gains. Expect dividends but negative capital growth on the stock price. Expect to hold stakes in companies for longer than you thought you ever would. Adopt a five-to-ten-year perspective on investments. Don't leverage yourself to the point of ruin, like these people
Bottom line - the well has dried. The easy money is gone. The crooks are going to jail.

But get your cash pile sorted out. We are patiently waiting for a real shock to the global markets to occur, which is the best opportunity to not just trade, but to build a real long term position in shares.

What you have seen in the markets this year is nothing - it's just a dress rehearsal.

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