CIO Insights 1Q19 Source: AFP Photo

18 December 2018

Tug of War
Slower growth but no recession
We are not at the start of a bear market for equities. Still, a tug of war between
bulls and bears will result in higher volatility and a non-trending environment for
broad market indices.

Use barbell strategy to maximise risk-return

Construct portfolios that are heavily weighted at both ends of the risk spectrum –
with secular growth themes at one end, and stable income-generating assets on
the other.

Capture e-Commerce, ageing, Millennial trends

Seek winners in the “Live, Work, and Play” transition into a digital economy.
Favour health care in the ageing trend, and ride the Millennial athleisure wave.

Neutral equities; Overweight alternatives and cash

On equities, policy support from China and Asia’s compelling valuations are drivers
to be positive on Asia.

DBS CHIEF INVESTMENT OFFICE | CIO INSIGHTS 1Q19

Produced by:
DBS Chief Investment Office

🌍 go.dbs.com/sg-cio

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Kelly Tay Head, Investment Communications

Yu Guo Investment Communications
Cheryl Han Investment Communications
Sabrina Lim Investment Communications
 CIO INSIGHTS 1Q19

Contents

Source: AFP Photo

CIO INSIGHTS GLOSSARY

1 Foreword 116 Glossary of Terms
2 Executive Summary
3 Asset Allocation
20 Global Macroeconomics
34 US Equities
41 Europe Equities
47 Japan Equities
54 Asia ex-Japan Equities
60 Fixed Income
68 Currencies
73 Alternatives: Gold
77 Investment Theme I: Global Health Care
86 Investment Theme II: World in Transition
97 Investment Theme III: Millennial Wave –
Athleisure
105 Special Feature: Greater Bay Area
CIO INSIGHTS 1Q19 | 1

Foreword
Ladies and gentlemen,

As we welcome 2019 together, I am proud to launch the latest edition of CIO Insights. This
marks our second year publishing this flagship report, and as always, CIO Insights will help
you capture opportunities in an increasingly uncertain world.

This new year is significant to me on a personal level, as I assume the role of Group
Head of Consumer Banking & Wealth Management. Please join me in congratulating
my friend and colleague, Tan Su Shan, as she moves to become Group Head of DBS’s
Institutional Banking Group, after eight years at the helm of Consumer Banking & Wealth
Management. Under her leadership, the business has grown significantly, and it is thanks
to her that I inherit a strong portfolio today.

Prior to this appointment, I spent eight years as Country Head of DBS Singapore, which was
then a newly-created role. Until then, I had done 26.5 years with a global American bank,
and served in Kuala Lumpur, Hong Kong, Tokyo, Riyadh, and New York, before returning
to Singapore in 2010. Although I started my career in markets and ran dealing rooms in
the mid-80s/90s, I later moved on to corporate and investment banking management in
Hong Kong and Tokyo. Now, I finally get to lead a consumer and wealth management
business – completing the full suite.

As Country Head of DBS Singapore, I have encouraged collaboration and fostered a

culture of laughter and fun. Together with the country management team, the bank has
been united as one – so that all of us can achieve more than the sum of our individual
parts. We have also brought the entire DBS franchise together to support our clients. We
did all this without sacrificing returns, and in fact, 2018 was a phenomenal one – with DBS
being recognised as Best Bank in the World by Global Finance and the Best Digital Bank by
Euromoney. As Peter Drucker says, “culture eats strategy for breakfast”.

As I now step into this Wealth Management role, I am grateful for the opportunity to
be intimately involved with each client’s wealth creation journey. Our role as bankers is
to create wealth, enable success, and in the process enrich our customers’ lives. I have
always encouraged young bankers to think more broadly about the wider roles they play
in society; for when we have the ability to do good, we have the responsibility to do so in
our own way.

I can’t wait to see what 2019 has in store for us. I’m honoured by the opportunity to get
to know you better, and I look forward to serving you in the years ahead. Thank you for
all your support!

Sim S. Lim
Group Head
Consumer Banking & Wealth Management
 CIO INSIGHTS 1Q19 | 2

Executive Summary
Dear valued clients,

What a year 2018 was!

It is highly unusual that in the same year, all asset classes – including equities, bonds, and
commodities – register negative returns. Normally, in a year where uncertainty mounts,
government bonds and gold post positive returns on “flight-to-safety” flows. This was not
the case last year.

Global equities underwent a roller-coaster ride, aided on the upside by strong US corporate
earnings while hampered on the downside by escalating trade tensions and Federal
Reserve rate hikes. US President Donald Trump’s frequent tweets certainly did not help
to alleviate volatility. On asset allocation, our year-long Overweight stance on US over
Europe, and Overweight cash from 2H18 served us well. Our thematic calls, including
Overweight US Technology relative to other sectors, did well. In addition, Real Estate
Investment Trusts (REITs) and dividend plays in Asia outperformed their underlying indices.
However, Financials lagged.

For 2019, the ongoing tug of war between bulls and bears is likely to result in a highly
volatile, non-trending market. In this publication, we posit the following:

• Why this is not the start of a bear market

• Why China and Asian markets are attractive
• How to ride the “Live, Work, and Play” transition
• How to seek winners in ageing and Millennial trends

We have also laid out the exciting opportunities of the Greater Bay Area – a clustering
of talent, capital, and high value-added industries across Hong Kong, Macau, and nine
Chinese cities in the Pearl River Delta.

Do enjoy the read, and I wish you a very successful year of investing!

Hou Wey Fook, CFA

Chief Investment Officer
Asset Allocation | 1Q19

Neither feast
nor famine

Source: AFP Photo

Macro
Outlook
Monetary Policy Economic Growth
The Fed remains on track to US economic growth to push
raise rates in 2019 while the inflation higher. Trade and
BOJ continues to taper. The political uncertainties weigh
ECB is expected to hike only in on Europe.
2020.

Geopolitics Inflation Fiscal Policy

Apart from US-China trade US core inflation to move toward US fiscal policy to stay supportive
tensions, the rise of far-right 2.5% as growth gathers pace. in 2019. But political room
politics in Italy and Germany is Japan’s consumption tax hike is for further stimulus to fade by
2020. Japan’s consumption tax
a going concern. set to push inflation higher by
hike will weigh on its growth
0.6 percentage points.
outlook.

Markets
Outlook
Equities Currencies
Stay positive on US with US Dollar Index poised to trade
outperformance from non- above 100 as Fed policy stays
cyclicals like Health Care. Asia restrictive in 2019. Hard politics
ex-Japan is buoyed by attractive and softer growth will drive the
valuations and policy stimulus. euro below 1.10.

Rates Credit Thematics

DM rates set to grind higher EM bonds (especially Chinese Gain exposure to Health
amid central banks’ tightening issuers) offer attractive risk- Care for resilience. Ride on
and withdrawal of monetary reward. Stay cautious on DM secular trends that benefit
stimuli. IG and HY bonds amid trade from demographic shifts and
tensions and dollar strength. technological changes.
CIO Investment Themes
Global Health Care
Health Care is a defensive play in an environment with
rising volatility. Earnings have been stable through
the cycles. Tailwinds include an ageing population
and a strong pipeline of new prescription drugs.
New Theme | CIO Insights 1Q19

World in transition
The world is in transition because of changing social,
demographic, and technological factors, reshaping
the way we – as a community – live, work, and play.
Seize the opportunities.

New Theme | CIO Insights 1Q19

Millennial Wave - Athleisure

Millennials embrace wellness as a way of life. The
cool and effortless style of athleisure reflects this
new trend. Demand for athleisure is highly resilient
as it becomes the “new casual”.

New Theme | CIO Insights 1Q19

China Financials
The correction in EM equities presents an opportunity
for investors to re-look China Financials. Catalysts
include stable loan growth, improving asset quality,
and attractive valuations.

Ongoing Theme | CIO Insights 4Q18

Source: AFP Photo
 CIO INSIGHTS 1Q19 | 6

Asset Allocation

Hou Wey Fook, CFA Opportunities in a “bull vs bear” market

Chief Investment Officer
After a 10-year US-led bull market, we believe global equities are entering into a more
Dylan Cheang volatile, less-trending market in 2019. We expect stock market indices to gyrate in a big
Strategist range, similar to what we saw in 2018, as the bulls and bears slug it out. Notwithstanding
this dynamic, we believe thematic investment opportunities abound.

Why this is not the start of a bear market

To us, a bear market in equities (as defined by a fall of more than 20% from peak to
trough) is not a high-probability scenario for the following reasons:

1. Positive earnings margins

2. Low recession risk
3. Positive yield gap between equities and bonds
4. Support from share buybacks

Subdued wage growth and robust corporate margins. The persistence of strong
US earnings, in part supported by robust operating margins, has been the key factor
underpinning US equities over the past years. The persistence of weak wage growth, we
believe, will continue to keep US margins elevated.

Figure 1: That sinking feeling – US wage/salary as Figure 2: Even though the unemployment rate has
percentage of GDP has been declining in the last few fallen to levels last seen in late-2000, US wage/salary
decades as percentage of GDP remains low
53% US wage and salary as percentage of GDP 53% US wage and salary as percentage of GDP (%, LHS) 12%
US unemployment rate (%, RHS)
11%
51% 51%
10%
49% 49% 9%

8%
47% 47%
7%
45% 45% 6%

5%
43% 43%
4%
41% 41% 3%
Jun-70 Jun-80 Jun-90 Jun-00 Jun-10 Jun-70 Jun-80 Jun-90 Jun-00 Jun-10
Source: Bloomberg, DBS Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 7

Wages can stay suppressed Our analysis of historical data shows US wages as proportion of GDP on a structural
in an environment of falling downtrend since the 1970s (Figure 1). The situation improved somewhat during the “dot
unemployment rate, such com” boom in 1999/2000, with wages as percentage of GDP peaking at 47.6% in March
as in Japan 2001. This came at a time when unemployment troughed. But today, the situation is vastly
different. Although unemployment stands at 3.7%, wages account for only 43.1% of
GDP (Figure 2).

But can wages remain suppressed in an environment of falling unemployment rate? We

think so. Using Japan as an example – while unemployment rate has fallen below the 2%-
mark, wage growth continues to languish at 1.5% (as of October 2018).

So what is causing this structural phenomenon of persistently-weak wage growth in the

US? A few plausible explanations are:

1. Oversupply of low-productivity and low-value-add jobs

2. Rising adoption of technology in various industries
3. Rising concentration of power among large companies

Technological advancement The second point has gained significant interest among researchers and academics in
and the rising concentration recent years. In fact, the OECD in its annual outlook for 2018 concluded that massive
of power among large investment in technologies by leading companies has resulted in lower proportion of
companies have led to a national income going to labour.
suppression of wages
Our analysis on wages ties in with the profitability trend of leading companies in the US.
Figure 4 shows the blended operating profit margins (OPM) of the top ten companies
by market capitalisation on the S&P 500 Index (excluding banks and other financial
companies). Evidently, the OPM of these market leaders has surged from 9% in 1992 to
17% currently – an increase of 8.1 percentage points. This contrasts with the OPM for the
S&P 500 as a whole, which improved only 5.3 percentage points during the same period.

Figure 3: A cautionary tale – wage growth in Figure 4: Rising concentration of power at the top?
Japan remains tepid despite the downtrend in OPM of top 10 companies diverge from the rest of
unemployment rate the market

4 Japan wage growth (%, LHS) 6.0 Operating margin of top 10 companies in S&P 500
19% by market cap*
Japan unemployment rate (%, RHS)
5.5 S&P 500 operating margin
2 17%
5.0
0 15%
4.5

-2 4.0 13%
3.5
-4 11%
3.0
-6 9%
2.5

-8 2.0 7%
Mar-99 Mar-03 Mar-07 Mar-11 Mar-15 1992 1996 2000 2004 2008 2012 2016
Source: Bloomberg, DBS *Banks and other financial companies Source: Bloomberg, DBS
not included.
 CIO INSIGHTS 1Q19 | 8

Bear markets are preceded Recession risks remain low; S&P 500 peak is still some time away. Historically, a bear
by recessions; currently, market for the S&P 500 is preceded by a recession. However, the US Federal Reserve is only
the Fed expects a low assigning a 9.0% chance of an economic downturn over the next 12 months; this view
likelihood of the latter ties in with historical precedence.

Since the 1980s, the start of a US recession has coincided with the Federal Funds rate
trending above (or close to) the US GDP growth rate. Economies go into contraction mode
when the cost of capital exceeds the rate of growth. This happened during the 1980,
1981, and 1990 recessions. Similarly, the US economy entered a recession when the Fed
Funds rate was close to the rate of GDP growth in 2001 and 2007.

Aggregating the data, the past five US recessions came when growth was averaging 7.7%
while the Fed Fund rate was averaging 9.4%. In other words, the Fed Funds rate has,
on average, been 1.6 percentage points higher than the GDP growth rate during past
recessions. But the situation today is different. US GDP growth currently stands at 5.5%
while the Fed Funds rate is only 2.3% – 3.2 percentage points lower (Table 1).

Table 1: Fed Funds rate and US GDP growth rate during past recessions vs current
situation
Start of Recession Fed Funds rate (%) US GDP growth rate (%) Difference (% pts)
January 1980 14.0 10.0 4.0
July 1981 15.5 13.1 2.4
July 1990 8.0 6.2 1.8
March 2001 5.0 4.7 0.3
December 2007 4.3 4.6 -0.3
Average 9.4 7.7 1.6
Current Situation
October 2018 2.3 5.5 -3.2
Source: Bloomberg, DBS

Figure 5: Current level of recession risks suggests that Figure 6: The Fed Funds rate is historically either close
a peak in the S&P 500 is more than one year away to or above the US GDP growth rate during the start
of recession
S&P 500 (LHS) US GDP growth (%) Fed Funds rate (%) US recession
3,500 NY Fed Prob of Recession in US 12-mth ahead 50 20
(RHS)
18
3,000 16
40
14
2,500
12
2,000 30 10
8
1,500 20 6
4
1,000
2
10
500 0
-2
0 0 -4
Jan-95 Jan-99 Jan-03 Jan-07 Jan-11 Jan-15 May-76 May-86 May-96 May-06 May-16
Source: Bloomberg, DBS Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 9

Past financial crises are Positive yield spread – A crucial difference between then and now. The high-octane
marked by negative yield selldown of risk assets in October 2018 has prompted market commentators to compare
spreads between earnings this correction with “Black Monday” in 1987 as well as the “dot com” bubble crash of
yield and UST 10-year yield 2000-02. But our analysis suggests otherwise.

An important factor to consider in this regard is the gap between the US earnings yield
and US Treasury (UST) 10-year yield. Prior to “Black Monday” in 1987, inflation in the US
was rising and interest rates also trended higher in tandem. As the UST 10-year yield (at
10.1%) was substantially higher than the US earnings yield of 4.7%, this translated to a
negative yield gap of 5.4%. A negative yield gap makes equities extremely unattractive
relative to bonds and this likely exacerbated the subsequent equity selloff. During the “dot
com” crisis, the yield gap was predominantly mired in negative territory and this, again,
weighed on the performance of the asset class.

The situation today is The situation today is different as the yield gap has turned positive (at 2.7%) and the
different as the yield spread relative attractiveness of equities over bonds creates a downside buffer for the former
is currently positive when volatility rises.

Figure 7: Unlike in previous bear markets, the yield gap is currently in positive
territory
8 US earnings yield vs UST 10-yr yield gap (%)

4 Dot-com
Bubble crash

2
Black Monday Current

-2

-4

-6
Jan-84 Jan-89 Jan-94 Jan-99 Jan-04 Jan-09 Jan-14
Source: Bloomberg, DBS

US share buybacks have Share buybacks underpin the resilience of US equities. Share buybacks in the US
been on a tear since the have been on a tear since the subprime crisis. From 2009, buybacks have totalled USD4.5t.
subprime crisis due to The robust growth trend is fuelled by rising profitability of US companies. Flushed with
rising profitability of US free cash flow, US companies could either deploy the cash for dividend payouts, share
companies. Recent changes buybacks, or for capex/M&A activities.
in US tax policies have
accentuated this trend
 CIO INSIGHTS 1Q19 | 10

Most company managements would prefer share buybacks for several reasons:

1. The benefits from capex or M&As may only show up many years later.
2. Unlike share buybacks, dividend payouts do not provide management with as much
flexibility because after it has committed to a certain payout, it would be difficult to
backtrack from that level of commitment.

The factors above explain the rising growth of share buybacks in recent years (Figure 8).

The bulk of US share More recently, this trend has been accentuated by changes in US tax policies which have
buybacks occurs in the led to companies diverting corporate tax savings into more share buybacks. In the past few
Technology sector quarters, the Technology sector accounted for the lion’s share of buybacks; 31% in 2Q18
and 51% in 3Q18 (Figure 9). This was followed by Financials, Health Care, Industrials, and
Consumer Discretionary.

Figure 8: Share buybacks have been underpinning Figure 9: The bulk of share buybacks in the US is by
the US equity rally the Technology sector
US share buybacks (USDb, LHS) 3,000 100%
200
2,500 80%

150
60%
2,000

100 40%
1,500

20%
50 1,000
0%
Mar-17 Jun-17 Sep-17 Dec-17 Mar-18 Jun-18 Sep-18
0 500
Comms Cons Disc Cons Stap Energy Financials Health Care
1Q00 1Q03 1Q06 1Q09 1Q12 1Q15 1Q18 Industrials Technology Materials Real Estate Utilities
Source: Bloomberg, DBS Source: Bloomberg, DBS

Buybacks reduce the The impact of share buybacks on corporate earnings is substantial. Buybacks reduce the
number of shares in number of shares in circulation and as a result, inflate a company’s EPS. In 2009, top-line
circulation, inflating a revenue for US companies was USD7.9t and by 2017, it expanded to USD11.4t – a growth
company’s EPS rate of 43%.

The expansion in bottom-line earnings on a per-share basis is, however, much more
substantial. In 2009, EPS was USD51.1. However, by 2017, it rose to USD110.5 – an
increase of 116% (Figure 10). While margin expansion may play a role in driving EPS
growth, a bigger driver could be share buyback programmes.

Share buybacks will On balance, we believe that share buybacks will continue to underpin the resilience of US
continue to underpin the equities. That said, given the outwardly-high level of buybacks in 2018, this may moderate
US market somewhat in 2019.
CIO INSIGHTS 1Q19 | 11

Figure 10: Stark difference in the trajectory of US revenue and EPS growth since
the subprime crisis
230 (Normalised) US total revenue (USDt, LHS) US EPS

210

190

170

150

130

110

90
2009 2010 2011 2012 2013 2014 2015 2016 2017
Source: Bloomberg, DBS

Why the bull will not charge ahead

Although the probability of a bear market is low, we are cognisant of a number of

headwinds that would check the impressive bull run of the past few years, namely:

• Trade-war impact on economic growth

• Tighter monetary policies

The de-synchronisation of Trade war to exacerbate the de-synchronisation of global growth. The global
global economic growth is economy underwent a “synchronised recovery” in 2017 as momentum was underpinned
picking up pace amid rising by a buoyant stock market and rising optimism over pro-growth policies globally. But one
threats from the trade war year on, the recovery has become more heterogeneous with downside risks on the rise.
A key reason for this uncertainty is the plausibility of trade risks spilling over to the real
economy.

Flat equity market Our economists estimate that a full-fledged trade war could shave 0.25% (or more) off
returns are on the cards US’s and China’s GDP in 2018 and 0.6% in 2019. These are preliminary estimates as the
as economic growth severity of the economic fallout also hinges on the magnitude of second-order effects. The
moderates October 2018 selldown in the stock market, for instance, has already tightened financial
conditions (Figure 11) and this will weigh on consumption should confidence falter. Given
the close correlation between economic growth and stock market performance (Figure
12), flat equity market returns are on the cards as growth moderates.

Output gaps for the major Central banks dialling back monetary accommodation as output gaps close.
economies have either Central banks in developed economies are expected to continue dialling back monetary
closed, or are on the verge accommodation in 2019 as output gaps close or are on verge of closing (Figure 13). The
of closing Federal Reserve remains on track for four rate hikes in 2019, bringing the Fed Funds rate
to 3.5% by the year’s end. In Europe, the European Central Bank (ECB) is also expected to
end quantitative easing and begin monetary tightening by late-2019.
 CIO INSIGHTS 1Q19 | 12

Figure 11: The recent pullback in equity markets has Figure 12: Close correlation between economic
resulted in tighter financial conditions growth and global equities growth
US financial conditions (LHS) Global equities (y/y growth, %, LHS)
1.5 0.4 14
Asia ex-Japan financial conditions (RHS) Global GDP (y/y growth, lagged, %, RHS)
0.75 12
0.3
1.0 10
0.25 0.2
8
0.5 0.1
-0.25 6
0.0 4
0
-0.75 2
-0.1
-0.5 0
-1.25 -0.2
-2
-0.3 -4
-1.0 -1.75
-0.4 -6
-1.5 -2.25 -0.5 -8
Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Dec-91 Dec-97 Dec-03 Dec-09 Dec-15
Source: Bloomberg, DBS Source: Bloomberg, DBS

Figure 13: The output gaps for US and Eurozone have closed as economic recovery
continues
4

-2

-4

US output gap as % of potential GDP

-6
Eurozone output gap as % of potential GDP
Japan output gap as % of potential GDP
-8
Jan-80 Jan-85 Jan-90 Jan-95 Jan-00 Jan-05 Jan-10 Jan-15
Source: Bloomberg, DBS

Taken together, government bond yields will continue to face upward pressure in the year
ahead (Figure 14).

Limited room for spread DM corporate bonds have limited room for further spread tightening. US corporate spreads,
tightening for DM for instance, stands at 1.1 percentage points and this is below the long-term median
corporate bonds (Figure 15). The same can be said for US high-yield corporate bonds, where spreads are
tighter than the long-term median.
CIO INSIGHTS 1Q19 | 13

Figure 14: Upward march in government yields as Figure 15: US corporate spreads remain below
central banks tighten monetary policies the long-term median – limited room for further
tightening
UST 10-yr yield (%, LHS) US corporate average spread (%pts)
3.3 Eurozone 10-yr yield (%, RHS) 6
2.2
5
2.9
1.7
4
2.5 1.2 +2 SD
3
+1 SD
2.1 0.7 2

1.7 1
0.2
-1 SD
0
1.3 -0.3
Dec-12 Dec-13 Dec-14 Dec-15 Dec-16 Dec-17 Jun-05 Jun-07 Jun-09 Jun-11 Jun-13 Jun-15 Jun-17
Source: Bloomberg, DBS Source: Bloomberg, DBS

Table 2: 1Q19 CIO Asset Allocation (CAA) framework

Equities Bonds
Score
Categories Indicators
Range
US Europe Japan AxJ DM Govt DM Corp EM Bonds

PMI -1 to +1 1 -1 0 0 -1 0 0
Economic surprise -1 to +1 -1 0 0 -1 0 -1 -1
Inflation -1 to +1 1 0 -1 0 0 0 0
Fundamentals
Monetary policies -1 to +1 0 0 1 0 -1 -1 -1
Forecasted EPS growth -2 to +2 1 0 0 0 - 1 0
Earnings surprise -2 to +2 1 -1 1 0 - 0 0
Forward P/E -2 to +2 0 0 1 2 - - -
P/B vs ROE -2 to +2 0 0 1 1 - - -
Valuation Earnings yield - 10-yr
-2 to +2 1 1 1 2 -1 - -
yield
Credit spread -2 to +2 - - - - - -1 1
Fund flows -2 to +2 1 0 0 0 0 0 0
Momentum Volatility -1 to +1 0 0 0 0 0 - -
Catalysts -2 to +2 0 -1 0 0 0 0 0
Raw Score 5 -2 4 4 -3 -2 -1
Adjusted Score* 0.3 -0.1 0.2 0.2 -0.3 -0.2 -0.1

*Note: The “Adjusted Score” is calculated using the “Raw Score” divided by the maximum attainable score for each category. Source: DBS
 CIO INSIGHTS 1Q19 | 14

Cross assets: Prefer equities over bonds. We maintain a preference for equities over
bonds in 1Q19 as the asset class encapsulates more attractive medium-term risk-reward.
In our CAA framework, the adjusted score for equities averages 0.6 – substantially higher
than the adjusted score of -0.5 for bonds. On a segmental basis, equities have managed to
garner higher adjusted scores for all the three main categories: fundamentals, valuation,
and momentum.

Fundamentals: We believe that the combination of steady macro conditions and well-
controlled inflation will be supportive of equity prices. Government bonds, however, will
continue to face headwinds from monetary normalisation by the major central banks in
2019.

Valuation: The recent bout of volatility in 4Q18 has brought valuations down substantially.
Global equities, for instance, have de-rated by c.9% while global corporate spreads have
also widened 0.21 percentage points since October 2018. But on a cross-asset basis,
the gap between earnings yields and treasury yields suggests that equities remain more
attractive than bonds. The yield gap has widened from 1.67% in end-September to 2.7%
(as of 7 December 2018).

Momentum: On cross-asset flows, both equities and bonds have experienced a moderation
of inflows in 2018. On a 10M18 basis, total net flows into global equities fell 55% y/y,
while they fell 92% y/y for bonds. The dip in enthusiasm for both asset classes since 2Q18
is particularly profound as equities and bonds saw cumulative net outflows of USD4.7b
and USD12.9b, respectively (Figure 16). Meanwhile, we expect the implied volatility for
both equities and bonds to stay higher than previous lows (Figure 17).

Figure 16: Both equities and bonds have been Figure 17: Elevated implied vols for both equities and
experiencing net outflow of funds since 2Q18 bonds
14 Global equity fund flows (3mma, USDb) 40 Equity implied volatility (LHS) 75
12 Global bond fund Flows (3mma, USDb) Treasury implied volatility (RHS)

10 35 70

8 30 65
6
4 25 60

2
20 55
0
-2 15 50
-4
10 45
-6
-8 5 40
Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Nov-17 Feb-18 May-18 Aug-18 Nov-18
Source: EPFR, DBS Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 15

Favour US equities for Equities: Overweight on US for growth and Asia ex-Japan for value. We remain
growth and Asia ex-Japan convicted on US and Asia ex-Japan equities, given their earnings superiority and attractive
for cheap valuation valuation, respectively. As Figure 18 shows, US equities continue to exhibit stronger
earnings momentum compared to other markets; based on consensus forecast, US
earnings are expected to grow 9% in 2019. Asia ex-Japan, meanwhile, remains attractive
from a valuation perspective. At 12x forward P/E, the region trades at 18% discount to
global equities (Figure 19).

Figure 18: US earnings momentum remains robust Figure 19: Asia ex-Japan trading at an attractive
discount to global equities
(Normalised) US equities - trailing 12-mth EPS AxJ relative to Global - Forward P/E (x)
Global equities (ex-US) - trailing 12-mth EPS 1.3
350

300 1.2
+2 SD

250 1.1
+1 SD
200 1.0
150
0.9
100
0.8
50 -1 SD
0 0.7
Jan-98 Jan-02 Jan-06 Jan-10 Jan-14 Jan-18 Jun-05 Jun-08 Jun-11 Jun-14 Jun-17
Source: Bloomberg, DBS Source: Bloomberg, DBS

Overweight on alternatives. In this environment of higher volatility and non-trending

markets, private equity and hedge funds are particularly attractive strategies. Figure 21
shows that hedge fund strategies (as proxied by the Credit Suisse Hedge Fund Index) have
historically outperformed the broader global equity market during past crises.

Figure 20: Long-term performance of hedge funds Figure 21: Hedge fund strategies have historically
index and global equities outperformed global equities during past crises

650 Credit Suisse Hedge Fund Index (LHS) 2.1 Credit Suisse Hedge Fund Index relative to global equities
600
Global equities (RHS)
1.9
550
500
1.7
450
1.5
400
350 1.3
300
1.1
250
0.9
200
150
0.7

50 100 0.5
Jan-95 Jan-00 Jan-05 Jan-10 Jan-15 Jan-95 Jan-00 Jan-05 Jan-10 Jan-15
Source: Bloomberg, DBS Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 16

Table 3: 1Q19 global tactical asset allocation (TAA)

Asset Class
Three-Month Basis 12-Month Basis
Equities Neutral Neutral
US Equities Overweight Underweight
Europe Equities Underweight Neutral
Japan Equities Neutral Neutral
Asia ex-Japan Equities Overweight Overweight
Bonds Underweight Underweight
Developed Markets (DM) Government Bonds Underweight Underweight
Developed Markets (DM) Corporate Bonds Underweight Neutral
Emerging Markets (EM) Bonds Neutral Neutral
Alternatives Overweight Overweight
Gold Neutral Neutral
Hedge Funds Overweight Overweight
Cash Overweight Neutral
Source: DBS

Figure 22: TAA Breakdown by asset class (Balanced Figure 23: TAA breakdown by geography within
Profile – three-month view) equities (Balanced Profile – three-month view)
Cash
8% Equities
Alternatives 50%
Asia ex-Japan US
10% 46%
24%

Japan
Fixed 14%
Income
32%

Europe
16%
Source: DBS Source: DBS
CIO INSIGHTS 1Q19 | 17

Conservative
TAA SAA Active
Equities 0.0% 0.0%
US 0.0% 0.0% Cash
20.0% DM Govt
Europe 0.0% 0.0% Bonds
44.0%
Japan 0.0% 0.0%
Asia ex-Japan 0.0% 0.0%
Fixed Income 80.0% 80.0%
Developed Markets (DM) 80.0% 80.0%
DM Government Bonds 44.0% 44.0%
DM Corporate Bonds 36.0% 36.0%
Emerging Markets (EM) 0.0% 0.0%
Alternatives 0.0% 0.0%
DM Corp
Gold 0.0% 0.0%
Bonds
Hedge Funds* 0.0% 0.0% 36.0%
Cash 20.0% 20.0%
*Only P4 risk rated UCITs Alternatives Source: DBS, Morningstar Investment Management Asia Limited

Moderate
TAA SAA Active
Equities 15.0% 15.0% Europe Japan Equities
Equities 2.0%
US 6.5% 6.0% 0.5% US Equities
3.0% AxJ Equities
6.5%
Europe 3.0% 4.0% -1.0% 3.5%
Japan 2.0% 2.0% Cash
18.0% DM Govt
Asia ex-Japan 3.5% 3.0% 0.5%
Bonds
Fixed Income 67.0% 75.0% -8.0% 27.0%
Developed Markets (DM) 45.0% 53.0% -8.0%
DM Government Bonds 27.0% 30.0% -3.0%
DM Corporate Bonds 18.0% 23.0% -5.0%
Emerging Markets (EM) 22.0% 22.0%
Alternatives 0.0% 0.0% EM Bonds
Gold 0.0% 0.0% 22.0%

Hedge Funds* 0.0% 0.0% DM Corp Bonds

Cash 18.0% 10.0% 8.0% 18.0%
*Only P4 risk rated UCITs Alternatives Source: DBS, Morningstar Investment Management Asia Limited
 CIO INSIGHTS 1Q19 | 18

Balanced
TAA SAA Active
Equities 50.0% 50.0% Cash
US 23.0% 21.0% 2.0% 8.0%
Alternatives
US
Europe 8.0% 12.0% -4.0% 10.0%
Equities
Japan 7.0% 7.0% 23.0%

Asia ex-Japan 12.0% 10.0% 2.0% EM Bonds

11.0%
Fixed Income 32.0% 40.0% -8.0%
Developed Markets (DM) 21.0% 29.0% -8.0%
DM Government Bonds 13.0% 16.0% -3.0%
Europe
DM Corporate Bonds 8.0% 13.0% -5.0% Equities
DM Corp
Emerging Markets (EM) 11.0% 11.0% Bonds 8.0%
8.0%
Alternatives 10.0% 5.0% 5.0%
Japan Equities
Gold 2.0% 2.0% DM Govt 7.0%
Hedge Funds* 8.0% 3.0% 5.0% Bonds
13.0% AxJ Equities
Cash 8.0% 5.0% 3.0% 12.0%
*Only P4 risk rated UCITs Alternatives Source: DBS, Morningstar Investment Management Asia Limited

Aggressive
TAA SAA Active
Equities 65.0% 65.0% Cash
US 32.0% 29.0% 3.0% 7.0%

Europe 9.0% 15.0% -6.0% Alternatives

US Equities
14.0%
Japan 8.0% 8.0% 32.0%

Asia ex-Japan 16.0% 13.0% 3.0%

Fixed Income 14.0% 20.0% -6.0% EM Bonds
7.0%
Developed Markets (DM) 7.0% 13.0% -6.0%
DM Government Bonds 5.0% 7.0% -2.0% DM Corp
Bonds
DM Corporate Bonds 2.0% 6.0% -4.0% 2.0%
Emerging Markets (EM) 7.0% 7.0% DM Govt
Alternatives 14.0% 10.0% 4.0% Bonds Europe
5.0% Equities
Gold 4.0% 4.0%
9.0%
AxJ Equities
Hedge Funds* 10.0% 6.0% 4.0% Japan Equities
16.0%
Cash 7.0% 5.0% 2.0% 8.0%

*Only P4 risk rated UCITs Alternatives Source: DBS, Morningstar Investment Management Asia Limited
CIO INSIGHTS 1Q19 | 19

Notes:
1. The above are based on three-month views.
2. Asset allocation does not ensure a profit or protect against market loss.
3. “TAA’ refers to “Tactical Asset Allocation”. “SAA” refers to “Strategic Asset Allocation”.
4. The expected return of the SAA is based on capital market assumptions derived from Morningstar’s econometric model that relies on historic, current
and forecasted data on the indices highlighted below. The information is for reference only.
5. The expected risk (or expected standard deviation) of the SAA model represents the expected risk level of the portfolio based on asset class relationships
(correlations) and expected volatility, based on the indices highlighted below. The information is for reference only.
6. Morningstar‘s SAA models started on 1 October 2010. Morningstar reviews the strategic asset allocation on an annual basis. The current Strategic
Asset Allocation (SAA) is as of 1 December 2018.
7. Based on the SAA model, the Aggressive model has the highest risk, followed by Balanced, Moderate, and Conservative, with Conservative being
the least risky. The risk consideration that was used in formulating the Strategic Asset Allocation was the expected volatility as measured by expected
standard deviation.
8. The investor type classification for the portfolio has no direct relationship with the Financial Needs Analysis customer risk profile types and the
portfolios are not assigned any product risk rating based on the bank’s proprietary risk rating methodology.
9. The above SAA models are effective from December 2018 to November 2019 and are subject to change.
10. The expected return and expected risk are based on the following indices for calculation:
• Equity: US – MSCI USA GR USD; Europe – MSCI Europe GR USD; Japan – MSCI Japan GR USD; Asia ex Japan – MSCI AC Asia Ex Japan GR USD
• Bond: Developed Market Bonds – Citi WGBI USD; Developed Market Corporate Bond – Citi WBIG USD; Emerging Market Bonds – JPM EMBI
Global Diversified TR USD
• Alternatives: Gold – S&P GSCI Gold Spot; Hedge Fund – Credit Suisse Hedge Fund USD
• Cash: BofAML US Treasury Bill 3 Mon TR USD

Disclaimer by Morningstar:
For Professional Investors Only. Morningstar Investment Management Asia Limited (“Morningstar”) is licensed and regulated by the Hong Kong Securities
and Futures Commission to provide investment research and investment advisory services to professional investors only. Morningstar relies on certain
exemptions (Singapore Financial Advisers Regulations, Section 27(1)(e)) to provide its financial advisory services to institutional investor recipients in
Singapore.

Morningstar provides strategic asset allocation to DBS Bank Limited (“DBS”) based on certain criteria set by DBS. DBS has the authority to accept, reject or
modify Morningstar’s strategic asset allocation. Morningstar takes no responsibility for advice provided by DBS to its clients. Morningstar is licensed with
the Hong Kong Securities and Futures Commission to provide investment research and investment advisory services to professional investors (which include
DBS) only. Morningstar is not acting in the capacity of adviser to individual investors. Morningstar is not affiliated with DBS. The Morningstar name and logo
are registered trademarks of Morningstar, Inc. All investments involve risks. The information is for your reference only and does not constitute any offer or
solicitation to enter into any investment arrangement. Past performance is not indicative of future performance. You should refer to relevant investment
offering documents for detailed information prior to investing in any investment option.
Global Macroeconomics | 1Q19

Business as
usual

Source: AFP Photo

CIO INSIGHTS 1Q19 | 21

Global Macroeconomics

Taimur Baig, Ph.D. United States

Chief Economist
Although difficult to price and likely to be several quarters away, the probable
Radhika Rao contours of a sharp slowdown in the US economy are beginning to emerge.
Economist
At first glance, this may appear to be an odd time to talk about an impending
Ma Tieying growth slowdown in the US. Presently, real GDP is expanding robustly (Atlanta Fed’s
Economist Nowcast suggests around 3% growth in recent months), inflation is modest (latest
prints show core PCE at 2% and headline at 2.3%), wages are picking up gradually
Suvro Sarkar (average weekly earnings growth has been over 3% in 2018), the Fed is hiking as per
Analyst expectations, and business surveys reflect buoyant confidence. Trade wars, oil price
volatility, midterm elections, rising rates, and a strong US dollar have not dented the
momentum of the world’s largest economy.

Indeed, we think that near-term downsides to the US economy are minimal. Labour-
market tightness, wage upside, fiscal stimulus (tax cuts, farm subsidies, defence
spending), and strong business sentiment will likely keep growth comfortably in the
2.0-3.0% range in 2019, in our view. The chance of wage and inflation surprising
on the upside is rising, but we do not see anything alarming in the pipeline. Fiscal
slippage concerns are real, and the supply of treasuries has ballooned, but the gap
between supply and demand does not appear glaring as long-term rates have not
galloped ahead of Fed policy tightening so far.

Figure 1: Inflation markers are still modest

ISM manufacturing price (LHS) Core PCE, y/y (%, RHS)
80 2.25
75
70 2.00
65
60 1.75
55
50 1.50
45
40 1.25
35
30 1.00
Oct-15 Oct-16 Oct-17 Oct-18
Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 22

We therefore see 2019 growth remaining impressive by historical standards, averaging

2.5% for the year, with core inflation nudging up toward 2.5%, keeping the USD strong,
pushing the 10-year yield to over 3.5%, and allowing the Federal Reserve to keep hiking
policy rates at the rate of one per quarter. This will take place regardless of likely criticism
from the White House, in our view, as the Fed will be keen to assert its independence.

But as the fourth quarter of 2019 comes along, we expect economic conditions to become
challenging along multiple dimensions:

• After two years of strong support, fiscal impulse will likely turn negative in 2020. We
think it will become progressively difficult to come up with further fiscal relaxation
through legislative initiatives by then. Having stimulated the economy through record
fiscal deficits and stimuli (tax cuts and defence spending increases), the political room
for additional measures will be exhausted by then, in our view. This is especially likely
as the 2020 presidential election will come amid a divided legislature.
• US-China battles will likely transcend trade wars and spill over into geopolitical
tension, but the key economic drag will stem from assorted uncertainties and cost
increases associated with tariffs and other trade-restriction measures. The full impact
of the resulting recalibration will be felt from 2020 onward, hurting both investment
and exports.
• Given the prevailing tightness in the US labour market, wages will continue to rise
through 2019, and the momentum could well last through the following year, even as
growth begins to slow. Headline and core inflation pressures would therefore remain
high, making it difficult for the Fed to relent. The problem for the Fed would be that
the level of output (not delta) and the prevailing wage/price dynamics will make it
nearly impossible to ease policy in 2020. With high rates and tight liquidity in place,
and having grown well above potential, it will take fairly small shocks for the economy
to experience a sharp slowdown in growth or an outright (mild) contraction.

Figure 2: Good growth in 2019, but much slower in 2020

Consumption Investment Net exports
4.0%
Government GDP
3.5%
3.0%
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
-0.5%
-1.0%
2012 2013 2014 2015 2016 2017 2018F 2019F 2020F
Source: CEIC, DBS
CIO INSIGHTS 1Q19 | 23

Eurozone

GDP growth forecasts are Markets are likely to be pre-occupied by shifting political and economic sands
lowered to 1.9% for 2018 in 2019, which reinforces our view that the ECB is unlikely to rush into a rate-
and 1.8% for 2019 hiking cycle.

Politics is likely to dominate the narrative amid rising far-right politics in the
bloc’s largest economies, Italy and Germany. In Germany, the electoral defeat
of the ruling coalition partners in regional polls saw Chancellor Angela Merkel step
down as the party chief and not seek re-election when her political term ends in
2021. With dominant parties likely to take a backseat, the domestic landscape is likely
to turn more fragmented and could potentially threaten the stability of the biggest
economy of the bloc.

Concurrently, the new government in Rome and the European Commission

have yet to reach a compromise on the former’s fiscal plans. The new Italian
government is on course to renege on fiscal consolidation plans by raising deficit
targets (-2.4% of GDP for 2019 vs EU-mandated -0.8%). Tensions might rise if the
European Council launches an “Excessive Deficit Procedure” against Italy, which
would require Italy to provide a plan of corrective action to rein in its large public
debt. Material fallout on the bond markets will necessitate the ECB’s backstop, but
the latter has reiterated that it will not get involved unless Rome officially seeks help.

Figure 3: Italy’s government debt is the highest among core-4 economies

% of GDP
2017 2012

Greece

Italy

Spain

France

Germany

0 20 40 60 80 100 120 140 160 180 200

Source: Bloomberg, DBS

Finally, after more than two years since the Brexit vote, there is little clarity
on the terms of the UK-EU relationship once UK exits the bloc, as the March 2019
deadline looms. We continue to look for further EUR downside, with the weakness
thus far matching our expectations. Rates volatility (particularly on the fallout of Italy’s
debt worries) is localised for the time being, but we will continue to monitor German
Bund movements as a barometer of risk.
 CIO INSIGHTS 1Q19 | 24

Figure 4: Italy-Germany bond spreads remain wide, but risks are localised for now
bps
Spain Italy France
350

300

250

200

150

100

50

0
2016 2017 2018
Source: Bloomberg, DBS

On the economic end, after a strong 2017, Eurozone growth lost momentum
in 2018, which is likely to extend in 2019. From 2.3% y/y in 1H18, growth slowed
to 1.7% in 3Q18. Nominal and negotiated wage growth improved in 2H18, though
purchasing power was partly dented by high energy prices. Industrial production was
dragged by slower manufacturing, utilities, and mining activity, despite better capacity
utilisation rates. Slowing construction activity is weighing on investment growth.

Figure 5: Growth momentum slows, contribution of net trade eases

%pts
4 Domestic demand Net trade GDP

-1

-2

-3
2012 2013 2014 2015 2016 2017 2018
Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 25

Temporary factors – akin to disrupted car production in Germany due to stricter

emissions regulations – hurt growth, weighing on the bloc as a whole. France fared
better, but Italy stagnated, making the latter’s budget decisions even more tenuous.
Considering risks to the outlook and global uncertainties on the trade front, we
lowered our 2018 forecast to 1.9% from 2.2% previously. 2019 is pegged at a slower
1.8%.

Compared to stubbornly weak inflation in 2017, headline inflation has edged

back to the 2% target. From 1.3% y/y in January 2018, Eurozone inflation rose to
2% by 3Q18. While this fulfils the policy mandate, policymakers are concerned on
two fronts. Firstly, the rise in inflation is mainly due to cost-push forces i.e. energy
prices (transport was the single-biggest contributor to price increases) and utility costs.
Secondly, core continues to flatline, despite improving wages, which shows hesitation
of firms to pass on the burden of higher wages and, likely that the impact of a weak
euro is still to reflect on imported/ tradable inflation.

Figure 6: Headline inflation is near target, core lags

% y/y Headline inflation Core inflation (ex food and fuel)
2.5

2.0
Inflation target
1.5

1.0

0.5

0.0

-0.5

-1.0
2014 2016 2018
Source: CEIC, DBS

Incoming signs of Given this growth and inflation backdrop, policymakers see a lower need to
softness in growth maintain crisis-era policy. QE purchases are thereby likely to cease by end-2018
indicators suggest policy (barring reinvestments).
normalisation could be
delayed. Incoming signs of softness in growth indicators, however, suggests policy
normalisation could be delayed. There is also a speculation that the ECB might
consider another tranche of its cheap financing programme, under the targeted long-
term repurchase operation scheme to support growth and infuse liquidity. Rate hikes,
meanwhile, stand delayed beyond October 2019, after Draghi’s term ends, possibly
into 2020.
 CIO INSIGHTS 1Q19 | 26

Japan

Prime Minister Shinzo Abe looks likely to stay in office for another three years, after
winning the Liberal Democratic Party’s leadership election in September 2018. The
key strategies under Abenomics – a flexible fiscal policy, a bold monetary policy, and
structural reforms – are expected to remain basically unchanged in 2019.

Brace for consumption tax On fiscal policy, the government is set to raise the consumption tax to 10% from 8%
hike in 2019 in October 2019 (a key pledge made by Abe during the lower house election in 2017).
The 2014 experiences suggest that GDP growth could fall sharply, and inflation could
surge immediately in the aftermath of consumption-tax hike. The shock this time is
expected to be more moderate than in 2014, because:

1. The magnitude of tax hike is smaller this time (food and some other daily necessity
items are excluded);
2. Collected tax revenue will be used to improve social security initiatives; and
3. Labour market conditions are stronger this time to provide buffers for consumers.

Note that GDP growth fell by 1.6 percentage points and inflation rose 2.5 percentage
points in 2014 as a result of a 3-percentage-point hike in consumption tax. For
2019-20, we have pencilled in a 0.5-percentage-point decline in GDP growth and a
0.6-percentage-point rise in inflation.

Figure 7: Growth fell and inflation surged after the 2014 consumption-tax hike
% y/y GDP CPI
6
2014 consumption
tax hike
4

-2

-4

-6
2001 2005 2009 2013 2017
Source: CEIC, DBS
CIO INSIGHTS 1Q19 | 27

Figure 8: Job and wage conditions are stronger than in 2014

Unemployment rate (% sa, LHS) Base wages (% y/y, RHS)
5 1.5

1.0
4
0.5

3 0.0

-0.5
2

-1.0
1
-1.5

0 -2.0
Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18
Source: CEIC, DBS

Monetary policy will remain The BOJ has tweaked the yield-curve control policy this year, allowing the 10-year
loose in 2019 JGB yield to fluctuate in a slightly wider range around the 0% target (±0.2% vs
±0.1% previously). Given that the JGB yield curve remains very flat and the pressure
on banks’ profits continues to loom, it is possible that the BOJ will further adjust policy
technically to allow the long-term yields to move more flexibly in 2019. That said, any
substantial policy changes (end of the negative rate policy and outright hike in the
long-term yield target) would only happen in 2H20 at the soonest, given that inflation
remains far below the BOJ’s 2% target and near-term growth outlook is challenged by
the upcoming consumption-tax hike.

Figure 9: JGB yield curve has remained flat after the 2018 BOJ tweaking
% pa BOJ deposit rate (interest on excess reserves)
1.0 10Y JGB yield
5Y JGB yield
0.8

0.6

0.4 Target band: ±0.1%

→ ±0.2%
0.2

0.0

-0.2

-0.4
Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18
Source: CEIC, DBS
 CIO INSIGHTS 1Q19 | 28

Figure 10: Inflation remains far below the BOJ’s 2% target

% y/y Headline CPI Core CPI Core-Core CPI
2.0

1.5

1.0

0.5

0.0

-0.5

-1.0
Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18
Source: CEIC, DBS

Growth/inflation/policy External risks need to be closely watched. Trade protectionism, Fed tightening, and
path could be derailed by EM volatility could lead to a slowdown in Japan’s exports and deterioration in the
external factors overseas earnings of Japanese corporates. Increases in oil price, meanwhile, could
erode the real income of Japanese households and depress domestic demand. In the
event that external risks escalate, growth outlook disappoints, and deflation pressure
resurfaces, the Japanese authorities would recalibrate policies, including postponing
the scheduled consumption tax hike and extending the ultra-loose monetary policy.

Asia

After a few torrid quarters, Asia’s markets and economies are catching a
breather as oil prices correct and FX pressure eases. This respite may last a
couple of quarters.

Chances are that the Since the beginning of October 2018, there has been a spike in asset-market volatility
ongoing reprieve will prove – the first of such an occurrence since February. Along with equities and rates,
to be temporary volatility has been considerable in the oil market. Thanks to repeated upside surprise
in US oil production data and some waivers with respect to US sanctions on Iran, oil
prices corrected by 25% in October/November. Note, however, that despite this sharp
decline, oil prices are flat on a y/y basis for 4Q18, and still about 25% higher than
where they were in 2016. The ongoing correction, therefore, would not warrant a
major change in the annual projections of Current Account deficits of the likes of
India and Indonesia, in our view.

Three developments that helped stabilise EM sentiments in November could last for a
couple of quarters:

First, oil prices have eased for now, reflecting buoyant production in the US and some
waiver for oil importers from Iran. In the US, production has soared lately, solidifying
its ranking as the largest oil producer in the world. This has pushed down US oil prices
CIO INSIGHTS 1Q19 | 29

(WTI) steadily in recent months. Indeed, forecasts are being revised upward for US
production for 2019, which is now expected to exceed 12m barrels a day by mid-
2019. Outside of the US, Russia and Saudi Arabia have ramped up their production as
well, helping stabilise Brent prices. Regarding Iran sanctions, which were re-imposed
by the US in early-November, waivers for some key importers, including China, India,
Japan, South Korea, and Turkey, have eased fears of a supply crunch.

Second, since the IMF meetings in Bali in October, concerns about US-dollar funding
for certain beleaguered economies have eased somewhat. In mid-October, on the
sidelines of the IMF meetings in Bali, the central banks of Indonesia and Singapore, BI
and MAS, announced that a deal would be signed for a USD10b local-currency swap
and US-dollar repurchase agreement. This amounts to nearly 10% of reserves held by
BI. Then, in late-October, the central banks of India and Japan, RBI and BOJ, signed a
USD75b currency-swap agreement. The relative size of this deal is nearly twice that
of the BI-MAS arrangement. These arrangements ought to be beneficial for IDR and
INR; indeed, since the announcement of the swaps, both currencies have shown new-
found stability.

Third, the US midterm election outcomes, with House majority going to the Democrats,
are being seen as positive for EM, as checks on US President Donald Trump’s brand of
aggressive unilateralism could reduce the risk of exacerbating frictions on trade and
security.

But the reprieve could well prove to be temporary. Note that Iran sanction waivers will
last just 180 days, after which the US could either reduce the amount of Iranian oil
that could be imported under the waiver or refuse to extend waivers altogether. For
the economies with large external funding needs, a rebound in oil or continued US-
dollar liquidity tightness would remain a source of stress. Geopolitical friction around
the shipment of oil through the Persian Gulf could easily flare up as well. Furthermore,
while we expect US oil production to remain robust, we are not sure if Russia and
Saudi Arabia can keep pace. Concerns about oil supply could readily return in the
spring of 2019, in our view.

Figure 11: Reserves to gross external financing

2019F 2018F 2013

South Korea

Thailand

Taiwan

Philippines

China

India

Indonesia

Malaysia

0.0 5.0 10.0 15.0 20.0

Source: CEIC, World Bank, DBS
 CIO INSIGHTS 1Q19 | 30

Oil: The Trump games continue

Volatility reigns supreme; we revise down our oil price forecasts. If forecasting
oil prices was not tough enough, US President Donald Trump has made it close to
impossible. Bearish sentiment has returned to the oil market, as Trump not only agreed
to temporary waivers for Iran oil importers, but warned Saudi Arabia and Russia from
cutting oil production to boost prices.

Near-term outlook has Brent crude oil price has declined more than 20% from its recent high of USD86 per
turned bearish on lower- barrel in early-October 2018 to levels around USD67 per barrel in mid-November
than-expected impact of 2018, as the immediate impact of US sanctions on Iranian exports could be much
Iran sanctions and demand- lower than expected. Further, the fact that the US, Saudi Arabia, and Russia have
side concerns already boosted production by 900kbpd, 700kbpd, and 400kbpd, respectively since
May 2018 has now raised concerns of near-term excess supply.

We believe the supply-demand gap could be wider for 2019-20 than previously expected,
especially given weaker global GDP growth expectations, trade wars, and EM weakness.
We are thus revising down our average Brent crude oil forecast for 2019 to USD70-75 per
barrel (from USD75-80 per barrel) and 2020 average Brent crude oil forecast to USD65-70
per barrel (from USD70-75 per barrel).

Table 1: DBS quarterly average oil price forecast 2019-20

(USD per barrel) 1Q19 2Q19 3Q19 4Q19 1Q20 2Q20 3Q20 4Q20

Average Brent crude oil price 70.5 72.0 70.5 69.0 67.5 68.0 69.5 68.0

Average WTI crude oil price 62.5 64.0 62.5 62.0 61.5 62.0 63.5 62.0

Source: DBS

Figure 12: OPEC production boost from May to October 2018

kbpd
1,400
1,210
1,200
1,000
800 710

600
400 250 260
210 230
200 110

0
-200
-170
-400
-390
-600
Saudi Iraq UAE Libya Nigeria Venezuela Iran Rest of Total
Arabia OPEC
Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 31

Figure 13: Iran export losses since announcement of sanctions; could reverse after
waivers in November 2018
mmbpd Month 1 Month 2 Month 3 Month 4 Month 5 Month 6
0.0

-0.2

-0.4

-0.6

-0.8

-1.0

-1.2

-1.4
Obama (Starting Jan-12) Trump (Starting Apr-18)
Source: Bloomberg, DBS

Demand-side concerns making a comeback. Escalating trade tensions between

the US and China have led to concerns about slower global economic growth. This
has started to hurt the Chinese economy, with real GDP growth slowing to 6.5% y/y
in 3Q18, the slowest since 2009. China’s growth can be expected to fall below 6% if
Trump imposes tariffs on the remaining USD267b of Chinese goods entering the US.
The IMF estimated that this would shave 1.6% off China’s growth over the next two
years.

Trade wars and asset-market selloffs are clouding the overall global economic outlook
as well. EM countries have been caught out by high US rates and a stronger US dollar.
The US has been doing well so far, but economic conditions could become more
challenging from 4Q19 onwards. Hence, we lower our FY19-20 oil demand growth
outlook to 1.3mmbpd/1.2mmbpd pa, from our earlier estimate of 1.4mmbpd growth
– a deceleration from 1.4-1.5mmbpd pa growth levels of the past few years.

US oil production could hit US shale oil growth defies infrastructure issues; global inventories rising.
close to 12mmbpd in 2019, US oil production is up to around 11.5mmbpd currently, and 2018-YTD average of
the No 1 spot by far 10.8mmbpd is about 1.4mmbpd higher than 2017’s average. We believe average
would reach 10.9mmbpd (1.5mmbpd growth in 2018) by end-2018. US onshore rig
count has increased by 149 rigs (+16%) YTD in 2018, and optimism continues despite
the pipeline constraints in the Permian region. Pipeline bottlenecks in any case, should
ease by 2H19 in our view, and US production is likely to grow by at least 1.0mmbpd
again in 2019. This will be almost enough to meet global oil demand growth by itself,
hence OPEC countries will need to be cautious with production quotas and potential
market-share losses in exchange for price gains.

Meanwhile, OECD commercial oil stocks rose by more than 20mmbbls m/m to
2,875mmbbls in September 2018, the third straight month of inventory increase and
is up almost 60mmbbls from the recent low in March 2018. Unless OPEC members
 CIO INSIGHTS 1Q19 | 32

cut some of the excess production built up since mid-2018 in anticipation of Iran sanctions,
inventories will keep rising and put pressure on oil prices.

Figure 14: US crude oil production ramp-up Figure 15: OECD stock drawdown trend paused and
continues to defy expectations reversed direction in 2H18
14 3.2 Total OECD commercial oil stocks (mmbbls)
US oil production (mmbpd)
12
3.0
10
2.8
8
2.6
6
2.4
4

2 2.2

0 2.0
Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18
Source: Bloomberg, DBS Source: Bloomberg, DBS

Table 2: GDP growth and CPI inflation forecasts

GDP growth, % y/y CPI inflation, % y/y, ave
2017 2018F 2019F 2020F 2017 2018F 2019F 2020F
China 6.9 6.6 6.2 6.0 1.6 2.1 2.3 2.3
Hong Kong 3.8 3.3 2.5 2.0 1.5 2.5 2.7 2.5
India* 7.1 6.7 7.1 7.4 4.5 3.6 4.0 4.2
Indonesia 5.1 5.1 5.2 5.1 3.8 3.2 3.8 3.6
Malaysia 5.9 4.7 4.5 4.2 3.8 1.1 2.5 1.6
Philippines** 6.7 6.3 6.5 6.4 2.9 5.3 4.7 3.8
Singapore 3.6 3.4 3.0 2.8 0.6 0.7 1.8 1.5
South Korea 3.1 2.7 2.6 2.4 1.9 1.6 1.7 1.6
Taiwan 2.9 2.7 2.2 1.8 0.6 1.5 1.0 1.0
Thailand 3.3 4.1 3.8 4.0 0.7 1.1 1.4 1.5
Vietnam 6.8 6.9 6.6 6.3 3.5 3.6 3.8 3.4
Eurozone 2.5 1.9 1.8 1.8 1.5 1.8 1.4 1.4
Japan 1.7 1.0 1.0 0.5 0.5 1.0 1.1 1.6
United States*** 2.3 3.0 2.5 1.5 2.1 2.6 2.5 2.5
* refers to year ending March. ** new CPI series. *** eop for CPI inflation. Source: CEIC, Bloomberg, DBS
CIO INSIGHTS 1Q19 | 33

Table 3: Policy interest rates forecasts, eop

1Q19 2Q19 3Q19 4Q19 1Q20 2Q20 3Q20 4Q20
China* 4.35 4.35 4.35 4.35 4.35 4.35 4.35 4.35
India 6.50 6.75 6.75 7.00 7.00 7.00 7.00 7.00
Indonesia 6.25 6.50 6.50 6.50 6.50 6.50 6.50 6.50
Malaysia 3.25 3.25 3.25 3.25 3.25 3.25 3.00 3.00
Philippines 5.00 5.25 5.25 5.25 5.25 5.25 5.25 5.25
Singapore** 2.10 2.30 2.55 2.70 2.70 2.70 2.70 2.70
South Korea 1.75 1.75 1.75 1.75 1.75 1.75 1.75 1.75
Taiwan 1.38 1.38 1.38 1.38 1.38 1.38 1.38 1.38
Thailand 1.75 2.00 2.00 2.00 2.00 2.00 2.00 2.00
Vietnam*** 6.25 6.25 6.25 6.25 6.00 5.75 5.75 5.75
Eurozone 0.00 0.00 0.00 0.00 0.25 0.25 0.50 0.50
Japan -0.10 -0.10 -0.10 -0.10 -0.10 -0.10 0.00 0.00
United States 2.75 3.00 3.25 3.50 3.50 3.50 3.50 3.50
* 1-yr lending rate; ** 3M SOR ; *** prime rate. Source: CEIC, Bloomberg, DBS
US Equities | 1Q19

Increase
resilience

Source: AFP Photo

CIO INSIGHTS 1Q19 | 35

US Equities

Dylan Cheang Increase resilience

Strategist
US equities endured a volatile 2018 as the twin headwinds of a trade war and rising rates
weighed on sentiment. Still, the market managed to squeeze out 0.5% gains on a dollar-
based total returns basis (as of December 2018) as US fundamentals continued to remain
strong, especially relative to other markets. Europe and Japan, for instance, were down
14.7% and 10.2%, respectively while the EMs lost 14.8%. In 2019, we expect volatility
to stay elevated given the advanced stage of the market cycle. But the good news is,
investors will be starting the new year on more stable footing from a valuation perspective.

The brutal selldown last October resulted in market valuation becoming less unattractive.
To put things in perspective, we compiled the annual change in valuation for the S&P 500
Index over the years and concluded that the October correction was the fourth-largest
decline since 1991 (Note: In this study, the 2018 data is calculated on a year-to-date (YTD)
basis until October).

Historically, after a year of sharp contraction, valuation for the S&P 500 would undergo
substantial expansion in the subsequent year. Out of the six occasions where valuations
fell by more than 10%, four occasions saw valuations undergo substantial rebound. In
fact, on average, a 18% contraction in valuation was followed by a 10% expansion in the
following year (Table 1).

Table 1: Past episodes of sharp contraction in US equity valuation

Decline in valuation for the Change in valuation for the
Year
S&P 500 S&P 500 in the following year
1994 -15% +9%
2000 -11% -2%
2002 -27% +13%
2008 -24% +43%
2010 -18% -14%
2011 -14% +8%
Average -18% +10%
Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 36

Figure 1: 2018 – Year of moderation for US equity valuation

50%

40%

30%
The October market selldown was the 4th largest
20% pullback in US equity valuation (on YTD basis)
since 1991
10%

0%

-10%

-20%

-30%
Source: Bloomberg, DBS

US valuation has undergone mean reversion; Current forward P/E is based on

conservative assumptions. In the post-October correction, the US market traded
at 18x forward P/E and this was 10.5% above the long-term median (Figure 2). It
is important to note that the forward P/E was calculated based on a conservative
earnings assumption, given that a conservative forecast would reduce the likelihood
of a sharp valuation spike should earnings disappoint over 2019.

On P/B and ROE terms, valuation for US equities is also looking fair at this juncture.
Unlike the 2014 till mid-2015 period which saw P/B grinding higher while ROE
contracted, in the current cycle, the rise in P/B is supported by improving ROE for
investors (Figure 3).

Figure 2: Mean reversion for US equity valuation Figure 3: US P/B is trending north in tandem with ROE
S&P 500 - Forward P/E (x) 3.6 US Equities P/B (x, LHS) 16
28
US Equities ROE (%, RHS)
3.4
+2 SD 15
23
3.2
+1 SD
3.0 14
18

2.8
-1 SD 13
13
2.6
-2 SD

8 2.4 12
Feb-90 Feb-95 Feb-00 Feb-05 Feb-10 Feb-15 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18
Source: Bloomberg, DBS Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 37

US macro conditions remain supportive of equities. Momentum for the

US economy may soften somewhat in 2019 as positive impact from the Trump
administration’s tax cuts wears off. Moreover, the Democrats’ capture of the House
of Representatives in November’s midterm election will result in a less aggressive fiscal
policy easing in the year ahead. Despite the absence of policy tailwinds, the economy
is unlikely to go into a recession in 2019. Our economist’s forecast of US GDP growth
is positive at 2.5% for 2019.

On balance, macro conditions remain supportive of further corporate earnings

growth. Consensus forecast is for 9.1% earnings growth in 2019, broadly in line with
the long-term growth of 9.5% from 2002-18.

Figure 4: The US economy remains stable and is Figure 5: The street is expecting conservative earnings
unlikely to enter a recession in 2019 growth for 2019
ISM Manufacturing new orders (LHS) 50% EPS growth Average
75 US GDP growth (%, lagged, RHS)
8 40%
30%
65
6
20%

55 4 10%
0%
2
45 -10%
0 -20%
35 -30%
-2
-40%
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018E
2019E
25 -4
Mar-91 Mar-98 Mar-05 Mar-12
Source: Bloomberg, DBS Source: Bloomberg, DBS

Investors’ enthusiasm returning to the market; US fund flows on the rebound.

In terms of fund flows, investors’ enthusiasm for US equities is returning. To recap, the
market saw net outflows of USD165.2b from 2015-17. The negative trend persisted
even in the first half of 2018 as outflows totalled USD17.8b. However, the tide started
to turn in the second half. Between July-October 2018, US equities registered net
inflows of USD21.2b and this augurs well for the market.
 CIO INSIGHTS 1Q19 | 38

Figure 6: US equities fund flows on the rebound Figure 7: Changing fortunes – the negative US flow in
1H18 has started to reverse
6 US equity fund flows (3mma, USDb, RHS) 1H 2018 equity fund flows
(USDb)
5 Jul-Oct 2018 equity fund flows
40
4
3 30
2
20
1
0 10
-1
-2 0
-3
-10
-4
-5 -20
-6
-7 -30
Oct-13 Oct-14 Oct-15 Oct-16 Oct-17 Oct-18 US Japan Europe Asia ex-Japan
Source: EPFR Global, DBS Source: EPFR Global, DBS

1Q19 US Sector Allocation

As the economic cycle matures, we advocate a less cyclical and more defensive tilt in
our US sector allocation for 2019. This part of the cycle is historically characterised by
moderating growth and heightened volatility. The underperformance of US macro cyclicals
relative to non-cyclicals suggests that the market has already started pricing in the scenario
of moderate economic growth ahead (Figure 8).

Hence, we recommend a two-pronged approach, having Overweight calls on both growth-

oriented and defensive sectors. The rationale behind this strategy is for investors to reap
the upside potential should the macro environment remain stable, while having some
downside protection when conditions deteriorate.

Table 2: 1Q19 US Sector Allocation

Overweight Neutral Underweight
Technology Financials Energy
US Sectors Cons. Staples Cons. Discretionary Materials
Communications Utilities Industrials
Health Care Real Estate
Source: DBS
CIO INSIGHTS 1Q19 | 39

Figure 8: US sectoral rotation in motion – Non-cyclicals started outperforming

global cyclicals
2.0 US Global Cyclicals vs Non-Cyclicals

1.9

1.8

1.7

1.6

1.5

1.4

1.3

1.2
Jan-09 Jan-11 Jan-13 Jan-15 Jan-17
Source: Bloomberg, DBS

Overweight Technology and Communications for growth, Health Care and

Consumer Staples for defensiveness. Technology was among the best performers in
the US for 2018 despite the brutal selldown in October. We maintain a positive view on
the sector as the disruption of traditional industries by technology is a multi-year growth
story. Sporadic weakness in this space should therefore represent a window of opportunity
for investors to gain exposure. Similarly, we go Overweight on Communications because
on a sub-sectoral basis, we favour the robust growth potential of the Internet and media
companies in this space.

In terms of defensive exposure, we favour US Health Care and Consumer Staples. Given
the non-cyclical and non-discretionary nature of these sectors, they will likely be supported
and demonstrate relative outperformance should macro conditions deteriorate (Figure 9).

Underweight macro cyclicals: Energy, Materials, and Industrials. In the move to pare
back risk exposure, we are recommending investors to go Underweight on macro cyclicals
like Energy, Materials, and Industrials. The outlook for energy companies has dimmed
amid rising concerns of demand and supply imbalances. In fact, OPEC has recently cut
its 2019 forecast for global oil demand to 1.29mmbpd while the supply outlook for non-
OPEC countries remains strong. The ongoing US-China trade spat, coupled with slowing
growth in growth, are expected to weigh on the Materials and Industrials sectors.
 CIO INSIGHTS 1Q19 | 40

Figure 9: US Consumer Staples and Health Care Figure 10: Weak oil price a drag on US energy stocks
have historically outperformed the S&P 500 during
market stress
US Consumer Staples relative to S&P 500 (LHS) WTI crude oil (USD/bbl, LHS)
US Health Care relative to S&P 500 (RHS) 120 US Energy equities (RHS) 410

0.30 380
0.40 100
350
0.25 0.35 80 320

0.20 0.30 60 290

260
0.15 0.25 40
230

0.10 0.20 20 200

Jan-96 Jan-01 Jan-06 Jan-11 Jan-16 Jan-12 Jan-14 Jan-16 Jan-18
Source: Bloomberg, DBS Source: Bloomberg, DBS

Table 3: US sector key financial ratios

Forward
P/B EV/EBITDA ROE ROA OPM
P/E
(x) (x) (%) (%) (%)
(x)

S&P 500 Index 16.7 3.2 12.6 15.8 3.4 13.4

S&P 500 Financials 12.6 1.4 - 10.8 1.3 22.5
S&P 500 Energy 16.6 1.7 9.2 11.0 5.4 7.8
S&P 500 Technology 16.9 6.6 12.9 26.9 9.7 23.8
S&P 500 Materials 15.4 2.3 11.2 11.5 4.9 10.6
S&P 500 Industrials 16.5 4.7 14.2 18.9 4.8 9.6
S&P 500 Cons. Staples 19.1 5.4 14.6 26.4 8.1 9.4
S&P 500 Cons. Disc. 20.8 6.9 13.7 25.1 5.9 8.5
S&P 500 Communications 16.4 3.3 11.2 22.6 8.8 19.0
S&P 500 Utilities 17.4 1.9 12.4 9.5 2.5 15.6
S&P 500 Real Estate 35.7 3.3 20.8 9.5 3.8 23.2
S&P 500 Health Care 16.7 4.3 15.1 14.3 5.2 9.4
Source: Bloomberg
Europe Equities | 1Q19

The Italian
job

Source: AFP Photo

 CIO INSIGHTS 1Q19 | 42

Europe Equities

Yeang Cheng Ling No end in sight

Strategist
Europe equities stayed largely flat in the second half of 2018. With rising regional event
risks and a turbulent geopolitical environment, there is little to cheer about in the coming
months. Anxieties remain over Italy’s budget development and the trade bloc’s collective
fate going forward. As such, we remain wary of Europe’s outlook.

The leading indicator, Industrial Production (ex-construction), dipped further toward end-
2018 on adverse macro conditions, dragging down GDP growth (Figure 1). This looks to
persist in 2019, against the backdrop of trade headwinds, disagreements among member
countries, rise in populist ruling parties in Italy and Sweden, and the ending of the ECB’s
bond purchase programme. Correspondingly, forward-looking sentiment indicators have
started a downward movement and such down trends could continue throughout the
coming quarters (Figure 2).

Maintaining unity among the remaining 27 countries and convincing them to toe policy
lines have proven challenging, even though they enjoy special EU-member privileges
other nations are not privy to. The ousting of German Chancellor Angela Merkel’s close
parliamentary ally, Volker Kauder, could further weaken her position as a strong EU
advocate.

Figure 1: Falling industrial production (ex- Figure 2: Forward-looking sentiment indicators to

construction) has dragged down GDP growth show further downtrend
Eurozone GDP y/y (%, LHS) 120 Eurozone economic sentiment (LHS) 5
3.0 10
Eurozone IP ex-const y/y (%, RHS) Eurozone consumer confidence (RHS)
2.5 115 0
8
2.0
6 110 -5
1.5
4 105 -10
1.0
0.5 2 100 -15
0.0
0 95 -20
-0.5
-2 90 -25
-1.0
-1.5 -4 85 -30
Dec-10 Dec-12 Dec-14 Dec-16 Dec-18 Dec-10 Dec-12 Dec-14 Dec-16 Dec-18
Source: Bloomberg, DBS Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 43

Italy at loggerheads with The Italian job – debts and deficits. Since taking office in May 2018 after a highly-
ECB; issues will linger and contested March general election, the League and Five Star coalition has maintained their
drag the EU along anti-EU establishment and populist policy stance.

The deterioration in confidence and Italy’s diverging policy measures from the ECB
framework is widening Italy’s risk profile, with a rising probability of sovereign rating
downgrades. The market reaction has been clearly negative, as evidenced by the swing in
sovereign bond yields since the election, compared to other EU periphery members (Figure
3).

The coalition government has stayed insistent on its fiscal stance and is adamant to press
ahead with an expansionary 2019-21 budget in a bid to boost growth using deficit-
financing, much to the dismay of Brussels. The projected 2019 budget deficit of 2.4% to
GDP came in wider than the previously-agreed deficit of 1.6%, with a three-year delay in
consolidation plans. Worse still, the widened deficit will prevent Italy from reducing its sky-
high 131% public-debt-to-GDP ratio of EUR2.3t (Figure 4). The lack of commitment from
the coalition ruling parties and limited structural reform will remain a drag on Europe’s
outlook.

Figure 3: Italian 10-year bond yields at five-year high Figure 4: Runaway government debt and elevated
debt-to-GDP ratio
Greece 10-yr govt bond yield (%, LHS) Eurozone govt debt, % of GDP (%, LHS)
40 7 140 2.4
Portugal 10-yr govt bond yield (%, LHS) Italy govt debt, % of GDP (%, LHS)
35 Italy 10-yr generic govt bond yield (%, RHS) 130 Italy govt debt (EURt, RHS) 2.2
6
30 120
5 2.0
25 110
4 1.8
20 100
3 1.6
15 90
2 1.4
10 80

5 1 70 1.2

0 0 60 1.0
Feb-11 Aug-12 Feb-14 Aug-15 Feb-17 Aug-18 Dec-98 Dec-04 Dec-08 Dec-13
Source: Bloomberg, DBS Source: Bloomberg, DBS

UK economy bearing the Brexit – hanging in the balance. The negotiations for a smooth exit between the UK
brunt of Brexit, yet no quick and the EU has not achieved meaningful results. In this situation, the UK will be more
fix in sight affected than the EU. The surrounding noises have been as distracting as the issue itself.
There remain several outstanding issues both sides have yet to come to terms with, namely
a single market for goods, freedom of movement, and facilitated customs arrangement. A
draft Brexit deal proposed for further negotiations in Brussels has resulted in Conservative
MPs opposing the deal. The draft deal will also require the consent of all the 27 EU
members, approval of the European Parliament and agreement by Westminster House
of Commons. Follow-up negotiations on future collaboration between the UK and EU on
aspects of regional relationship, security alliance, and bilateral trade will commence only
after Brexit, which means more issues could arise by then.
 CIO INSIGHTS 1Q19 | 44

While the exit date is fast approaching, at the current rate, it is unlikely a smooth, full
exit agreement can be attained by the time UK officials depart the EU at 11pm (midnight
Brussels time) on 29 March 2019.

Economic growth has slowed down sharply since mid-2017 and sentiment has been stuck
in negative territory since mid-2016 (Figure 5). Following the 2016 referendum on the UK’s
EU membership, GBP took a dive against major currencies. Subsequent GBP weakness was
the tailwind behind corporate earnings growth. However, we do not expect this trend to
be sustainable going forward (Figure 6).

Figure 5: Brexit did the damage Figure 6: Corporate earnings are closely linked to
GBP/EUR weakness
UK GDP y/y (%, LHS) 180 MSCI United Kingdom Index forward EPS (LHS) 1.0
3.5 ZEW UK economic growth expectations (RHS) 50 GBP/EUR rates (inverse, RHS)
170
3.0 30 1.1
160
2.5
10 150 1.2
2.0
-10 140
1.5 1.3
130
-30
1.0
120
1.4
0.5 -50
110

0.0 -70 100 1.5

Mar-11 Mar-14 Mar-17 Dec-10 Dec-13 Dec-16
Source: Bloomberg, DBS Source: Bloomberg, DBS

Profitability in EU is still at Eurozone’s profitability supressed, profit warnings looming. Corporate profitability
a distance from the US and is up against many headwinds. BMW’s latest profit warning is an indicator of an uphill
Asia task faced by Eurozone luxury car exporters in the wake of higher costs related to stricter
emission standards domestically, escalating trade tensions, and new US trade agreements
with South Korea, Mexico, and Canada. We expect European companies to downgrade
their earnings forecasts on the back of an economic slowdown, the lack of reforms among
large industries, and concerns over banks’ asset quality. As shown in Figure 7, profit
margins of European companies remain inferior to US and Asian companies.

Bitterly-low returns among European banks – in an unenviable position. Since 2016, loan growth has turned
EU banks positive after almost four years of contraction that began in 2011. Nonetheless, the rate
of growth remains subdued at 3%, which is still a far cry from the elevated 12% net NPL
(NPL less collateral) stuck on banks’ balance sheets (Figure 8). The ROE and ROA among
European banks are at comparatively low levels of 0.4% and 7%, respectively (Figure 9),
nearly half of what their China counterparts offer.
CIO INSIGHTS 1Q19 | 45

Figure 7: European companies’ operating margins are trailing their peers’

MSCI Europe operating margins (%)
15 S&P 500 operating margins (%)
MSCI AC Asia ex-Japan operating margins (%)
14

13

12

11

10

7
Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 Dec-15 Dec-16 Dec-17
Source: Bloomberg, DBS

Figure 8: European banks see muted loan growth Figure 9: European banks also experience low ROE
and high NPL and ROA
Euro Area net NPL (%, LHS) Europe Financials ROE (%, LHS)
15 4 8.0 0.5
Euro Area loans to non-financial corp growth (%, RHS) Europe Financials ROA (%, RHS)
3
14
2 7.0 0.4

13 1

0 6.0 0.3
12 -1

-2 5.0 0.2
11
-3

10 -4 4.0 0.1
Dec-10 Dec-13 Dec-16 Dec-13 Dec-14 Dec-15 Dec-16 Dec-17
Source: Bloomberg, DBS Source: Bloomberg, DBS

Valuation and ROE remain uncompelling. Valuations have yet to retrace to a level
which could justify an Overweight, considering the series of uncertainties within the
region. Despite the rising odds of American hostility toward European exports, especially
with respect to luxury cars, and concerns over the banking sector’s asset quality, Europe
equities are trading at relatively high trailing P/B (Figure 10) and forward P/E multiples
(Figure 11).
 CIO INSIGHTS 1Q19 | 46

Figure 10: Europe equities still trade at premium P/B Figure 11: The forward multiples have not reflected
value potential earnings downgrades under the headwinds

2.1 MSCI Europe Index P/B +1 SD MSCI Europe Index forward P/E (x)
Average -1 SD +1 SD
2.0 18
Average
17
1.9 -1 SD
16
1.8
15
1.7 14
1.6 13
12
1.5
11
1.4
10
1.3 9
1.2 8
Dec-10 Dec-12 Dec-14 Dec-16 Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS Source: Bloomberg, DBS

Still a lot of room for Europe shareholder returns have been subservient to the S&P 500 and MSCI Asia ex-
Europe shareholder returns Japan, owing to relatively higher operating costs, lower profitability, and absence of
to catch up with the US pricing power. Although the estimated ROE has recovered from 2016’s low of 7%, it
remains some distance away from the 19% and 13% offered by US and Asia ex-Japan
equities (Figure 12). Similarly, the historical return on assets has persistently stayed at sub-
1%, a level held since mid-2014 (Figure 13).

Figure 12: Europe ROE is inferior compared with US Figure 13: … and so is the ROA
and Asia ex-Japan…
MSCI Europe Index fwd ROE (%) 4.0 MSCI Europe Index ROA (%)
MSCI AC Asia ex-Japan Index fwd ROE (%) S&P 500 Index ROA (%)
S&P 500 Index fwd ROE (%) 3.5 MSCI AC Asia ex-Japan Index ROA (%)
20
3.0
18
2.5
16

14
2.0

12 1.5

10 1.0

8 0.5

6 0.0
Dec-08 Dec-11 Dec-14 Dec-17 Dec-08 Dec-11 Dec-14 Dec-17
Source: Bloomberg, DBS Source: Bloomberg, DBS
Japan Equities | 1Q19

Seek ROE
enhancers

Source: AFP Photo

 CIO INSIGHTS 1Q19 | 48

Japan Equities

Jason Low, CFA Selective opportunities

Strategist
Japan equities had a weak quarter, in line with the global equity selloff amid trade war
Glenn Ng, CFA tensions (Figure 1). While Japanese corporates remain cash-rich and equity valuation at
Analyst 15x forward P/E is not elevated, earnings have been mixed at best. We stay Neutral on
Japan equities for 1Q19.
Yeang Cheng Ling
Strategist Figure 1: Japanese equities sold off, in line with global equities (in USD terms)
0.0%

-2.0%

-4.0%

-6.0%

-8.0%

-10.0% -8.9% -8.8%

-9.6%
-10.2%
-12.0%
-12.3%
-14.0%
Japanese Global equities US equities Asia ex-Japan European
equities equities equities
Source: Bloomberg, DBS

Japan’s GDP shrank for the second time in 2018. The economy declined by an
annualised 1.2% in the three months ending September. This was on the back of natural
disasters, which weakened production activities. Going forward, however, these effects will
likely be minimal. With an easing of demand – thanks to the prospect of a consumption
tax hike in FY19, as well as a winding down of the 2020 Tokyo Olympics building boom
– the Bank of Japan (BOJ) is expected to stay accommodative for the foreseeable future.
At the BOJ’s latest meeting, the central bank ruled out any near-term interest rate hike
amid global trade war risks. In fact, Governor Haruhiko Kuroda said the BOJ stands ready
to address any threats to Japan’s growth from US-China trade frictions. Inflation forecasts
were cut, with projected core consumer inflation to reach only 1.5% in the year ending
March 2021 – below its 2% inflation target. The BOJ’s policy of asset purchases will likely
continue for the foreseeable future, even though the amount of Japanese Government
Bonds (JGBs) purchased has been significantly reduced. We do not expect the BOJ to
normalise policy until 2020.
CIO INSIGHTS 1Q19 | 49

BOJ’s assets now >100% of BOJ’s asset hoard is now larger than its economy. After years of quantitative easing,
its GDP, compared to 40% the BOJ’s asset purchase programme has seen its holdings balloon to be even bigger
in Europe and 20% in the than the country’s gross domestic product (GDP). Indeed, BOJ’s total assets have reached
US JPY553.6t, surpassing the size of the Japan economy at JPY552.8t as at end-June 2018.
Total assets make up 100% of Japan’s annual GDP – much larger than its central bank
peers. In Europe, the European Central Bank’s (ECB) holdings are 40% of GDP, while
in the US, the Federal Reserve’s assets make up 20% of US GDP (Figure 2). Also, no
one quite knows where the limit stands for the BOJ, when it comes to the size of their
asset hoard. Indeed, there is some degree of unease over the BOJ’s dominance in Japan’s
capital market, as well as the vulnerabilities of Japan’s financial system after years of loose
monetary policy.

Figure 2: Japan central bank’s assets (as a proportion of GDP) vs Europe and the
US
100%
100%

90%

80%

70%

60%

50%
40%
40%

30%
20%
20%

10%

0%
Japan Europe US
Source: Bloomberg, DBS

Latest earnings season is Earnings have been mixed at best. In the latest earnings season as at mid-November,
mixed. Forward earnings less than half of Japanese companies beat their earnings estimates, while only 42% beat
are mediocre their top-line estimates. This has been a mixed earnings season at best. Among the various
sectors, Energy and Communication Services reported the highest percentage of earnings
beats. Market participants are now expecting mid-single digit earnings growth in the
coming financial year – a far cry from the >20% earnings growth seen in years past.

Japan valuations are not Valuations are reasonable. While earnings growth prospects are unexciting at the mid-
expensive single digit level, Japan equity valuations are reasonable at 13x forward P/E (Figure 3). At
-1 SD to mean, the Topix Index’s forward P/E is undemanding. This should limit further
downside during the current period of global trade tensions.
 CIO INSIGHTS 1Q19 | 50

Figure 3: Japan equity valuations are reasonable

22 TOPIX Forward P/E +1 SD -1 SD

20

18

16

14

12

10
Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18
Source: Bloomberg, DBS

Japanese corporates are Japan is cash-rich. Among major Developed Markets (DM) indices, the Topix has the
effectively net-debt free highest proportion of companies in net cash positions, but the lowest ROE (Figure 4). This
is mainly due to the “deflationary mindset” prevalent among Japanese corporates, after
deleveraging since the 2008 Global Financial Crisis through i) Rising earnings, cash flows
and balances; and ii) A lack of an increase in spending and shareholder returns. About
49% of Topix companies have net cash positions, with the average ROE at 7.7% in 2018.
In fact, Japan Inc is now effectively net-debt free (Figure 5).

Figure 4: Japan has the highest proportion of net cash companies

60 % of net cash companies FY18E ROE (%)

48.9
50

40
32.7
30.0
30
24.8
19.8 19.1
20 14.0
12.9 10.7
9.5 10.5
10 7.7

0
TOPIX Hang Seng Composite STI FTSE 100 S&P 500 Euronext 100
Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 51

Figure 5: Topix average net debt to equity

1.8

1.6

1.4

1.2

0.8

0.6

0.4

0.2

0
Jul-93 Jul-96 Jul-99 Jul-02 Jul-05 Jul-08 Jul-11 Jul-14 Jul-17
Source: Bloomberg, DBS

Higher ROE needed for Multiple expansion needed for the next leg of upside. Since end-2012, the Topix’s
further multiple expansion average trailing 12-month EPS has grown at 27% CAGR. However, the consensus is now
for a lower 6.8% earnings CAGR from October 2018 to end-2020. This is in comparison
with consensus expectations of 8% EPS growth for the MSCI Asia ex-Japan Index and
17% for the S&P 500 Index. Viewed from a P/B perspective, given the notable correlation
between ROE and P/B, a higher ROE is needed to drive an expansion of P/B multiples
(Figure 6).

Figure 6: Higher ROE needed for expansion of P/B multiple

2.2 Japan P/B ROE (%, RHS) 12%

10%
1.7
8%

1.2
6%

4%
0.7

2%
0.2
0%
Sep-05 Sep-07 Sep-09 Sep-11 Sep-13 Sep-15 Sep-17
-0.3 -2%
Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 52

Invest in companies with Seek ROE enhancers: Given the broad stagnation of ROEs, it is pivotal for investors to
strong track record of seek out companies which have a track record of improving ROEs and shareholder returns.
enhancing ROEs In addition, companies that have been spending excess cash wisely - through M&As or
capital expenditures - are preferred. It would be wise of investors to take a bottom-up
approach when looking to invest in these ROE enhancers.

Japan Tourism

Japan’s rich culture, 2020 With its rich culture, Japan has seen an influx of tourists from all over the world. The
Olympics, and government 2020 Olympic Games, which Japan will host, has served as a further catalyst for inbound
policy are tailwinds to tourism.
tourism growth
Prime Minister Shinzo Abe’s administration has positioned tourism as an engine of
growth – especially as a means to reignite the slowing domestic economy. Japan’s tourism
industry has seen inbound growth of 129% between 2010 and 2015, supported by airline
deregulation policies and the relaxation of visas for tourists from China (2015), Malaysia
(2014), and Thailand (2014). In 2015 alone, international tourists’ contributions surged to
USD35b, on the back of government’s ambitious target of attracting 40m visitors in 2020
(doubling the 20m seen in 2015).

This target looks attainable, going by the data so far; Japan’s 12-month rolling foreign
tourist arrivals (up to September this year) totalled 31m. Total revenue derived from
inbound tourism activities has also expanded steadily (Figure 7). Revenue per available
hotel room and the average occupancy rate have also been on an uptrend (Figure 8).

Figure 7: Japan’s inbound tourism uptrend Figure 8: Healthy uptrends in hotel occupancy rates,
per-room revenue
Monthly foreign tourist arrivals (m, LHS) Japan revenue per available room (USD, 9m MA)
Current account for tourism 120 Japan hotel occupancy rate (9m MA) 90
3.5 travel and transport (JPY100m, RHS) 5,000
4,000 115
3.0 85
3,000
110
2.5 80
2,000
105
2.0 1,000
75
- 100
1.5
(1,000)
70
1.0 95
(2,000)
0.5 (3,000) 90 65
Dec-12 Dec-13 Dec-14 Dec-15 Dec-16 Dec-17 Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 53

Non-metropolitan areas Foreign visitor arrivals have grown exponentially since the mid-1990s (Figure 9), as the
serve as new tourist government sought to promote tourism in non-metropolitan areas. This was thanks to
attractions robust infrastructure connectivity, as well as growing awareness about less-populous
Japan regions which can offer a different traveling experience. Japan’s airport facilities –
one of the most modern globally – has also been a boon for tourism. Indeed, there has
been a steady surge in passenger volume from 2012’s trough (Figure 10).
Figure 9: Surge in inbound tourist arrivals Figure 10: Airport infrastructure a boon for travel
Annual overseas arrivals (million) Total passenger volume for Haneda, Narita, Kansai (m)
150
2017

2016 140

2015
130
2014
120
2010

2005 110

1998
100
1995
90
0 5 10 15 20 25 30 FY 08 FY 10 FY 12 FY 14 FY 16 FY 18
Source: The Telegraph, DBS Source: Bloomberg, DBS
The Japan Inbound Tourism Index (which comprises 73 component stocks) has seen a
consistent rise since mid-2016 and now trades at forward P/E of 17x, on projected EPS
growth range of 6% to 8% for the financial years ending March 2020 and 2021 (Figure
11). The stable trend of inbound tourist spending will provide support for this investment
theme going forward (Figure 12).

Against this backdrop, we expect the following sub-sectors to be winners: consumer

electronics, cosmetics and personal care, hotels, railways, and air travel services.

Figure 11: Consistent rise in Japan Inbound Tourism Figure 12: Inbound tourism revenue expected to
Index grow further
Japan Inbound Tourism Index (73 stocks, LHS) 1,400 Inbound tourism spending (JPYb)
1,300 Japan Inbound Tourism Index forward P/E (RHS) 22
1,200
21
1,200 1,000
20
1,100 800
19
600
1,000 18
400
17
900
16 200

800 15 0
Jan-16 Jul-16 Jan-17 Jul-17 Jan-18 Jul-18 1Q13 1Q14 1Q15 1Q16 1Q17 1Q18
Source: Bloomberg, DBS Source: JNTO, JTA, JMA, DBS
Asia ex-Japan Equities | 1Q19

Policy and
valuation support

Source: AFP Photo

CIO INSIGHTS 1Q19 | 55

Asia ex-Japan Equities

Jason Low, CFA Policy support, attractive valuations

Strategist
Asian governments have flexible policy options to cushion a slowdown. In the past,
Joanne Goh Asian economies have demonstrated resilience when facing external headwinds, such as
Strategist trade wars. Given positive long-term fundamentals (such as strong FX reserves), Asian
governments and central banks do have flexible policy options to cushion any slowdown
from a potentially long-drawn trade war. Long-term economic plans are also in place
to focus on stability and sustainability, including in China, Hong Kong, and Singapore.
While some Asian economies are being challenged by the volatility of oil prices and fund
outflows, we do not expect contagion, given the relative strength of their external balance
sheets.

Valuation support for Asia equities. With the YTD underperformance of Asian equities,
valuations have come down to 11.8x forward P/E – close to 1 SD below their 10-year
historical average (Figure 1). This is also the level at which Asian equities used to bounce,
as seen from previous market stress episodes – such as the eurozone crisis in 2011/2012,
the taper tantrums in 2013/2014, and the Chinese yuan devaluation in 2015/2016. High
cash levels among Asia ex-Japan funds suggest there is “dry powder” for markets to
stage a rebound, once some of these uncertainties are gradually resolved (Figure 2).
Furthermore, the Asian equity risk premium – the gap between earnings yield and the
10-year US government bond yield – suggests the region’s equities are inexpensive against
current rate conditions (Figure 3).

Figure 1: Valuation support for Asia equities Figure 2: Higher-than-average cash levels in Asia
20 MSCI Asia ex-Japan Forward P/E 5.0 (%) Cash levels
Average 4.5
18
4.0
3.5
16
+1 SD 3.0
14 2.5
2.0
12 1.5
1.0
10 -1 SD
0.5
0.0
8
Nov-08 Nov-10 Nov-12 Nov-14 Nov-16 Nov-18 Jan 12 Jan 14 Jan 16 Jan 18
Source: Bloomberg, DBS Source: EPFR, DBS, as of end-September 2018
 CIO INSIGHTS 1Q19 | 56

Figure 3: Asian equity risk premium suggests equities are inexpensive, relative to
rates
9 AxJ Equity Risk Premium Average

0
Jan-09 Jan-11 Jan-13 Jan-15 Jan-17

Source: Bloomberg, DBS

Hong Kong/China could Opportunity in Hong Kong/China. Hong Kong/China equities remain attractive. With
stay volatile in the near- low valuations, policy stimulus, and room for negotiations in trade talks, we believe
term, but they offer longer- there are longer-term upside risks for markets. Moreover, the ongoing financial sector
term value and capital market reforms, as well as economic restructuring, should justify long-term
sustainable returns. The current window of weakness presents opportunities for long-term
investors. Even though there is risk for the Chinese yuan to be on a gradual weakening
path, a weaker Chinese currency would make exports cheaper – a tailwind to help offset
US tariffs.
We are not ruling out the possibility that Hong Kong/China markets continue to stay
volatile, but the already beaten-down valuations should provide support. H-shares are

Figure 4: China valuations beaten down

H-shares Forward P/E
17
Average

15

13
+1 SD

11

-1 SD
7

5
Nov-08 Nov-10 Nov-12 Nov-14 Nov-16
Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 57

now trading below their 10-year historical average, at 10.8x and 8.1x forward P/E,
respectively (Figure 4). While a growth slowdown is still expected in China, we do not
foresee a hard-landing scenario. Investors with longer-term investment horizons should
look to “bargain hunt” in the Financial, Technology, and Health Care sectors. This is also in
line with China President Xi Jinping’s policy to provide a “better life”, which focuses more
on the quality – instead of quantity – of growth.

ASEAN offers selective ASEAN offers selective opportunities. After a strong US dollar rally in 2018, several
opportunities, with ASEAN currencies like the Malaysian ringgit and Indonesian rupiah have touched post-
potential catalysts in 2019 1998 crisis lows. We believe these currencies are relatively undervalued. A reversal in
the US dollar could offer upside to these currencies, and correspondingly, to their equity
markets. Indeed, the potential topping of the US dollar, bottoming oil prices, and peaking
of bond yields could provide the catalysts for upside in equities. We believe the upcoming
elections in selected ASEAN countries should be positive, due to potential fiscal stimulus
policies.

Within ASEAN, we like Singapore offers attractive dividend yield, while Thailand offers growth recovery.
Singapore and Thailand At 4.9%, Singapore continues to offer one of the highest dividend yields in the region
(Figure 5). While earnings growth is slowing, valuations have also been beaten down to
near 1 SD below its 10-year historical average – providing support. Share buybacks and
M&A activities could also start to emerge. Indeed, amid recent volatility, Singapore offers
relative stability. The Singapore REITs sector, for one, offers more than 6% dividend yield,
and an attractive yield spread of 3.7% over the 10-year government bond. In Thailand,
GDP growth and earnings recovery – on the back of domestic consumption improvements
and a strong Current Account surplus – are positives. Tourism in Thailand remains a bright
spot, with total contributions making up more than 21% of Thailand’s GDP in 2017. This
is expected to grow further (Figure 6).

Figure 5: Singapore offers attractive dividend yield support

5% 4.9%

4.2%
4%
3.3%

3%
2.6%

2%

1%

0%
Singapore China H-shares Asia Pacific ex-Japan World
Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 58

Figure 6: Tourism a significant 21% of Thai GDP in 2017

Tourism as % of Thai GDP Rest

21%

79%

Source: WTTC, DBS

Continued US dollar Potential headwinds from a strong dollar, in the near-term. With US GDP growth
strength poses a potential expected to stay relatively firm at 2.5% – coupled with the Federal Reserve’s continuation of
headwind for Asian equities its rising rates trajectory into 2019 – we see continued firmness in the US dollar, supported
by the widening rate differential against other DM currencies. Historically, a backdrop of
dollar strength has posed a headwind for Asian equities (Figure 7).

Figure 7: Stronger USD a headwind for Asia equities

MSCI Asia ex-Japan USD Index (RHS, inverse) 60

700 W
ea 70
k
As
600 ian
SD eq 80
rU ui
500 e tie
k s
ea
W 90
400
100
300 St
s ro
ng
uitie er 110
200 eq US
ian D
As
100 ng 120
tro
S
0 130
2000 2002 2004 2006 2008 2010 2012 2014 2016 2018
Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 59

We are more cautious on Remain Underweight in Taiwan and India. Taiwan remains the slowest-growing
Taiwan and India economy in the Asia ex-Japan region in 2018. Domestic demand has stayed relatively
lackluster, amid an ageing population and the lack of strong policy stimuli. The potential
peaking of the decade-long boom in iPhone sales does not augur well for the Taiwanese
electronics sector, which is made up of many suppliers engaged in Apple Inc’s supply
chain. We expect Taiwan to underperform the region (Table 1). Compared to other Asian
equity markets, the Indian equity market is the most sensitive to oil prices and interest
rates, while being the most expensive. Furthermore, Indian corporates face the challenge
of rising funding costs, tighter liquidity, and weakness in the banking sector.

Table 1: Asian economy ratings

Overweight Neutral Underweight
Hong Kong/China Indonesia Taiwan
Thailand Korea India
Singapore Malaysia
Philippines
Source: DBS
Fixed Income | 1Q19

Headwinds
galore

Source: AFP Photo

CIO INSIGHTS 1Q19 | 61

Fixed Income

Eugene Leow DM Government Bonds

Strategist
Even tighter in 2019
Philip Wickham
Fixed Income Global monetary conditions are likely to get even tighter in 2019, marking a
third year of higher DM rates. The US, Eurozone, and Japan should see interest
Cheng Xin Yi rates grinding higher as their respective central banks continue to (or signal their
Fixed Income commitment to) withdraw monetary stimuli. However, the pace of tightening will
differ between the Federal Reserve, the ECB, and the BOJ. We think the bulk of the
tightening will still be delivered by the Fed in 2019 (another four hikes, taking the Fed
Funds rate ceiling to 3.50%), while the BOJ will continue to taper. Meanwhile, the
ECB will be on pause, prepping for a hike only in 2020.

Figure 1: G-3 Curves

1.0 JGB (% pa, LHS) GER (% pa, LHS) UST (% pa, RHS) 3.3

3.0
0.5

2.8

0.0

2.5

-0.5
2.3

-1.0 2.0
1Y 2Y 3Y 4Y 5Y 6Y 7Y 8Y 9Y 10Y
Source: Bloomberg, DBS

With US GDP growth running above 3% for two consecutive quarters, y/y
CPI still hovering above 2%, and the unemployment rate hitting new lows,
further rate hikes are needed – even with US President Donald Trump’s criticism
of the Fed. Tightness in the labour market is translating into higher wages. Notably,
y/y average hourly earnings have been hovering above 2.5% since December 2017,
and the pace of wage gains appears to be accelerating. We suspect that the market
(currently pricing in two hikes for 2019) is underestimating core inflation risks and Fed
 CIO INSIGHTS 1Q19 | 62

hike risks. On another note, the Fed’s balance sheet is now shrinking at the maximum
planned pace of USD50b per month. Since the peak in early 2015, its balance sheet
has shrunk by about USD350b, with the bulk of this occurring in 2018. Excess reserves
have also fallen accordingly, tightening USD liquidity in the process.

Figure 2: Higher wages showing as labour market tightens

9 Unemployment Rate (%, LHS) Hour Earnings (% y/y, RHS) 3.3

3.1
8
2.9

7 2.7

2.5
6
2.3

5 2.1

1.9
4
1.7

3 1.5
Mar-13 Sep-14 Mar-16 Sep-17
Source: Bloomberg, DBS

ECB has committed to cease asset purchases by end-2018. Unfortunately, this

has not translated into meaningfully higher German yields as we had thought. The
10-year German yield, at 0.40%, is just about unchanged from the start of 2018 –

Figure 3: Italian worries, weak Eurozone growth weigh on Bund yields

0.9 Germany 10-yr yields (%, LHS) Italy 10-yr yields (%, RHS) 4

0.8 3.5

0.7
3
0.6
2.5
0.5
2
0.4
1.5
0.3
1
0.2

0.1 0.5

0.0 0
Aug-17 Nov-17 Feb-18 May-18 Aug-18 Nov-18
Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 63

and Italy’s budget woes are largely to blame. Amid a budget row with the EC, 10-
year BTP yield has been hovering around 3%, up from around 1.50% in April. In the
absence of this, we would reasonably expect the 10-year German yield to be above
0.6%. We expect the budget debacle to eventually be resolved and assume that this
would have no bearing on ECB policy. That said, the European Parliamentary election
in May 2019 could prove a stumbling block. The possibility of another “rinse and
repeat” – where politics translates into market volatility – is high. Taking into account
elevated political risks and depressed economic activity in the eurozone, rate hikes are
probable only in 2020.

BOJ has been loosening control of the yield curve; will likely continue doing
so in 2019. Policymaking has evolved, with the JGB 10-year yield now allowed to
fluctuate with a 20 bps spread around zero. In practice, 0.2% acts as a ceiling for
yields, beyond which the BOJ would step in with JGB purchases. With these in mind,
the BOJ’s asset-purchase targets are no longer binding. Over the past few quarters,
the BOJ went from stealth tapering (buying a lot less than stipulated) to stated
tapering (explicitly setting smaller amounts to be purchased). The BOJ’s balance sheet
is now expanding at about JPY1.8t per month (3-mma), down from around JPY2.9t
in early-2018. If this pace of stimulus withdrawal persists, the BOJ could stop asset
purchases within the next one to two years.

Figure 4: BOJ loosens control of 10-year JGBs

10 Change in BOJ balance sheet (JPYt, 3-mma) JPY 10-yr yields (%, RHS) 0.4

9
0.3
8

7 0.2

6
0.1
5
0
4

3 -0.1
2
-0.2
1

- -0.3
Oct-15 Oct-16 Oct-17 Oct-18
Source: Bloomberg, DBS

The tightening baton will Monetary policy setting will be biased tighter in 2019, driving DM rates higher.
be passed to ECB, BOJ in However, the US tightening cycle will likely end in the coming quarters, passing on
2020 the rate hike baton to the ECB and possibly the BOJ in 2020.
 CIO INSIGHTS 1Q19 | 64

Table 1: Rates forecasts

2019 2020

1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q
US 3m Libor 2.95 3.20 3.45 3.70 3.70 3.70 3.70 3.70
2Y 3.05 3.20 3.35 3.50 3.50 3.50 3.50 3.40
10Y 3.30 3.40 3.50 3.60 3.60 3.60 3.40 3.20
10Y-2Y 25 20 15 10 10 10 -10 -20
Japan 3m Tibor 0.05 0.05 0.05 0.05 0.05 0.05 0.10 0.10
2Y -0.08 -0.05 -0.03 0.00 0.02 0.04 0.05 0.05
10Y 0.14 0.16 0.18 0.20 0.20 0.20 0.22 0.22
10Y-2Y 22 21 21 20 18 16 17 17
Eurozone 3m Euribor -0.30 -0.30 -0.30 -0.30 -0.05 0.20 0.20 0.20
2Y -0.55 -0.40 -0.25 -0.10 0.05 0.15 0.15 0.15
10Y 0.50 0.60 0.70 0.80 0.80 0.80 0.70 0.70
10Y-2Y 105 100 95 90 75 65 55 55
Indonesia 3m Jibor 7.60 7.70 7.70 7.70 7.70 7.70 7.70 7.70
2Y 7.60 7.70 7.70 7.70 7.70 7.70 7.70 7.70
10Y 8.40 8.60 8.80 8.80 8.80 8.80 8.60 8.40
10Y-2Y 80 90 110 110 110 110 90 70
Malaysia 3m Klibor 3.65 3.65 3.65 3.65 3.65 3.65 3.40 3.40
3Y 3.75 3.75 3.75 3.75 3.75 3.75 3.60 3.60
10Y 4.15 4.20 4.25 4.30 4.35 4.35 4.30 4.25
10Y-3Y 40 45 50 55 60 60 70 65
Philippines 3m PHP ref rate 5.65 5.80 5.80 5.80 5.80 5.80 5.80 5.80
2Y 6.85 6.90 6.90 6.90 6.90 6.90 6.90 6.90
10Y 7.85 7.90 7.90 7.90 7.90 7.90 7.80 7.70
10Y-2Y 100 100 100 100 100 100 90 80
Singapore 3m Sibor 2.10 2.30 2.55 2.70 2.70 2.70 2.70 2.70
2Y 2.20 2.30 2.45 2.50 2.50 2.50 2.50 2.40
10Y 2.70 2.75 2.80 2.90 2.90 2.90 2.70 2.50
10Y-2Y 50 45 35 40 40 40 20 10
Thailand 3m Bibor 1.85 2.10 2.10 2.10 2.10 2.10 2.10 2.10
2Y 2.00 2.25 2.25 2.25 2.25 2.25 2.25 2.25
10Y 2.80 2.90 3.00 3.00 3.00 3.00 2.90 2.80
10Y-2Y 80 65 75 75 75 75 65 55
CIO INSIGHTS 1Q19 | 65

2019 2020

1Qa 2Q 3Q 4Q 1Q 2Q 3Q 4Q
China 1yr Lending rate 4.35 4.35 4.35 4.35 4.35 4.35 4.35 4.35
3Y 2.90 2.80 2.80 2.80 2.80 2.80 2.80 2.80
10Y 3.30 3.20 3.25 3.30 3.40 3.50 3.40 3.30
10Y-3Y 40 40 45 50 60 70 60 50
Hong 3m Hibor 2.65 2.90 3.05 3.20 3.20 3.20 3.20 3.20
Kong
2Y 2.60 2.85 3.00 3.15 3.15 3.15 3.15 3.05
10Y 2.75 2.90 3.00 3.15 3.15 3.15 2.95 2.75
10Y-2Y 15 5 0 0 0 0 -20 -30
Korea 3m CD 1.90 1.90 1.90 1.90 1.90 1.90 1.90 1.90
3Y 2.10 2.15 2.20 2.20 2.20 2.20 2.15 2.10
10Y 2.30 2.40 2.50 2.50 2.50 2.50 2.40 2.30
10Y-3Y 20 25 30 30 30 30 25 20
India 3m Mibor 7.50 7.60 7.60 7.70 7.70 7.70 7.70 7.70
2Y 7.40 7.50 7.50 7.60 7.60 7.60 7.60 7.60
10Y 7.90 8.00 8.10 8.20 8.20 8.20 8.10 8.00
10Y-2Y 50 50 60 60 60 60 50 40
%, eop, govt bond yield for 2-year and 10-year, spread bps. Source: CEIC, Bloomberg, DBS

Global Corporate Bonds

EM bonds discount more than an economic slowdown for 2019

We regard the overall strategy to be generally unchanged from last quarter – an

Underweight call on the asset class. As shown in Figure 1, the call to be Underweight
corporate bonds has worked out well, given the negative return in the last 12 months.

While portions of the global corporate bonds space - particularly EM bonds - are
discounting an economic downturn, we regard the current time as premature to re-
enter the asset class in a substantial way over 2019.

Our main credit concerns for EM credits are: i) rising trade tensions and tariffs led by
the Trump administration in the US; ii) the continued US dollar strength leading to
negative impact on emerging economies; and iii) slowing economic growth and rising
credit concerns in China. While a full-blown trade war is not our base case, we are
concerned about escalating trade spats which would naturally have an adverse impact
on the trade-focused economies of the Asia Pacific region. If the Trump administration
decides to impose tariffs on automobile imports “to protect national security”, the
tit-for-tat response from other advanced economies will cause substantial economic
damage to trade flows. This may be the catalyst for the next global economic
downturn.
 CIO INSIGHTS 1Q19 | 66

Figure 5: Rolling 12-month total return of UST and IG corporate bonds

35% UST IG
30%
25%
20%
15%
10%
5%
0%
-5%
-10%
-15%
-20%
Jan-91 Jan-95 Jan-99 Jan-03 Jan-07 Jan-11 Jan-15
Source: Bloomberg, DBS

EM bonds offer value for While we regard bonds as still too early to go Overweight in a portfolio, EM
long-term investors bonds are starting to provide reasonably attractive risk-reward balance. The
widening of credit spreads over the last few quarters reflect a weakening economic
outlook and heightened balance-sheet risks, especially among real estate issuers from
China and Indonesia. We do not expect the spreads to narrow immediately, given the
risk-averse environment today, but some of these bonds are clearly offering value for
long-term investors.

Continue to hold large We continue recommending holding a highly-diversified portfolio of bonds. This
exposure outside Asia and remains one of the “free lunches” for investors. Diversification to us also means having
EM large exposure outside of Asia and EM, as this strategy mitigates the impact of idiosyncratic
risks present in EM economies.

Prefer BBB/BB-rated bonds We continue to like the “BBB/BB” buckets of bond issues for their superior risk-
over A-rated or lower return balance compared to the higher A-rated or lower B-rated credits. Our
B-rated credits research focus is on these BBB/BB-rated issuers, as well as on credits with an improving
credit profile or stable operations, given where we stand in the current credit cycle. We
expect the default rate in corporate bonds to rise in 2019, albeit relatively low by historical
standards.

We are indeed cognisant of the risk that the yield curve may flatten, if not start
to invert, as we move toward the mature stage of a credit cycle on the back
of the US Fed continuing to raise rates. The 10-year less 2-year US Treasury
yields reached a post-crisis low of 12 bps in 4Q18, and recently experienced a modest
widening. An inverted yield curve is generally viewed as a leading indicator of a future
economic downturn, and we are closely monitoring the likelihood of this risk as well as
its impact on corporate bonds.
CIO INSIGHTS 1Q19 | 67

Portfolio duration maintained On the back of a very flat yield curve, we believe the sweet spot for the duration of a
at between 3-4 years bond portfolio is 3-4 years. Bear in mind that a “laddering” strategy must be in place,
comprising individual bonds with duration from short to long: averaging 3-4 years on
an aggregate portfolio basis.

Figure 6: US spreads widening Figure 7: EM offers attractive risk-reward for long-

term investors
US corporate average spreads (%pts, LHS) EM High Yield (HY) spreads (%pts, LHS)
2.4 US High Yield (HY) spreads (%pts, RHS) 8.8 10 EM Investment Grade (IG) spreads (%pts, RHS)
2.9
2.2 9
7.8
2.6
2
8
6.8
1.8 2.3
7
1.6 5.8
2
6
1.4
4.8 1.7
1.2 5
3.8 1.4
1 4

0.8 2.8 3 1.1

Dec-12 Dec-14 Dec-16 Dec-18 Dec-12 Dec-14 Dec-16 Dec-18
Source: Bloomberg, DBS Source: Bloomberg, DBS

Figure 8: Yield curve continues to flatten

4 UST 10-yr-2-yr yield curve (%)

-1

-1
Jan-90 Mar-93 May-96 Jul-99 Sep-02 Nov-05 Jan-09 Mar-12 May-15 Jul-18
Source: Bloomberg, DBS
Currencies | 1Q19

Appreciating
dollar

Source: AFP Photo

CIO INSIGHTS 1Q19 | 69

Currencies

Philip Wee US dollar stomping higher into 2019

Strategist
The DXY is well-positioned to appreciate above 100 in 2019. The US economy is
set to outperform its DM peers for a second straight year in 2019. Wage inflation on a
tight labour market has finally arrived in America. The Fed Funds rate, together with the
UST 10-year bond yield, will become more restrictive above 3% in 2019. Conversely, the
ECB and the BOJ are expected to push out monetary policy normalisation into 2019. The
Federal Reserve’s balance sheet has also narrowed to 20% of GDP, compared to 40% in
the Eurozone and 100% in Japan.

Figure 1: Rising US wage growth will support the Figure 2: The Fed is well ahead of the ECB and BOJ in
Fed’s stance to gradually hike rates shrinking its balance sheet
5.0 UST 10-yr bond (%, LHS) 110 50 Central bank balance sheet, % of GDP 110
US ave hourly earnings (% y/y, LHS) Fed (20%, LHS)
4.5 105 45 100
USD Index (DXY) (RHS) ECB (40%, LHS)
90
4.0 100 40 BOJ (100%, RHS)
80
3.5 95 35 70
3.0 90 30 60

2.5 85 25 50
40
2.0 80 20
30
1.5 75 15 20
1.0 70 10 10
08 09 10 11 12 13 14 15 16 17 18 10 11 12 13 14 15 16 17 18
Source: Bloomberg, DBS Source: Bloomberg, DBS

Softer growth and hard politics will drive the euro below 1.10. The disappointing
growth story weighing on the euro just got heavier. The eurozone’s preliminary sub-2%
growth for 3Q18 is likely to be downgraded, after Germany’s growth declined q/q for the
first time since 1Q15. Italy’s zero growth report card will steel Rome’s resolve to defend its
expansionary fiscal spending plans, as well as oppose Brussels’s pressure for Italy to respect
EU fiscal rules. The single unity of the EU will come into question when far-right parties
increase their representation at the European Parliament elections in May 2019.

The British pound will fall toward 1.20; political unity is lacking to avoid a “no
deal” Brexit. In November, more UK ministers resigned over the draft Brexit withdrawal
agreement that UK Prime Minister Theresa May negotiated with the EU. While the narrative
for a leadership change has stepped up, May has demonstrated no desire to step down
 CIO INSIGHTS 1Q19 | 70

voluntarily; in fact, she has pre-empted attempts that sought her involuntary removal.
However, this time, May (and her potential successor) risks losing the support of the
Democratic Unionist Party (DUP) that provides her government its majority in parliament.
Apart from Northern Ireland, Scotland has also thrown its hat into the ring, saying that
the Brexit deal was unacceptable. Brexit is no longer simply about a deal or no deal, but
evolving into an existential crisis regarding the kingdom’s unity.

Japan’s weaker fundamentals should drive the yen into a weaker 115-120 range.
The top priority in 2019 has shifted from beating inflation to supporting the economy. Real
GDP growth has, for the second time in three quarters, turned negative in 3Q18, hit by
the flood/earthquake/typhoon in September 2018. Japan Prime Minister Shinzo Abe has
responded with additional public works spending in the first half of FY2019 (April-March).
A JPY10t stimulus package is also planned to offset the increase in sales tax, which is
slated to rise to 10% from 8% in October 2019. In the event of a shock from the US-China
trade war, the sales tax might be delayed for a third time, with the BOJ putting aside its
stimulus exit plan in favour of more easing.

Figure 3: Non-commercial net euro positions have Figure 4: Chinese yuan will depreciate past 7 on
reversed from record long into short positions further reductions in the RRR
Net long EUR (LHS) EUR/USD (RHS) China’s RRR (%, LHS) USD/CNY (inverted, RHS)
150 1.25
'000 contracts 22 5.8
100 6.0
1.20 20 6.2
50 18 6.4
6.6
0 1.15 16 6.8
7.0
14
-50 1.10 7.2
12 7.4
-100 7.6
1.05 10 7.8
-150 8.0
8
8.2
-200 1.00 6 8.4
Jan-16 Jan-17 Jan-18 05 07 09 11 13 15 17 19
Source: Bloomberg, DBS Source: Bloomberg, DBS

The trade war is not the only factor driving the Chinese yuan weaker. The PBOC is
looking for “grey rhino” financial risks – highly obvious yet ignored threats – to resurface
in 2019. The escalation in US-China trade tensions has been followed by China’s slowest
growth since the Global Financial Crisis, and its first current account deficit since 1993.
With US President Donald Trump threatening to hit the remaining USD267b worth of
China’s goods entering America with tariffs, international debt rating agencies have been
vigilant against more corporate debt defaults (especially for real estate developers exposed
to falling property prices and higher US-dollar funding costs) and hidden local government
debt. Policymakers will find it challenging to balance supporting growth and maintaining
financial stability. Apart from more fiscal stimulus – which widens the budget deficit – look
for further cuts in the RRR and interest rates, to depreciate the yuan past 7.
CIO INSIGHTS 1Q19 | 71

Brace for more volatility in Asia ex-Japan currencies in 2019. The same risks that
hurt EM since 2Q18 – a stronger US dollar on rising US rates, an escalation in global
trade tensions, and faster-than-expected growth moderation in the eurozone/China/Japan
– may worsen in 2019. The IMF has assigned a 5% chance of USD100b in capital outflows
from EM over the next four quarters. International debt rating agencies expect Asian
sovereign ratings to be tested over the next year or so.

Asia’s weakest currencies – the Indian rupee, the Indonesian rupiah, and the Philippine
peso – belong to countries that have high growth ambitions accompanied by wider current
account/fiscal deficits and high external debt. With rising US rates and trade tensions
weighing on their stock and bond markets, attempts at stabilising their currencies – via
interventions without draining reserves, or through increasing domestic rates without
dampening growth – have been challenging. In the elections space, Indonesia President
Joko Widodo is likely to secure a second term in a two-horse race, while India Prime
Minister Narendra Modi will confront the prospect of a hung parliament.

Asia’s hardy currencies – the Thai baht and the South Korean won – will become less
resilient next year from narrower Current Account surpluses and more widening in their
negative rate differentials against the US dollar. In the event of a shock to the global
economy, the Singapore dollar could depreciate sharply. Since the return to a modest and
gradual appreciation policy in April, the Singapore dollar has been hugging ceiling of its
4%-wide policy band. Unless the US economy disappoints and drags the US dollar lower
against the currencies of Singapore’s major trading partners, we see the Singapore dollar
depreciating past 1.40 in 2019.

Figure 5: SGD NEER has risen to the top of its policy Figure 6: SGD can easily depreciate past 1.40 once the
band after returning to an appreciation stance global outlook deteriorates sharply
Indexed: 6-10 April 2015 = 100 USD/SGD & policy band (inverted axes)
105 105
1.28 1.28
104 104 1.30 1.30
1.32 1.32
103 103
1.34 1.34
102 102 1.36 1.36
1.38 1.38
101 101
1.40 1.40
100 100 1.42 1.42
1.44 1.44
99 SGD appreciation vs basket 99
1.46 SGD appreciation vs USD 1.46
SGD depreciation vs basket SGD depreciation vs USD
98 98 1.48 1.48
Jan-15 Jan-16 Jan-17 Jan-18 Jan-15 Jan-16 Jan-17 Jan-18
Source: Bloomberg, DBS Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 72

Table 1: DBS currency forecasts

Exchange rates, eop
4Q18 1Q19 2Q19 3Q19 4Q19 1Q20 2Q20 3Q20 4Q20
China 7.00 7.10 7.20 7.15 7.10 7.05 7.00 6.95 6.90
Hong Kong 7.85 7.85 7.85 7.84 7.83 7.82 7.81 7.80 7.79
India 73.0 74.0 75.0 76.0 77.0 76.5 76.0 75.5 75.0
Indonesia 14,800 15,000 15,200 15,400 15,600 15,500 15,400 15,300 15,200
Malaysia 4.20 4.25 4.30 4.28 4.25 4.23 4.20 4.18 4.15
Philippines 53.0 53.5 54.0 54.5 55.0 54.8 54.5 54.3 54.0
Singapore 1.40 1.42 1.44 1.43 1.42 1.41 1.40 1.39 1.38
South Korea 1160 1180 1200 1190 1180 1170 1160 1150 1140
Thailand 33.0 33.5 34.0 33.8 33.5 33.3 33.0 32.8 32.5
Vietnam 23,400 23,500 23,600 23,550 23,500 23,470 23,440 23,410 23,380
Australia 0.70 0.68 0.66 0.67 0.68 0.69 0.70 0.71 0.72
Eurozone 1.12 1.10 1.08 1.09 1.10 1.11 1.12 1.13 1.14
Japan 114 116 118 117 116 115 114 113 112
United Kingdom 1.28 1.26 1.24 1.23 1.22 1.23 1.24 1.25 1.26
Australia, Eurozone, and United Kingdom are direct quotes. Source: Bloomberg, DBS
Alternatives - Gold | 1Q19

Gold: A safe
haven?

Source: AFP Photo

 CIO INSIGHTS 1Q19 | 74

Alternatives: Gold

Eun Young Lee Look forward to a recovery path spurred by inflation

Analyst
Gold has likely passed this year’s bottom. Gold showed some recovery in September
and October 2018, reaching as high as USD1,233.80 per ounce, up 5.1% from the year’s
low of USD1,174.2 per ounce (recorded on 16 August). The rebound was the result of:
1. An increase in physical demand enticed by lower gold prices (jewellery demand rose
8.9% y/y; bar & coin demand rose 28% y/y in 3Q18);
2. Net inflow into gold-backed ETFs of USD1b in October, reversing 3Q18’s net outflow;
3. Weaker US stock market performance, with the S&P 500 Index down 6.9% m/m in
October; and
4. A slight retreat in the US dollar.

However, by mid-4Q18, gold struggled around the USD1,200 per ounce resistance level.
It was once again weighed down as the Federal Reserve’s rate hike in December becomes
more likely, which would help the dollar’s strength to persist.

Is gold a safe-haven asset? Yes and no. As continued trade tensions between the US
and China spur uncertainties and concerns over the global economy, subdued gold prices
have caused some to question gold’s long-known role as the “safe-haven” asset.

As a physical asset, gold is considered a store of value and as such, its demand tends to
increase during times of uncertain market conditions. However, gold prices are not directly
in sync with market volatility. For example, when the Chicago Board Options Exchange
(CBOE) S&P 500 Volatility Index (a market fear indicator) saw an extreme surge at the outset
of the 2008 financial crisis, we observed that gold’s price initially weakened. However, we
also observed that when market volatility persisted over the medium- to long-term with
VIX exceeding 20pts, between mid-2007 to end-2012, and from mid-2015 to mid-2016,
gold staged a sustained rally, demonstrating its safe-have asset status (Figure 4).

Table 1: DBS gold price forecasts

(USD per ounce) 1Q18 2Q18 3Q18 4Q18F 1Q19F 2Q19F 3Q19F 4Q19F
LBMA Gold Price
1,329 1,306 1,212 1,215 1,230 1,240 1,250 1,270
(average)

y/y (%) 9.0% 3.9% -5.1% -4.7% -7.5% -5.1% 3.1% 4.5%

q/q (%) 4.2% -1.8% -7.2% 0.2% 1.2% 0.8% 0.8% 1.6%
Source: Bloomberg, World Gold Council, DBS
CIO INSIGHTS 1Q19 | 75

Gold to see a modest rebound in 1Q19. In our view, the US dollar would be buoyant
in 1Q19, but we expect gold to gain more attention because of expected rising inflation.
Historically, gold’s price shows a positive correlation with US inflation (Figure 5). Higher
volatility in the stock market may also provide a reason for gold to shine as an alternative
investment. Also, the recently building expectation of moderate interest hikes in 2019
would be a positive for gold prices. Central banks’ gold reserves grew significantly in
3Q18 (+21.8% y/y) and according to the World Gold Council, there is a growing number
of central banks looking to increase their gold holdings. Accordingly, we revise up gold’s
price to average 1.2% higher q/q at USD1,230 per ounce in 1Q19.

Figure 1: Gold demand via ETFs and other products Figure 2: Global gold supply-demand balance and
vs gold price price forecast
ETFs and other products (tonnes, LHS) 500 Balance (tonnes, LHS) 1,800
400 1,800
Gold price (USD/oz, RHS) Gold price (USD/oz, RHS)
300 1,700 400 1,700
200 1,600 300 1,600
100
1,500 200 1,500
0
1,400 100 1,400
-100
1,300 0 1,300
-200
-300 1,200 -100 1,200

-400 1,100 -200 1,100

-500 1,000 -300 1,000

1Q10 1Q12 1Q14 1Q16 1Q18 2010 2012 2014 2016 2018F
Source: Bloomberg, World Gold Council, DBS Source: Bloomberg, World Gold Council, DBS

Figure 3: Gold price vs DXY (reverse) Figure 4: Gold price vs US headline inflation
Gold Price (USD/oz, LHS) Gold Price (USD/oz, LHS)
US Dollar Index (DXY), inverse (RHS) 2,000 US Headline Inflation (%, RHS) 6
1,900 70
5
1,800
1,700 75
4
1,600
80 3
1,500
85 1,400 2
1,300 1
90 1,200
1,100 0
95 1,000
-1
900 100 800
-2

700 105 600 -3

Jan-08 Jan-10 Jan-12 Jan-14 Jan-16 Jan-18 Jan-08 Jan-10 Jan-12 Jan-14 Jan-16 Jan-18
Source: Bloomberg, DBS Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 76

Figure 5: Gold price vs CBOE S&P Volatility Index

USD/oz Gold Price VIX Index (R)
Pts
2,000 90

1,800 80

70
1,600
60
1,400
50
1,200
40
1,000
30
800
20
600 10

400 0
Jan-05 Jan-07 Jan-09 Jan-11 Jan-13 Jan-15 Jan-17
Source: Bloomberg, DBS
Investment Theme | 1Q19

Global
Health Care

Source: AFP Photo

 CIO INSIGHTS 1Q19 | 78

Investment Theme I:
Global Health Care
Yeang Cheng Ling Calm shores despite turbulent waters
Strategist
The gyrations in global risk assets in 2018 have reinforced the importance of having
Dylan Cheang defensive exposure in investment portfolios. As the trade spat between the US and China
Strategist continues to linger and supress sentiments, the coming quarters will see heightened
volatility in risk assets. Not surprisingly, sectoral rotation is currently underway with asset
allocators paring down cyclical exposure while raising their stakes in defensive plays.

This is evident in Figure 1, which shows global cyclicals underperforming the non-
cyclicals by 14 percentage points since 18 June. More interestingly, global health care has
outperformed global cyclicals by 17 percentage points in the same period, as investors
increasingly embrace the stability and resilience of this sector in times of rising market
volatility.

Stable cash flow and earnings: Health care as a defensive play. Health care is
essentially a play on demographics. According to the United Nations, the global population
aged 60 and above totalled 382m in 1980. Today, it stands at 962m, and by 2050, this is
expected to surge to 2.1b – more than double the current size.

An ageing population is a secular trend that will not reverse overnight. There is a longer-
term need for sustained health care expenditure and investment in the years ahead.
The underlying characteristic of the sector explains why health care earnings have been
extremely stable over through the cycles (Figure 2).

During the period when the Internet bubble burst, the trailing 12-month earnings for
global equities plunged 42% between December 2001 and July 2002. Health care, on
the other hand, rose 4%. And again, during the Global Financial Crisis, global earnings
plunged 60% between November 2008 and October 2009. But health care earnings were
largely flat during this period. More recently during the 2015-16 earnings recession, global
earnings fell 20% between November 2014 and March 2016 while health care earnings
rose 5%.

But apart from its defensive qualities, the sector also encapsulates attractive growth
potential and these catalysts include:

• Rising government expenditure on heath care

• Strong pipeline of new prescription drugs
• Rising end demand
• Rising M&A activities
• Undemanding valuations
CIO INSIGHTS 1Q19 | 79

Figure 1: Global sectoral rotation underway: Health care starting to outperform

global cyclical sectors
MSCI ACWI Global Cyclicals vs Non-Cyclicals (LHS)
2.0 1.3
MSCI ACWI Healthcare vs Global Cyclicals (RHS)

1.8
1.1

1.6
0.9
1.4

0.7
1.2

1.0 0.5
Jan-09 Jan-11 Jan-13 Jan-15 Jan-17
Source: Bloomberg, DBS

Figure 2: Health care offers steady EPS uptrend… Figure 3: …and resilient free cash flow
Global health care trailing 12-mth EPS (LHS) 35 Global health care free cash flow per share (LHS)
11 Global equities trailing 12-mth EPS (RHS) Global equities free cash flow per share (RHS) 33
12
30
9 10 28
25
8 23
7
20
6 18
5
15
4 13
3 10
2 8

1 5 0 3
Jan-95 Jan-99 Jan-03 Jan-07 Jan-11 Jan-15 Jan-95 Jan-99 Jan-03 Jan-07 Jan-11 Jan-15
Source: Bloomberg, DBS Source: Bloomberg, DBS

Catalyst 1: Rising government expenditure on heath care

Health care spending is Global health care expenditure is on the rise. A good case is the US, which has spent
rising globally significantly more than other developed nations in this space, and the gap has widened
considerably since 2000 (Figure 4). This is due to government initiatives to increase
health care benefits and insurance coverage. Global absolute spending on health care is
expected to expand by 23% between 2015 and 2020 to reach USD9t, with large markets
maintaining a stable growth rate of more than 20%. In the case of Asia Pacific, the region
is expected to grow 28% (Figure 5).
 CIO INSIGHTS 1Q19 | 80

Figure 4: The US outspent its peers on health care

20% Health care expenditure as % of GDP - US
Health care expenditure as % of GDP - Comparable countries
18%

16%

14%

12%

10%

8%

6%

4%
1980 1985 1990 1995 2000 2005 2010 2015
Source: Peterson-Kaiser Health System Tracker, DBS

Figure 5: Solid growth outlook for global health care spending

2015 (USDb, LHS) 2020 (est USDb, LHS) Growth (%, 2015-20, RHS)
10,000 50

8,000 40

6,000 30

4,000 20

2,000 10

0 0
Global Western Europe Latin America Transition economies
Source: Deloitte, DBS

Developed economies like the US tend to spend more on health care and related services.
In 2016, spending per capita reached USD10,348 – 31% more than Switzerland, the
next highest country (Figure 6). Pharmacies and drug stores in the US are an important
distribution channel in the health care sector, given their wide network and the variety
of products carried. Figure 7 shows that monthly retail sales for US pharmacies and drug
stores have been on a consistent uptrend.
CIO INSIGHTS 1Q19 | 81

Figure 6: The US has highest per capita spending on Figure 7: It is boomtown for pharmacies and drug
health care, the rest are catching up stores
Total health expenditure per capita (USD, PPP adjusted, 2016) 26 US pharmacy and drug store monthly retail sales (USDb)
UK 25
Japan
24
France
Australia 23
Canada
22
Belgium
Average 21
Austria 20
Netherlands
Germany 19
Switzerland 18
US
17
(1,000) 1,000 3,000 5,000 7,000 9,000 11,000 Dec-10 Dec-12 Dec-14 Dec-16
Source: Peterson-Kaiser Health System Tracker, DBS Source: Bloomberg, DBS

Health care expenditure by the private sector in the US is also similar to the public sector
(as a percentage of GDP) and this is partly due to the wide range of insurance coverage
available (Figure 8). We expect this trend to catch up in other developed economies, with
the private sector playing an increasingly larger role in the health care space.

With longer life expectancy (Figure 9) and rising health care cost, the next growth driver
for the sector will be policy-led health care reforms which will see a rising proportion of
costs being covered by private insurance policies.

Figure 8: Private health care providers to provide incremental coverage…

Public Private
20%

8.8%

15%
4.5%
2.3% 1.7%
3.1% 2.7% 2.5% 2.4%
10% 3.1% 2.0%

5%

0%
US Switzerland Canada Australia Average Austria Belgium France UK Germany
Source: Peterson-Kaiser Health System Tracker, DBS
 CIO INSIGHTS 1Q19 | 82

Figure 9: … as people live longer

Life expectancy
US Euro Area China South Asia Japan
85

80

75

70

65

60

55

50
Jan-80 Jan-86 Jan-92 Jan-98 Jan-04 Jan-10 Jan-16
Source: Bloomberg, DBS

Catalyst 2: Strong pipeline of new prescription drugs

Surging R&D spending and The development of life sciences and new prescription drugs is advancing at breakneck
technology advancement to speed because of technological advancements. Pharmaceutical companies are spending
support the development record amounts on R&D to create new drug types to satisfy ever-rising health care needs.
of new drugs Technology is used extensively in the development of new health care solutions.

Global revenue for prescription drugs is estimated to reach some USD1.1t by 2022 (Figure
10) amid rising expenditure in most countries. Meanwhile, new pipelines and the launch
of new drugs will help to mitigate the negative impact from patent expiries for some of
the existing drugs.

Going forward, developments on the global medical technology (MedTech) front would
take centre stage, aided by the availability of new technologies and AI-enabled devices
which enhance the effectiveness of service providers.
CIO INSIGHTS 1Q19 | 83

Figure 10: Prescription drug sales will remain an Figure 11: Medical technology is a new catalyst
important catalyst
1,100 550
Global prescription drug sales (USDb) Global MedTech sales (USDb)

1,000 500

900
450
800
400
700

600 350

500 300
2008 2011 2014 2017 2020 2016 2017 2018 2019 2020 2021 2022
Source: EvalauatePharma, Deloitte, DBS Source: EvalauatePharma, Deloitte, DBS

Catalyst 3: Rising end demand

Health care benefits are Prescription drug prices have been on a consistent uptrend in the US as employers
spurring the sector’s increasingly offer health benefits and bear the costs of drugs consumed, either via
revenue growth contracted coverage with insurance companies or pharmacy benefit managers (Figure
12). Over the years, health care expenditure as a percentage of personal consumption in
the US has risen to 17% in 2018, up from 13% in 2000.

In the case of Europe, access to medicine and medical care is deemed as a basic human right.
This, coupled with the ageing population in Europe, have underpinned pharmaceutical
pricing as well as revenue from medical product sales in the region.

Figure 12: Consistent uptrend in US health care Figure 13: … and similar in the Eurozone
spending…
550 US medical care spending as % of PCE* (%, RHS) 18 120 Euro Area retail sales pharma and medical goods index
US prescription drugs CPI (LHS) Euro Area medical and paramedical services price index
500
17 110

450
16 100
400
15 90
350

14 80
300

250 13 70
Dec-00 Dec-04 Dec-08 Dec-12 Dec-16 Dec-00 Dec-04 Dec-08 Dec-12 Dec-16
* Personal consumption expenditure Source: Bloomberg, DBS Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 84

Catalyst 4: Active M&A activities

Health care will continue to M&A activities in the health care space are expected to rise as companies are either looking
see billion-dollar M&A deals to acquire others or be acquired. The robust M&A environment can be attributed to:

1. The need to innovate

2. The need to strengthen or defend market share
3. The need to add depth to clinical-trial pipelines
4. The need to eliminate competition

Presently, a new type of “hybrid” health care company is emerging, whose operations
could entail health insurance, pharmaceuticals, benefits manager, health care services,
medical distribution, and prescription drug development.

We expect M&A activities in the health care sector to pick up momentum again in the
coming years after the slowdown in 2017. Already in 2018 alone, three mega deals were
announced: the mergers of CVS-Aetna and Cigna-Express Scripts, and the acquisition of
Shire by Takeda. The driving forces behind the revival in deal flows include: (1) Improving
balance sheet post-US tax reform; (2) The need for new medical technology; (3) Rising
emphasis on shareholder returns; and (4) Fragmentation in the life sciences sector.

Table 1: Global health care industry M&A, ranked by transacted value

Value (USDb) Purchaser Target Year
1 87.3 Pfizer Warner-Lambert 1999
2 73.5 Sanofi Sanofi-Aventis SA 2004
3 72.4 Glaxo Wellcome SmithKline Beecham 2000
4 69.0 CVS Aetna 2018
5 67.0 Cigna Express Scripts 2018
6 65.7 Bayer Monsanto 2016
7 65.0 Actavis Allergan 2014
8 64.3 Pfizer Pharmacia 2002
9 64.2 Pfizer Wyeth 2009
10 62.0 Takeda Shire 2018
11 47.1 Merck Schering-Plough 2009
12 46.2 Medtronic Covidien 2014
13 44.0 Roche Genentech 2008
14 39.6 Teva Pharmaceutical Allergan unit 2015
15 35.6 Shire Baxalta 2016
Source: Bloomberg
CIO INSIGHTS 1Q19 | 85

Catalyst 5: Undemanding valuations

Compelling valuations with The global health care sector is currently trading at 16x forward P/E, a noticeable pullback
solid shareholder returns compared to 2015’s peak of 20x. Given the positive trajectory of health care earnings, we
believe that the valuation premium for global health care is well-justified. Equally on a P/B
basis, the sector trades at 4x, while ROE is extremely compelling at more than 25%.

Figure 14: Valuations at compelling level supported Figure 15: The sector offers attractive shareholder
by EPS uptrend returns
22 Global health care forward P/E (LHS) 15 Global health care forward ROE (%, LHS)
30 Global health care P/B (x, RHS) 5.0
Global health care forward EPS (RHS)
20 14
28 4.5
13
18 26 4.0
12
16 24 3.5
11
14 22 3.0
10

12 20 2.5
9

10 8 18 2.0
Dec-10 Dec-12 Dec-14 Dec-16 Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS Source: Bloomberg, DBS
Investment Theme | 1Q19

World in
transition

Source: AFP Photo

CIO INSIGHTS 1Q19 | 87

Investment Theme II:

World in Transition
Subhra Chatterjee With Millennials and Generation Z accounting for 40% of the global population (Figure 1),
Equities and rising Internet and smartphone penetration, consumer behaviour is undergoing great
change. As more youth connect through the Internet, they will develop, adapt, and adopt
cross-cultural and transnational consumer patterns. Technology now allows us to shape
our local ecosystem within a global community. Such huge shifts in consumption patterns
means companies have to reassess their business model and evolve with the changing
times to stay relevant.

Our world is in transition, driven by social, demographic, and technological changes. This
transition is not just transforming industries but is reshaping the way we live, work, and
play as a community. With the rise of the sharing, service, and gig economy, companies
must strategise and adapt to the changing times.

Figure 1: World population Figure 2: Number of Internet users worldwide has

seen a constant rise
Millennials and Gen Z Others
4.0 No of Internet users worldwide (b)

3.5

3.0

60% 40% 2.5

2.0

1.5

1.0

0.5

0.0
05 06 07 08 09 10 11 12 13 14 15 16 17
Source: UN Source: Bloomberg

In this report, we explore three key areas where the world is in transition and how investors
can benefit from these trends:

• Transition @ Work
• Transition @ Play
• Transition @ Home
 CIO INSIGHTS 1Q19 | 88

Transition @ Work

There are three broad trends affecting the nature, scope, and monetisation of work.
• Ageing demographics and the need for a productivity boost
• Rise of the gig economy
• Rise of the service economy and the “servitisation” of products

The global workforce Ageing demographics has brought the need for a productivity boost. According to
is ageing and the key the World Bank, the working-age population is declining (Figure 3). This is set to continue
to sustaining growth is with ageing populations in Japan, Europe, and China, which currently account for 40%
productivity of the global workforce. A shift in demographics of this magnitude has implications on
growth, for both economies and companies. The key to sustaining growth is to boost
productivity.

Companies that sell or offer productivity-enhancement solutions are the obvious

beneficiaries of this ageing trend and the need for increasing productivity at work.
Beneficiaries will include companies engaged in robotics (Figure 4), automation, and
productivity software to name a few, as they enable optimisation of work processes.

Figure 3: Working-age population as % of total Figure 4: More industrial robots are being produced
population worldwide
47% 4.0 No of industrial robots in world factories (m)

46%
3.0

45%
2.0
44%

1.0
43%

42% 0.0
90 93 96 99 02 05 08 11 14 17 08 09 10 11 12 13 14 15 16 17 18F 19F 20F 21F
Source: World Bank Source: IFR World Robotics

The gig economy is rising – a labour market characterised by the prevalence of

freelance workers or short-term contracts as opposed to full-time jobs. Attitudes
about work are evolving as more millennials are opting for jobs instead of careers. The
rapid growth of tech-enabled companies such as Uber, Meituan Dianping, and Deliveroo
has further led to the rise of the gig economy. Freelancers Union estimates that around a
third of the US workforce is part of the gig economy today, and that is set to increase to
50% within the next decade.

The obvious beneficiaries are companies employing from the gig-economy workforce as
they benefit from variable labour cost. Indirect beneficiaries are companies engaged in the
service economy that cater to the gig-economy workers.
CIO INSIGHTS 1Q19 | 89

Figure 5: US workforce – gig vs non-gig economy

110 Non-gig economy workforce (m) Gig economy workforce (m)

100

90

80

70

60

50
2017 2027E
Source: Freelancers Union, upwork.com

“Servitisation” of products The service economy is also booming. With an ageing workforce and rising income
– moving from a sales- levels, the service sector is becoming an increasingly bigger portion of GDP in industrialised
driven approach to a economies (Figure 6). The same is true for companies that have products with a high
subscription and/or service- service component. Digitalisation and the advent of cloud computing have further
based model enabled the “servitisation” of products – moving from a pure sales-driven approach to a
subscription and/or service-based business model. Rather than receiving a single payment
for a product, many companies are opting for a steady stream of revenue on a recurring
basis. Increasingly, companies are focused on building an ecosystem around products
or a platform, transitioning away from a sales-driven revenue model to a service and/or
subscription-driven business model.

Companies that are able to successfully transition tend to generate more stable earnings,
benefit from higher operating leverage, and get a premium valuation (Figure 7).

Figure 6: GDP contribution from services (%) Figure 7: Recurring revenue vs valuation
90 120
80
100 Salesforce
% of recurring/ service revenue

70 ServiceNow
Adobe
60 80
VMware
50
60
40
40
30
Microsoft
20 20
Apple
10
0
0 0 20 40 60 80
US France UK Japan Germany China India P/E
Source: World Bank Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 90

Transition @ Play

Changing demographics has shaped how people entertain themselves, what they spend
on, and where they spend it. The rise in Internet and smartphone penetration has been the
driving force behind the changes in how the global community communicates, interacts,
and entertains itself. Businesses catering to the services industry can no longer ignore the
importance and relevance of content, community, and commerce to engage and enhance
the monetisation of the consumer.

The nature and scope of content are changing to fit the needs of the digital content
economy. Today, consumers are spending an increasing amount of time streaming content
or playing games on their mobile devices, instead of watching television or playing games
on computers and game consoles (Figure 10). This shift in consumer behaviour is evident
in the type and volume of electronic gadgets sold, and how advertisers allocate their
budgets (Figures 8, 9).

Today, anyone can be Content creation is no longer just about movies, TV series, and music. The process has
a content creator and been democratised – content can now be created by anyone anywhere, and distributed
distributor instantaneously over the Internet via platforms like YouTube (Figure 11). It can be accessed
for free or through subscription-based platforms like Netflix (Figure 12). Distribution models
are also undergoing transition, with more traditional content publishers and broadcasters
opting for the Direct-to-Consumer model.

Figure 8: Global advertising revenue Figure 9: Shipment and mix of IT gadgets

250 TV (USDb) Online (USDb) Personal computers Tablets
Newspaper (USDb) Others (USDb) Ultramobile (premium) Mobile phones
100%
200

80%
150
60%
100
40%

50
20%

0 0%
2010 2012 2014 2016 2018E 2012 2013 2014 2015 2016 2017 2018E 2019E
Source: Bloomberg, MagnaGlobal Source: Gartner
CIO INSIGHTS 1Q19 | 91

Figure 10: Global games market

Console games PC games Mobile games
100%

80%

60%

40%

20%

0%
2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
Source: Gartner

Figure 11: Youtube has seen growing monthly active Figure 12: Netflix has seen a growing number of
users subscribers
Monthly active users (m) No of subscribers (m)
2,000 140

120
1,500 100

80
1,000
60

40
500
20

0 0
Oct-12 Mar-14 Aug-15 Jan-17 Jun-18 2011 2012 2013 2014 2015 2016 2017
Source: Thenextwave.com Source: Bloomberg

Leverage the network Communities are migrating from the physical to the digital world and largely
effect of a digital centre around a product, like Apple, or a platform like WeChat. Products or platforms
community that are able to create a strong sense of community or network effect stand to benefit in
the long run, as they can enhance monetisation of the user by cross-selling other products
or services to their user base.
 CIO INSIGHTS 1Q19 | 92

Figure 13: Apple product sales

Total Apple units (m) iPhone units (m)
350

300

250

200

150

100

50

0
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
Source: Bloomberg

Figure 14: WeChat ecosystem Figure 15: Facebook’s monthly active users are
increasing y/y
Messages sent daily (b, LHS) 2,500 Monthly active users (m)
40 Average daily users (m, RHS) 1,000

35 2,000
800
30

25 1,500
600
20
1,000
15 400

10 500
200
5

0 0 0
2015 2016 2017 2014 2015 2016 2017
Source: blog.wechat.com Source: Facebook

The network effect of a digital community can be very powerful. For example, >70% of
China’s population communicate via WeChat every day, while >40% of China’s population
(>550m people) shop on the Alibaba platform. Roughly 30% of the global population
interact via Facebook every month (Figure 15).

Companies are driving Commerce – the ability of a company to monetise their products or services –
commerce through would be the end goal for any business. For companies in the digital world, it is about
ecosystems driving the monetisation per user through a mix of advertising revenue and sale of goods
and services. Companies with strong social media ecosystems, like Tencent and Facebook,
as well as companies with strong e-Commerce ecosystems, like Alibaba and Amazon,
CIO INSIGHTS 1Q19 | 93

are trying to find links to e-Commerce or payments to drive the user’s “time share” and
monetisation on their platform. This is most evident from the plethora of investments
made by the two Internet giants in China to strengthen their ecosystems (Table 1).

Table 1: Building the tech ecosystem

Company Function Estimated value (USDb)

Didi Chuxing Ride-sharing 56.0

Meituan Dianping* Group buying 30.0
Pinduoduo* Group buying 21.0
Ele.me Food delivery 9.5
Zhong An Insurance* Online insurance 6.5
China Literature* Online publishing 6.2
Guahao Tech/Weiyi/WeDoctor Online health care 6.0
Easyhome Home improvement, furniture 5.7
Meizu Smartphones and accessories 4.6
SenseTime AI, facial recognition 4.5
Xiaohongshu/Little Red Book Overseas shopping app 3.0
Kuaishou Photo and video-sharing 3.0
VIPKid Education 3.0
NIO* Autonomous vehicles 2.9
Cambricon Chipmaker 2.0
Weiying Technology/Wepiao Online movie ticketing 2.0
Full Truck Alliance Group Truck-hailing 2.0
Ucommune Co-working 1.7
Douyu Livestreaming 1.5
Hellobike Bike-sharing 1.5
UrWork Co-working 1.4
Ofo Bike-sharing 1.0
ITutorGroup Online education 1.0
Face++ Facial recognition 1.0
ICarbonX AI, health data 1.0
Zhihu Online Q&A forums 1.0
Ding Xiang Yuan Health-care social network 1.0

Tencent is the Investor Ant Financial is the Investor Alibaba is the Investor

Source: Bloomberg, CB Insights

 CIO INSIGHTS 1Q19 | 94

Not surprisingly, payments is a key component of commerce. There is a lot of interest

in this space from stakeholders like banks, private equity firms, payment processors,
Internet companies, transportation companies, mobile phone manufacturers, and even
governments. Given that cash still accounts for an estimated 30% of all transactions
in Developed Markets and close to 70-80% in Developing Markets, the headroom for
growth in electronic payments is huge. The rise in consumer spending, mobile payments,
digital wallets, and e-Commerce creates a powerful secular trend. Digital transactions
have grown, with electronic-payments at 17% CAGR and mobile-payments growing at
>20% (Figure 16).

Figure 16: Volume of non-cash transactions

Electronic payments (b) Mobile payments (b)
120

100

80

60

40

20

0
2013 2014 2015 2016E 2017E 2018E 2019E
Source: Capgemini

Transition @ Home

Changes in demographics, income levels, and access to technology have also changed
how we live and the lifestyles we choose. The traditional means of owning a home and a
car are changing with the rise of the sharing economy – an economic model comprising a
peer-to-peer based activity of acquiring, providing, or sharing access to goods and services,
enabled by a community-based online platform.

A good example of the sharing economy is seen in the transportation industry. Ride hailing
companies such as Uber and Ola have seen explosive growth (Figure 17). Emerging Markets,
such as India, are experiencing strong growth in smartphones and high installation rates
for apps catered toward the sharing economy (Figure 18).
CIO INSIGHTS 1Q19 | 95

Figure 17: Rides completed on Uber have increased exponentially

Rides completed on Uber (m)
10,000

8,000

6,000

4,000

2,000

-
2014 2015 2016 2017 2018
Source: fortune.com, uber

Figure 18: App-installed rate for smartphone users in India

Ola Uber
50%

48%

46%

44%

42%

40%

38%

36%
Oct-16 Nov-16 Dec-16 Jan-17 Feb-17 Mar-17
Source: livemint.com
 CIO INSIGHTS 1Q19 | 96

Lifestyle shifts include increasing spend on experiences, like eating at cafes or travel; Figure
20 highlights the projected growth in global aircraft fleet size to meet the travel demand.
There is also an increase in spending on tech gadgets, luxury, and health-related products.

Companies and In an increasingly digital world, a connected home becomes an important hub
governments are focused to reach out to the consumer. Shopping can be done from the comfort of your home,
on IOT devices and the entertainment can be streamed on demand, information access is instantaneous, social
smart home interactions are virtual, and banking is digital. This is also the reason why various companies
are focused on investing in IOT (Internet of Things) devices and the smart home (Figure
19). It is not just individuals but governments are also investing to make their cities smarter.

Figure 19: Installed base of IOT units Figure 20: Air travel demand - global fleet size
Consumer (b) Total (b) Existing fleet Replacement demand New demand
25
50,000

20
40,000

15
30,000

10 20,000

5 10,000

- 0
2016 2017E 2018E 2020E 2018 2037
Source: Gartner Source: Airbus

Companies that are able to successfully adapt and position themselves according to the
changing lifestyle needs of the consumer will thrive. The way forward is for companies to
continuously adopt a digital distribution strategy to engage the consumer directly.
Investment Theme | 1Q19

Millennial Wave:
Athleisure

Source: AFP Photo

Source: AFP Photo

 CIO INSIGHTS 1Q19 | 98

Investment Theme III:

Millennial Wave: Athleisure
Dylan Cheang The rise of Athleisure
Strategist
Millennials – loosely defined as those born between 1980 and 2000 – are re-shaping the
Yeang Cheng Ling world. Born in the Internet age, Millennials are vastly different from Baby Boomers and
Strategist Generation X. First, Millennials are highly technologically-savvy and tend to embrace social
media. Second, Millennials often prioritise healthy-living and wellness. Third, Millennials
value experience more than ownership.

As Millennials enter adulthood and possess higher spending power, this generation will
profoundly impact consumption habits – from retail, to education, food, and leisure.
Companies catering to their needs and lifestyles will therefore be beneficiaries of this
trend.

Athleisure, the “new casual” – It is no longer just about function; It is about style.
We will be launching a series of investment themes that covers the “Millennial Wave” –
which essentially refers to new consumption habits that are unique to this generation. In
this inaugural theme, we touch on the rapid rise of global “Athleisure”, a trend that is
synonymous with Millennials.

Now, what is Athleisure? A combination of the words “athletics” and “leisure”, the term
Athleisure was popularised by female yoga wear which was widely used in gyms during
the early days of the trend. It has since spread to men’s fashion and today, the term
Athleisure loosely refers to fashionable and aesthetically-appealing athletic clothing that is
used for everyday wear – the new causal wear.

Think Lululemon. Think Adidas x Kanye West. Think Puma x Rihanna. The list goes on.

Today, Athleisure is no longer about function. It is about fashion, and a lifestyle. The
growth potential is huge and according to Morgan Stanley, sales are expected to increase
to USD350b by 2020 as Athleisure gains market share from the non-athletic apparels
segment.

Style x Wellness: Why Millennials like Athleisure. The Athleisure craze has taken the
Millennial world by storm. Rapid evolution of Athleisure from sports use to leisure wear can
be attributed to two key factors. Firstly, fashion. Celebrities and social influencers strutting
around in these apparels makes Athleisure a fashionable lifestyle which consumers are
eager to identify with. The rise of social media and online shopping has accentuated this
trend, as evidenced from the enormous growth in followers for Nike on Instagram (Figure
1).
CIO INSIGHTS 1Q19 | 99

Millennials embrace a It is more than that. Millennials want to live healthier and live better. According to a survey
healthy lifestyle and conducted by CreditCards.com, Americans spent more than USD100b in 2017 on sports
Athleisure encapsulates events, equipment, as well as gym memberships (Figure 2). On gym memberships, 36%
that of the respondents aged 18-36 said they have paid for one in the last 12 months, a rate
twice that of the older age groups.

Given the rising emphasis on health and wellness, the cool and effortless style of Athleisure
resonates with Millennials.
Figure 1: Social media is accentuating consumer Figure 2: Sports-related spending among Americans
interest in Athleisure
90 NIKE instagram followers (m, LHS) 7
NIKE Sportswear instagram followers (m, RHS) Sports races 8%
80
6
70
5 Sports-themed video games 12%
60
50 4
Gym membership 23%
40 3
30 Athletic equipment 29%
2
20
1
10 Sporting events 34%
0 0
Jan-15 Jan-16 Jan-17 Jan-18 0% 10% 20% 30% 40%
Source: Bloomberg, DBS Source: CreditCards.com

Rising obesity and interest Rising obesity: A reason to embrace an active lifestyle. According to Nielsen’s Global
in exercising underpin Health and Wellness Survey (2015), 49% of the global respondents felt that they are
Athleisure demand overweight, while 50% replied that they are trying to lose weight on an active basis.
When queried on what the respondents are doing to reduce weight, 75% said dietary
change while 72% said doing more exercises (Figure 3). Taken together, rising interest in
embracing a more active lifestyle is positive for the outlook on Athleisure demand.
Figure 3: Athleisure is boosted by rising awareness of health and wellness

Taking medication 7%

Taking diet pills and the likes 11%

Doing exercise 72%

Changing diet 75%

0% 10% 20% 30% 40% 50% 60% 70% 80%

Source: Nielsen
 CIO INSIGHTS 1Q19 | 100

Collaborations are Collaborations: The new hype. Collaborations between sports companies and other
generating a lot of hype high-street fashion brands or celebrities have generated lots of hype in recent years. Today,
these days given that Millennials are no longer content with buying regular items off the shelf. Exclusivity is key.
exclusivity is key And that is where collaborations come in.

The “limited edition” nature of collaborations help drive a sense of exclusivity around the
item. Revenue is rarely the consideration. Such campaigns are limited in scale and the
eventual sales revenue will not move the needle for companies involved. Instead, it is all
about generating publicity. Figure 4 lists some of the collaborations that have taken place
in recent years.

Figure 4: Collaborations between sports brands, leisure brands, and celebrities

on the rise

Adidas x Pharrell Williams Puma x Hello Kitty Adidas x Kanye West

Pharrell Williams is an Puma is a German Adidas Yeezy Boost is the
American singer, songwriter, sportswear brand, best official collaboration sneaker
producer, and fashion known for its athletic by Kanye West and Adidas.
designer. A highly-influential apparel and various The Adidas Yeezy 750 Boost
style icon, he entered into a sportswear goods. Recently, “Light Brown” was the first
long-term partnership with the brand collaborated with sneaker release from this
adidas Originals. Hello Kitty. collaboration in 2015.

Source: AFP Photo

Sales of sports leisure Sneakers war: Fashion trumps performance. Sneakers were originally intended to
sneakers have overtaken enhance sports performance and was thus emphasised as a key selling point. But it is no
that of performance longer the case. Research from NPD Group shows that the sales of performance shoes
sneakers have fallen by 10% to USD7.4b in 2017. Sport leisure sneakers, on the other hand, grew
17% to USD9.6b.

The rise of Athleisure over athletics in the sneakers world is best seen in the divergent
share price performances of companies focusing on athletics and those doing a mixture
of both (Figure 6). Clearly, the market recognised that Athleisure is the way to go and
companies that failed to spot this trend will need to play catch-up.
CIO INSIGHTS 1Q19 | 101

Figure 5: Sales of sports leisure sneakers have superseded those of performance

shoes
Sales of performance shoes in 2017 (USDb)
12 Sales of sports leisure sneakers in 2017 (USDb)

10 9.6

8 7.4

0
Source: NPD Group

Figure 6: Athleisure-oriented sports brands have vastly outperformed those

focusing predominantly on performance
400 Proxy for Performance-oriented sports brands (Indexed)
Proxy for Athleisure + Performance-oriented sports brands
350

300

250

200

150

100

50
Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 102

Footwear products: Strong growth ahead. We expect sneaker sales to trend higher in
the years ahead, driven by the following factors:

• Rising popularity of outdoor sports

• The gym and fitness club trend
• Availability of e-Commerce channels
• Urbanisation and shift in lifestyle
• Expansion of the middle-class/rise in living standards
• Millennials entering the work force
• Rising health awareness
• Sports attire becoming a fashion

From a macro perspective, we expect the demand for footwear products to register strong
increase amid rising consumer confidence in the major markets, especially in the US and
China (Figures 7 and 8).

Figure 7: Consumer confidence in US and China

150 US: Conference Board (CB) consumer confidence (LHS) 130
China: Consumer confidence index (RHS)
125
130

120
110
115
90
110

70
105

50 100

30 95
Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS
CIO INSIGHTS 1Q19 | 103

Figure 8: Rising consumer confidence is translating into stronger clothing and

footwear sales
410 US consumption of clothing and footwear (USDb, LHS) 2,300
Dow Jones US Footwear Index (RHS)
400 2,100

390 1,900

380 1,700

370 1,500

360 1,300

350 1,100

340 900

330 700
Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS

Indeed, the global demand for athletic footwear is on a tear and this is evident from
the combined sales of major brands like Nike, Under Armour, Puma, and Anta, which
registered CAGR of 9% between 2004 and 2017 (Figure 9).

Figure 9: Global footwear sales have been seeing consistent growth

30,000 Combined sales of selected footwear brands* (USDm)

25,000

20,000

15,000

10,000

5,000

-
2004 2006 2008 2010 2012 2014 2016
* Footwear revenue of Nike, Under Armour, Puma, and Anta Source: Bloomberg, DBS
 CIO INSIGHTS 1Q19 | 104

Equally, the robust top-line expansion for sportswear companies is translating into strong
bottom-line growth. The combined earnings for leading sporting footwear and apparels
companies (Nike, Adidas, Under Armour, Skechers, Columbia, Lululemon, and Anta)
are consistently rising and have more than doubled since 2011. This, in turn, justifies
the premium valuations of the sector (Figure 10) as returns on equity and on assets are
compelling, at forward readings of 35% and 18%, respectively (Figure 11).

Figure 10: Rising earnings of sportswear companies Figure 11: Sportswear companies offer compelling
lend justification to the valuation premium shareholder returns
33 Forward P/E (LHS) Estimated EPS (RHS) 0.7 Forward ROE (%, LHS) 22
31 Forward ROA (%, RHS)
37
29 0.6 20

27 32
0.5 18
25
23 27
0.4 16
21
19 0.3 22 14
17
15 0.2 17 12
Dec-10 Dec-12 Dec-14 Dec-16 Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS Source: Bloomberg, DBS

Athleisure’s resilience is Athleisure – More of a staple, less of a luxury. From an investment standpoint,
underpinned by attractive Athleisure is classified under “Consumer Discretionary”, which in theory, could see softer
product price points demand in times of an economic slowdown. We do not think this is the case. Unlike
higher-priced and bigger-ticket luxury goods, the price points for Athleisure is within the
affordable range for consumers. As this segment gradually evolves and dominates the
everyday lives of consumers, we believe that sales and demand in Athleisure will stay
highly resilient in the coming years.
Special Feature | 1Q19

Greater Bay
Area

Source: AFP Photo

Source: AFP Photo

 CIO INSIGHTS 1Q19 | 106

Special Feature:
China’s Greater Bay Area
Chris Leung Keys to the blueprint’s success
Economist
The Greater Bay Area (GBA) – a key strategic plan in China’s development blueprint – is a
Yeang Cheng Ling geo-economic union of 11 cities with a total population of almost 70m. It includes nine
Strategist cities in the Guangdong Province, and the two Special Administrative Regions of Hong
Kong and Macau (“9+2 cities”).

The Chinese government aims to create a mega-hub leveraging on each city’s competitive
advantage. For instance, Shenzhen represents the technological innovation hub, Hong
Kong acts as the international financial centre, while Macau serves as the entertainment
hub. The physical connectivity within the GBA is exemplified by the Hong Kong-Zhuhai-
Macau Bridge and the Express Rail Link (XRL).

In this piece, we examine several factors that will prove pivotal to the GBA’s success. The
ambitious development plan will need more than just physical infrastructure to achieve its
goals.

Creating the “Silicon Valley of the East”

The GBA shares common success factors with America’s Silicon Valley: (1) Strong presence
of leading academic institutions; (2) Development guidance from the state, evident
through plans like the China Manufacturing 2025 blueprint; and (3) The availability of
an efficient capital market in Hong Kong. However, there are a couple of key differences:
(1) Imperfect labour and capital mobility; and (2) The fact that in China, funding comes
primarily from the state (vs in the US, where funds are raised from private venture capital).

Building academic alliances

A crucial component to the GBA’s success would be a clear development roadmap for
academic alliances. This responsibility should be shouldered by select prestigious universities/
higher institutions within the GBA. Currently, most of China’s prestigious universities are
located in Beijing and Shanghai. Establishing a “Greater Bay Area Academic Alliance” in
Hong Kong, as well as training new talents for the private sector, would prove invaluable.
Looking ahead, cross-border economic integration will further deepen via R&D tie-ups and
an exchange of talent.

Broadening the sources of venture capital funding

The number of domestic venture capital firms has risen dramatically in 10 years – from
319 in 2005 to almost 1,800 in 2015, marking a more than fivefold increase. The amount
of capital invested has also rocketed more than tenfold from CNY63.1b to CNY665.3b.
CIO INSIGHTS 1Q19 | 107

A breakdown of funding sources confirms the state plays a prominent role: 35.3% came
from state-owned enterprises, 14.4% from the private sector, 12% from individuals,
and 5.2% from mixed-ownership enterprises. The prevailing phenomenon of early-stage
startups backed by state funding is similar to what happened in Silicon Valley in the 1950s.
In addition, China’s Small Business Investment Act provides preferential tax treatment for
venture capitalists.

Providing an efficient capital market in Hong Kong

The demand for fundraising from successful tech ventures will increase over time,
particularly at the stage of product commercialisation. Enterprises in the GBA should take
advantage of the depth and openness of Hong Kong’s financial market. Currently, more
than 1,000 mainland enterprises are listed in Hong Kong, with a combined market value
of USD2t – representing over 60% of Hong Kong’s total market cap. The Hong Kong Stock
Exchange’s recent implementation of Weighted Voting Rights allows tech entrepreneurs
to gain easier access to the capital market, without weakening their control over their
companies. The equity market aside, mainland corporates can also raise funds in Hong
Kong by issuing both CNY- and USD-denominated bonds.

Table 1: GBA’s competitiveness against other bay areas

Guangdong- San Francisco New York Tokyo Bay Area
Hong Kong- Bay Area Metropolitan
Macau Bay Area
Area (2017)
Land area (sq km) 55,905.5 17,886.4 21,478.5 36,898.3
Population (m) 69.6 7.6 20.2 44.0
GDP (USDb)* 1,513.4 500.7 1,717.7 1,774.2
Average annual growth* (%) (2012-2017) 4.1 6.5 3.6 N/A
Real GDP growth* (%) 7.0 5.3 0.9 1.9
Per-capita GDP* (USD) 21,750 1,022,302 820,502 40,360
"Air passenger traffic (mn passenger-times)" 201.7 81.3 132.2 123.9
"Air freight traffic (m tonnes)" 7.96 1.18 2.16 3.58
Port container throughput (m TEUs)** 66.48 2.42 6.25^ 7.76^
GDP share of tertiary industry (%)* 65.6 71.9 83.3 77
Note: Source: HKTDC, Statistica
*GDP-related figures for Tokyo bay area are from 2015.
**TEUs refers to twenty-foot equivalent units.
^2016 figure.
 CIO INSIGHTS 1Q19 | 108

Investment Opportunities in GBA

We have identified the following thematic investment opportunities arising from the GBA
initiative, focusing on financial services, technology development, tourism, and logistics.

Table 2: GBA initiative thematic investment opportunities

Financials Technology Tourism Logistics
Industries • Banking • Data centres • Integrated resorts • Infrastructure
• Wealth management • Cloud computing • Hotels • Construction
• Trade finance • Data security • Food and beverage • Transportation
• Insurance • IT Design • Warehouses
• Tax/legal services • Fintech
• Health care
• Education
Geographic Hong Kong Shenzhen Macau Guangzhou
focus Shenzhen Zhongshan Zhuhai Hong Kong
Guangzhou Foshan Shenzhen
Dongguan Guangzhou Huizhou

Themes Urbanisation
Income growth
Health care services
Technology innovation
Domestic retail consumption
Human resource development
Transport systems development

Source: DBS

Hong Kong – The financial gateway. We expect Hong Kong to retain its central role as
the financial gateway, thanks to its well-established financial system and legal framework.

Since the handover of Hong Kong to China in July 1997, net FDI inflows have consistently
expanded and reached a peak in 2015. FDI in the four years from 2014 to 2017 was equal
to that of the preceding eight years (Figure 1). A significant portion of the inflow came
from mainland China companies, as they acquired commercial and industrial buildings as
well as development landbanks to expand their regional footprint.

CNY deposits among financial institutions in Hong Kong surged over the years, thanks to
its reliable banking system (Figure 2). Similarly, its status of being the exclusive global CNY
settlement hub has also boosted the financial services sector, whereby the Real-Time Gross
Settlement (RTGS) system for CNY payments across global financial institutions is directly
linked to China’s National Advanced Payment System (CNAPS).
CIO INSIGHTS 1Q19 | 109

Figure 1: Hong Kong inbound FDI growing by leaps Figure 2: Surging CNY deposits and cross-border CNY
and bounds remittance in Hong Kong
200 Hong Kong FDI net inflows (USDb) CNY deposits witih Hong Kong-licensed banks (CNYb)
180 Hong Kong cross-border CNY remittance settlement (CNYb)
1,200
160
140 1,000
120
800
100
80 600

60 400
40
200
20
0 0
1998 2001 2004 2007 2010 2013 2016 Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS Source: Bloomberg, DBS

Shenzhen – The Silicon Valley of the East. Geographical advantages, talent pool, IT
research capabilities, supply-chain capacities, and infrastructure connectivity have placed
Shenzhen at the forefront of China’s ambition in technological development.

Correspondingly, Shenzhen will also retain its prime position as the preferred city for some
high-profile corporate headquarters, and this will be instrumental for the long-term growth
of the GBA. Examples of such companies are Tencent, Huawei/HiSilicon, ZTE, BYD Group,
DJI, Ping An Insurance, China Merchants Bank, Everbright Water, Shenzhen Development
Bank, Vanke, Vivo, and China South City, to name a few.

China will continue to keep a firm grip as a leading developer and exporter of smart
devices and technology products (Figure 3). Evidently, the global market share among top
three mainland smartphone brands – Huawei, Oppo, and Xiaomi – has seen consistent
expansion in the past two years (Figure 4).

Figure 3: China’s solid technology exports Figure 4: China smartphones are gaining global
market share
China high-tech exports (12-mma, USDb) Samsung Apple Xiaomi
65 China computer and communications exports Huawei Oppo Top-three China brands
(12-mma, USDb) Others
60 50%
55
40%
50

45 30%

40 20%
35
10%
30

25 0%
Dec-10 Dec-12 Dec-14 Dec-16 Dec-18 1Q16 3Q16 1Q17 3Q17 1Q18
Source: Bloomberg, DBS Source: Counterpoint, IDC, DBS
 CIO INSIGHTS 1Q19 | 110

In recent years, the Chinese government has shown unrelenting commitment in developing
electric vehicles, nurturing the EV value chain, and spurring domestic demand (Figure 5).

Among the success factors in China’s technological quest is R&D spending which, as a
percentage of GDP, has steadily risen to above the 2% mark, narrowing the gap with the
US (Figure 6). In September, the National Development and Reform Commission (NDRC)
announced plans to invest USD15b in the development of big data, cloud computing, and
smart cities over the next five years.

The access to human capital, deep-pocket funding, supportive government policies, and
big data collection are among the essential aspects that would enhance China’s quest for
technological progress.

Figure 5: Surging EV sales in China Figure 6: China’s R&D spending as a percentage of

GDP is rising
80 Production of domestically-made EVs (’000) China R&D to GDP (%) US R&D to GDP (%)
3.0
70
2.5
60

50 2.0

40 1.5
30
1.0
20
0.5
10

0 -
Jan-15 Jan-16 Jan-17 Jan-18 2000 2003 2006 2009 2012 2015
Source: Bloomberg, DBS Source: OECD, DBS

Tourism – The shining pearl. Macau has some of the most popular integrated resorts
and will continue to attract tourists from around the region, if not the world. Visitor
arrivals have recovered (Figure 7) while integrated resorts continued to expand capacity
between 2010 and 2018 (Figure 8). The sector has passed the heavy capex cycle and is
primed to reap financial benefits and expansion in shareholder returns.

The recent opening of the Hong Kong-Zhuhai-Macau bridge further improves Macau’s
connectivity, in addition to the current list of frequent direct-ferry services from surrounding
areas in Hong Kong, Kowloon, and Shenzhen.
CIO INSIGHTS 1Q19 | 111

Figure 7: Tourist arrivals are back on an uptrend Figure 8: Macau integrated resorts have been
expanding room and table capacity
40 Macau visitor arrivals (y/y %, LHS) 12 Macau total hotel guest rooms (LHS)
43,000 7,000
Macau monthly visitor arrivals (m, RHS) Macau total gaming tables (RHS)
30 10
38,000 6,500
20
8
10 33,000 6,000
6
0
28,000 5,500
4
-10
23,000 5,000
-20 2

-30 0 18,000 4,500

Dec-06 Dec-08 Dec-10 Dec-12 Dec-14 Dec-16 Dec-10 Dec-12 Dec-14 Dec-16
Source: Bloomberg, DBS Source: Bloomberg, DBS

Logistics – the next frontier. The construction of an integrated transport network will
further strengthen collaboration within the GBA, leading to smoother cargo flows and
customs clearance. For example, logistics companies in Hong Kong could deploy their
extensive global network and IT management systems to Guangdong while utilising the
latter’s cost competency and warehouse capacity. The build-up in e-Commerce transactions
will be another secular tailwind for the logistics industry in the GBA.

Transport and logistics sectors as new growth drivers. The adjacent areas to the
GBA are filled with seaport and airport facilities, providing gateways for huge volumes
of trade and visitors. Joint data from NDRC and the China Federation of Logistics and
Purchasing show that the value of the logistics industry has risen steadily, while logistic
costs as percentage of GDP have stayed relatively stable at 15% (Figure 9). The rising
freight volume and increased container throughput in Guangdong (Figure 10) were driven
by organic trade growth as well as relocation of capacity from Hong Kong ports. These will
continue to serve as new growth drivers.
Figure 9: Logistics is an important component of Figure 10: Guangdong, the gateway to China’s
China’s economy imports and exports
China’s logistics value (CNYb, LHS) Guangdong Province freight volume
300 Logistics cost as % of GDP (RHS) 20 5.0 (b tonnes, LHS) 80
Guangdong ports’ container throughput
(m TEU, RHS) 70
4.0
250 15 60

3.0 50

200 10 40
2.0 30

150 5 20
1.0
10

100 0 0.0 0
2013 2014 2015 2016 2017 2000 2010 2012 2014 2016
Source: NDRC, China Federation of Logistics and Purchasing, DBS Source: Statistics Bureau of Guangdong Province, DBS
 CIO INSIGHTS 1Q19 | 112

Further, not only does the newly-completed Guangzhou-Shenzhen-Hong Kong Express

Rail Link (XRL) shorten the time taken for border crossings significantly, it also connects the
GBA regions with mainland rail networks to other large cities, like Shanghai and Beijing.

The seaports and airports surrounding GBA are ranked highly among global peers. This is
especially so for the Pearl River Delta region (Figure 11) which has been boosted by China’s
expanding position in world trade and also enjoys increasing popularity among overseas
visitors (Figure 12).

Figure 11: China container ports are among the busiest globally
2017 world container ports throughput (m, TEU)
40

30

20

10

0
Shanghai Singapore Shenzhen Ningbo Hong Kong Busan Guangzhou Qingdao Dubai Tianjin
Source: Hong Kong Marine Department, DBS

Figure 12: Airports to drive growth in air traffic and visitor arrivals
120 Airport ranking by passenger traffic, 2017 (m)

100

80

60

40

20

0
Atlanta, US

Beijing

Dubai

Haneda Tokyo

Los Angeles, US

Chicago, US

London

Hong Kong

Pudong, SH

Paris

Amsterdam

Baiyun, GZ

Frankfurt

Gandhi, IN

Banten, ID

Singapore

Seoul

Bangkok

JFK NY, US

Bao’an, SZ

Source: Airport Council International, DBS

CIO INSIGHTS 1Q19 | 113

More bridges, better accessibility. Two new bridges – the 13-km Second Humen Bridge
which will begin operating in 2019 and the 24-km Shenzhen-Zhongshan Bridge in 2024
– together with the newly-completed Hong Kong-Zhuhai-Macau bridge, will improve the
physical connectivity across the Pearl River Delta and effectively reduce the travelling time
between these populated areas.

Figure 13: Existing and future bridges in the GBA

Guangzhou
Second Humen Bridge
Dongguan
Humen Bridge

Shenzhen

Zhongshan
Shenzhen-Zhongshan
Bridge
Hong Kong
Zhuhai Hong Kong-Zhuhai-Macau
Bridge

LEGEND:
Macau Future Bridges
Existing Bridges

Source: Hong Kong Trade Development Council (HKTDC)

 CIO INSIGHTS 1Q19 | 114

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CIO INSIGHTS 1Q19 | 115

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 GLOSSARY 1Q19 | 116

Glossary of Terms:
Acronym Definition Acronym Definition

ADAS advance driver assistance system GDP gross domestic product

AI artificial intelligence GFC global financial crisis
ASEAN Association of Southeast Asian Nations GMV gross merchandise volume
ASP average selling price GRE government-related entity
AxJ Asia ex-Japan HDB Housing and Development Board
bbl per barrel HY high yield
BI Bank Indonesia IG investment-grade
BOJ Bank of Japan IMF International Monetary Fund
bpd barrels ber day IOT Internet of Things
CAGR compound annual growth rate IPO initial public offering
capex capital expenditure ISM Institute for Supply Management
CAR capital adequacy ratio IT information technology
CASA current account saving account JGB Japanese Government Bond
CDS credit default swap LNG liquefied natural gas
CEO chief executive officer LTV loan-to-value
CET1 common equity tier 1 M&A merger & acquisition
CAA CIO Asset Allocation MAS Monetary Authority of Singapore
COC change of control mmbbl million barrels
CPI conusmer price index mmbpd million barrels per day
DM Developed Markets MRO maintenance, repair, and operations
DPS dividend per share NAV net asset value
DPU distribution per unit NIM net interest margins
DXY US Dollar Index NPL non-performing loan
EBITDA earnings before interest, tax, depreciation and OECD Organisation for Economic Co-oporation and
amortisation Development
EC European Commission OEM original equipment manufacturer
ECB European Central Bank OPEC Organization of the Petroleum Exporting
Countries
EM Emerging Markets OPM operating profit margin
EMEA Europe, the Middle East, and Africa P/B price-to-book
EPFR Emerging Portfolio Fund Research P/E price-to-earnings
EPS earnings per share P/TB price-to-tangible book
ETF exchange-traded fund P2F passenger-to-freighter
EU European Union PBOC People's Bank of China
EV electric vehicles PCE personal consumption expenditure
FCF free cash flow PET polyehtylene terephthalate
FDI foreign direct investment PLM product lifecycle management
FFO funds from operations PM portfolio manager
FX foreign exchange PMI purchasing managers' index
FYP first-year premium POE privately-owned enterprise
GLOSSARY 1Q19 | 117

Acronym Definition Acronym Definition

PONV point of non-viability SD standard deviation

QE quantitative easing SEC Securities and Exchange Commission
QSR quick-service restaurants SKU stock keeping unit
R&D reseach & development SOE state-owned enterprise
RBI Reserve Bank of India SST Swiss Solvency Test
REIT real estate investment trust TAA Tactical Asset Allocation
RevPAR revenue per available room TEU twenty-foot equivalent unit
RM relationship manager TLAC total loss-absorbing capacity
ROA return on asset TP target price
ROE return on equity TSR total shareholder return
ROI return on investment UCITS Undertakings for Collective Investment in
Transferable Securities
ROTE return on tangible equity UST US Treasury
RRR reserve requirement ratio VNB value of new business
SAA Strategic Asset Allocation WTI West Texas Intermediate
SASAC State-owned Assets Supervision and Administration YTD year-to-date
Commission of the State Council