CONSUMER SECTOR - What's next?

The Consumer sector has been in the limelight
since last year, and many consumer stocks have been rerated drastically
in the past one year on the back of two main reasons: one being the
defensiveness of these stocks as well as their decent dividend yields
and the other due to their strong news flows on the Merger &
Acquisition (M&A) front. However, due to their current relatively
high PER valuations and dividend yield compressions, we believe
consumer stocks could take a breather in the near term. That said, with
the risks of uncertainties on the global economic conditions and
domestic General Election still remaining, we reckon that consumer
stocks will still act as safe havens for investors. Hence, while we are
more cautious on the sector due to its rich valuation, we are not
entirely bearish on consumer stocks. In addition, due to the generally
lower liquidity of the highly sought after consumer stocks, we reckon
that it would be difficult to accumulate sizable positions again after
any disposals by investors. As such, we prefer to maintain our NEUTRAL
stance and maintain most of our MARKET PERFORM calls -AEON (TP:
RM10.70), BAT (TP: RM58.70), DLady (TP: RM44.60), Nestle (TP: RM67.50),
Oldtown (TP: RM2.26) and Parkson (TP: RM4.86) ' at this juncture. In
fact, we will not hesitate to upgrade their ratings if and when we see
any meaningful pullbacks in these stocks. Meanwhile, we are maintaining
our OUTPERFORM call on Amway (M) (TP: RM11.68), Eng Kah (TP: RM4.02),
GW Plastics (TP: RM0.92), Kian Joo (TP: RM3.00) and QL Resources (TP:
RM3.68).


Sustaining or fading off?
Consumer stocks are defensive with their attractions typically being
their consistent performances to date and their high dividend payouts
such as British American Tobacco (BAT), Carlsberg, Dutch Lady (DLady),
Guinness Anchor and Nestle. As of 7 September 2012, the capital
appreciation of these stocks in the past one year has ranged from 28%
to 122%. This has caused their dividend yields (which have an inverse
relationship to the PER) to compress significantly in recent months,
especially that of BAT, DLady and Nestle. These stocks have been
rerated to their all-time high at +3 standard deviation (SD) of their
respective 5-year forward PER bands. Their trailing 12 months PER are
also higher than +2SD of their 10-year median historical PER. Given
such high valuations, their dividend yields have compressed further.
For instance, Nestle's yield has dropped to 3.0% or below compared with
about 4.0% from a year ago.


Not spared from General Election uncertainties?
Despite the defensive nature of consumer stocks, we reckon that the
rising trend in consumer stock prices could take a breather in the
coming months due to the upcoming election, which is expected to come
before April 2013. This is because we observe that consumer stock
prices historically increased higher in the 6 months before the
parliament dissolution date and were pretty flattish to negative after
the announcement of the Election Day, as well as after it. As such, we
have reasons to believe that history will repeat itself and consumer
stocks will be facing a minor correction in the coming months.


Small cap consumer stocks to shine still?
However, we reckon that the smaller capitalization consumer stocks will
still have potential upsides as the current PER (15.9x) of the overall
Bursa Malaysia Consumer Product Index is around the +1 SD above the
10-year median historical PER
level
of 15.7x, and its dividend yield is still at 3.4% (which is still
higher than the big cap consumer stocks, and hence implying that it can
compress further to -1 SD at 2.8%).


M&A 'A major rerating catalyst.
In the current competitive market, companies are not only concerned
about growing their profits but also their market shares too. Besides
growing organically, M&A would be another way out. Of course, there
are various reasons out there that would prompt such M&A
activities. These could be the added attraction to push the companies'
PER valuation higher. In past M&A and privatisation deals, consumer
F&B companies were valued at 15x PER and as high as 25x PER.
However, consumer retail companies were traded at a lower range (9x-15x
PER) as there were less M&A activities seen in this sub-segment.
Thus, M&A activities could rerate the sector in due course. For
instance, we had recently revised Kian Joo's PER valuation higher from
9.5x to 11.4x as we reckon that there would be positive synergy between
Kian Joo and Can-one after the recent change in the management team of
the former.


Source: Kenanga