[Good Morning Stock Market] "China's Demand Recovery is Positive, but US Consumption Must Also Normalize"

[Asia Economy Reporter Eunmo Koo] As data confirms that demand in China is normalizing, cyclical stocks are showing signs of short-term overheating despite the economic downturn. While the improvement in China's demand is positive, analysts say that to have confidence in economic recovery, positive signals must also continue in advanced countries such as the United States. However, since the recovery of U.S. consumption is expected to remain sluggish for the time being, selective responses rather than chasing recent cyclical stocks are advised.

◆Yesin Lee, Researcher at Shinhan Financial Investment=Market volatility is gradually easing. Since the KOSPI rose above the 1800 level on the 7th, it has been fluctuating within a range of about 1-2%. The scale of foreign capital outflows has also been calming down weekly. In the first week of April alone, foreign net selling reached 2 trillion won on a weekly cumulative basis, but it decreased to 760 billion won the previous week and 320 billion won this week.

One notable point is the sectoral changes. During 10 trading days in April, when the number of rising and falling stocks by KOSPI sector was expressed as a percentage, sectors such as utilities, steel, transportation, construction, shipbuilding, machinery, trading companies, and chemicals ranked at the top. This indicates that the market's short-term focus on cyclical sectors like materials and industrials is overheating.

The International Monetary Fund (IMF) released the 'World Economic Outlook Update 2020' report on the 14th, which includes economic forecasts after the spread of COVID-19. The global economic growth rate for this year was revised down from the January forecast of 3.3% to -3.0%, with the U.S. and China adjusted from 2.0% to -5.9% and 6.0% to 1.2%, respectively. Despite persistent pessimism about the economy and demand, the reason for the focus on cyclical stocks can be found in China.

At a critical time to confirm the timing and speed of deferred demand recovery, positive data has recently been confirmed in China. Copper prices, used as a proxy for industrial demand, rebounded 9.3% from the bottom to $232 per pound for the nearest contract. This is because China's copper inventory, which had sharply increased since the beginning of the year, rose to about 380,000 tons in mid-March and has now decreased to around 320,000 tons. Although the inventory increase rate due to COVID-19 was the steepest in the past five years, the peak was formed at a level similar to 2016.

Recovery in demand for automobiles and mobile phones is also noticeable. China's automobile sales fell from about 2 million units in January to 310,000 units in February but recovered to around 1.4 million units in March. Mobile phone shipments also dropped from 20 million units in January to 6 million units in February but exceeded January levels at about 22 million units in March. Based on the announced figures, deferred demand appears to have recovered sharply.

The rebound in durable goods consumption demand such as automobiles and mobile phones in China without further deterioration is positive. Since China accounts for 25% of South Korea's exports, Chinese demand somewhat mitigates the export shock caused by demand contraction in advanced countries. The remaining task is to verify seasonality considering past annual trends. Copper inventory typically increases in Q1 and decreases in Q2-Q3, while automobile sales and mobile phone shipments show a pattern of weakness in January-February followed by a rebound in March-April. This is due to the Lunar New Year effect in February-March and policy effects such as the Two Sessions. This year, the Two Sessions were delayed to May due to COVID-19. Therefore, attention should be paid to whether seasonality will repeat or be deferred to Q2 through additional data confirmation.

The problem lies with advanced countries. Positive signals confirmed in China must also be observed in advanced countries such as the U.S. to have confidence in economic recovery. According to data confirmed so far, consumption recovery is expected to take time. The probability of debt repayment delinquency over the next three months has risen to the 15% range, marking the largest month-over-month increase. This is due to employment shocks, and unemployment rates and mortgage delinquency rates show a concurrent trend. After the unemployment rate rose to 4.4% in April, it is likely to continue worsening, and the delinquency rate, which was only 3.8% in Q4 2019, is also expected to rise further.

Recently, U.S. mortgage companies have appealed for additional support from the Federal Reserve. This is because requests for payment deferrals and delinquency cases surged after the government allowed homeowners to defer mortgage repayments for up to 12 months as part of economic stimulus measures. Even if the government supports households through policies, if debt delinquency rates increase, actual consumption such as durable goods consumption will inevitably be deferred. Consumption recovery in advanced countries requires time.

Although cyclical stocks rebounded due to recent data on China's demand recovery, considering uncertainties about seasonality repetition and the possibility of delayed demand recovery in advanced countries, a selective sectoral response strategy rather than chasing purchases is necessary. It remains important to monitor changes in earnings guidance and consensus for IT companies.

◆Bongju Kang, Researcher at Meritz Securities=Except for healthcare, most sectors are experiencing sharp downward revisions in earnings forecasts. The downward revisions are particularly pronounced in cyclical sectors such as refining, chemicals, and shipbuilding, while the IT sector, centered on software and IT hardware, shows relatively smaller downward revisions.

Recently, the pace of earnings forecast downgrades has accelerated, with the 12-month expected earnings per share (EPS) falling to the lowest level since August last year. Considering that further downward revisions are inevitable, this is a factor that lowers the potential for additional stock market gains. The KOSPI 12-month expected price-to-earnings ratio (PER) has also rebounded to 10.1 times, exceeding the recent five-year average.

The speed of earnings forecast downgrades during this COVID-19 phase is the fastest compared to previous major earnings decline phases. Although the stock market has rebounded sharply due to recent risk asset preference, investors are expected to increasingly focus on sustainable earnings levels.

Initially, this year was expected to be a turnaround year with a rise after a sharp earnings contraction of over 40% last year. Currently, even with recent earnings forecast downgrades alone, most sectors except healthcare, software, and IT hardware are expected to see earnings declines of around 20% by Q2.

This content was produced with the assistance of AI translation services.