[Good Morning Stock Market] "Among Oversold Stocks, Those Supported by Earnings Improvement Come First"

[Asia Economy Reporter Eunmo Koo] The KOSPI has strongly rebounded since the mid-March low and has settled back above the 1900 level. In the short term, the rebound was centered on stocks that had experienced excessive declines, but ultimately, it is important to note that returns were divided mainly by sectors with improved earnings.

◆Jiwoo Lim & Soyeon Park, Researchers at Korea Investment & Securities=Although a strong rebound was seen mainly in oversold stocks, comparing cumulative returns by sector since late January when the novel coronavirus disease (COVID-19) began to emerge, the most important factor was earnings. Sectors with limited earnings damage such as healthcare, software, and consumer staples ranked high in returns, while sectors with large downward revisions in profits such as shipbuilding, steel, and energy showed poor cumulative performance.

With the second quarter expected to be the biggest hurdle, downward revisions to earnings estimates are still ongoing. Since the index has recovered two-thirds of its decline, it is now advantageous to focus again on sectors and stocks. It is a time to reassess and separate the wheat from the chaff based on whether earnings have improved for stocks that surged sharply in the short term.

The sectors with the highest rise from the low point were cyclicals such as chemicals, construction, and machinery. Around March 19, when the KOSPI hit its lowest point, the sectors with the largest declines were machinery (-49.2%), insurance (-47.3%), and construction (-47.0%), which had significant earnings concerns and were most vulnerable to credit risk. However, the rebound was also strong mainly in oversold stocks, and notably, sectors expected to benefit from government policies such as transportation (60.8%) and construction (55.1%), as well as chemicals (56.1%) expected to benefit from low oil prices, showed outstanding returns.

However, since the beginning of the year, the only sectors recording positive returns were healthcare (12.3%) and software (5.9%), both of which had limited earnings damage due to COVID-19. On the other hand, sectors that performed poorly since the start of the year were shipbuilding (-31.5%), energy (-29.5%), and automobiles (-29.4%), which are expected to suffer significant earnings damage and slow recovery due to COVID-19.

The cumulative returns from late January, when the COVID-19 issue began to emerge, to the present show the same pattern. Healthcare (13.8%) and software (0.6%) remained at the top, and the transportation sector, which experienced high stock price volatility due to the management dispute in the Hanjin Group, outperformed. However, sectors that underperformed during this period were manufacturing (shipbuilding, automobiles, steel) and financials (securities, banks), which are expected to be hit hardest by the global economic downturn.

Changes in earnings estimates also reflect returns. Sectors with superior relative returns also saw upward revisions in earnings per share (EPS). Looking at changes in estimates over the past month and three months, healthcare, software, and consumer staples sectors showed both superior relative returns and EPS. Conversely, except for the transportation sector affected by management disputes, energy, automobile, and steel sectors all showed EPS downgrades and weakness.

◆Jungbin Lee, Researcher at IBK Investment & Securities=There is a saying, "Sell in May." This is because the KOSPI often declines in May. Since the 2008 financial crisis, the KOSPI has fallen seven times out of ten years in May. Verification shows that the KOSPI declines occur during periods of downward revisions in analysts' earnings forecasts ("earnings cut phase") and when there is a high possibility of first-quarter earnings misses among large-cap stocks. Currently, corporate earnings in the KOSPI have started to plunge sharply since March following COVID-19. In other words, the fundamentals are indeed weak. In summary, an unfavorable environment has been created from the perspective of corporate earnings, and the KOSPI level has risen sharply relative to fundamentals. While the likelihood of a "Sell in May" event is high, considering the recent record-high 40 trillion KRW in customer deposits, individual investors have the largest-ever stock buying power on standby. Therefore, although an index correction is likely, its magnitude is expected to be smaller than the index drop in March caused by COVID-19, due to the buffering role of individual investors.

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