March 21, 2016
Disclaimer: the opinions expressed herein are that of RongViet Securities and not of VietnamAdvisors. This is NOT a solicitation to buy or sell securities.
In the last 2 years, the Vietnamese government has done a lot to bolster economic growth and bring about the most radical reforms since the late 80’s. As the economy moves towards the late-expansion phase, it has constantly been positioning itself to attract more capital inflows and become more involved in global trade. The TPP and other trade agreements are not the goal but part of the process. As the country prepares for free trade and capital liberalization, there will be plenty of work in infrastructure development from roads and bridges to IT and telecoms. In the meantime, the expansion of FDI-driven manufacturing and the resulting increase in trade will boost logistics and other supporting services. We have gathered below the key themes that will help identify outperforming sectors in 2016.
Cyclical factors will continue to weigh in: As Vietnam leaves the recovery phase and enters a high-growth period, more attention should be paid to sectors whose sales and earnings are highly correlated with economic activity. For the trade-driven part of the story, while it may be too soon to make a call on cargo shipping given depressed freight rates, we believe petroleum and gas shipping still has a good year ahead as local refineries like Binh Son, Dung Quat, Nghi Son will continue to expand capacity to take advantage of low oil prices.
Capital investments and infrastructure development are key to capital attraction: On the opening day of the 14th Plenum, the Party Central Committee overwhelmingly endorsed Vietnam’s participation in the Trans-Pacific Partnership. In the last two years, the government has adopted an aggressive stance towards infrastructure development in an attempt to attract foreign direct investment. Last year, Vietnam climbed nine notches on World Bank’s ranking of infrastructure development index and the construction output value grew 11.4% year-over-year. Since 2014, Vietnam witnessed a strong increase in the number of energy and transport projects, (e.g. Ben Luc – Long Thanh Expressway, Da Nang – Quang Ngai Expressway, and Ha Noi – Hai Phong Expressway). along with a jump in demand for factories, warehouses and industrial land. We believe “upstream” sectors like construction, building materials and industrial zone developers will be the biggest beneficiaries of this story.
Trade growth will gain momentum under free-trade agreements: With the signing of the TPP and four FTAs, we expect Vietnam’s exports to grow over 11% yoy and imports over 13% this year. Now that they have surpassed local businesses to become the key players in the manufacturing sector, FDI companies will continue to import materials and machineries while exporting large quantities of finished goods to the global market. Despite their small market shares, local logistics providers can still gain greatly from such expansion whereas Northern seaport operators should enjoy higher revenue growth in the near term as demand outpaces supply. The signing of the TPP, the EVFTA and the VKFTA certainly will continue to bring more export orders to the textile-garment sector. However, increasing competition from bigger and more resourceful players from mainland China, Hong Kong and Taiwan will put a cap on sales growth.
Falling commodities prices will put downward pressure on input costs: The cheap commodity environment had some drastic effects on companies’ profits and stock prices in 2015. BMP, NTP, VNM, PLC, and DPM among other large-scale manufacturers saw their bottom-line profit greatly enhanced by lower input costs and better gross profit margins. At the heels of a rising USD and dwindling demand from China, we still see a gloomy prospect for many commodities such as corn and soy for animal feed, dry whole milk for dairy, plastic resin for construction pipes, lead for batteries and copper for cable wires. Because of the 2015/2016 El Nino, however, weak demand for agricultural products could be partly offset by a contraction of supply. In the meantime, there is a significant probability that low oil prices are here to stay, creating some tailwinds for oil-based chemical manufacturers, including fertilizer companies who are facing great difficulties from a surplus of domestic supply.
Minimal exposure to FX risk is crucial to bottom-line profits: Since China took the world’s financial market by surprise when it let its currency fall 3% against the dollar last August, FX risk has become a greater concern for stock investors. FX risks have three components, i.e. transaction risk, translation risk and economic risk. The most current of the three is transaction risk, which will be minimal for importers who also export goods. For the other two, however, the relationship is not as straightforward. While a devaluation of the dong, say 3 to 5 percent, will help maintain the price competitiveness of Vietnamese products such as garments, electronics, seafood, building materials, etc. in overseas markets, it would also force companies in capital-intensive sectors to book substantial losses on their foreign-currency debts. The latter risk is particularly relevant to cement and electricity companies.
High consumer confidence will boost spending: The expansion of the middle class has always been the long-term growth driver for producers and sellers of discretionary consumer goods. However, it is the overall wealth and expectations of future income that motivate consumers to spend. As the economy expands and the incoming FDI offers more career opportunities, both wealth and expected income growth are higher. According to ANZ – Roy Morgan, Vietnamese consumers have the highest confidence in all of Asia. That has led to higher sales of cars, home appliances, furniture, and jewelleries, boosting revenue and earnings growth of companies providing discretionary goods. However, under the AEC and the TPP, Vietnamese general and special retailers will both face fierce competition from foreign retail chains. In this fight, a good brand name and a strong distribution network, including access to advantageous sale locations, will be a key competitive advantage for local companies.