Disconnect? Or never connected in the first place

There is an ostensibly curious chasm at present between a booming Vietnamese economy on one hand, and the soggy start to 2015 for the nation’s stock market – the VN-Index is flat ytd, the VNAS is down 2%, and the FTSE Vietnam All Share (in USD) is down 3%. A list of economic positives that qualify as “new” over the past three months includes the following five:-

1) A rising bias to GDP growth: Both the 1Q15 outcome (6.0%) and several FY2015 forecasts (some now as high as 6.5%) are moving higher compared to prior expectations.

2) A recent visit to Vietnam by this writer found several visible signs of improved consumer sentiment compared to five months before, and this is corroborated by 1Q retail sales growth of 10% YoY. Restaurants were fuller and retail footfall seemed higher – more than at any point in the past five years.

3) Further data suggesting that Vietnam’s property market recovery that started in 2H2013 is continuing: Transactions have trebled YoY in 1Q and business registrations in the sector are up c. 50% YoY.

4) Signs of incremental government reforming continuing, particularly in three areas – banking; state owned enterprise (SOE) privatisation; and new laws concerning property, investment and enterprises.

5) Further falls – to under 1% – in inflation, enabling further reductions in local interest rates and looser credit conditions. The banking system’s average lending rate was 10.1% in 1Q15, down 1.4% YoY, and loans outstanding in March were c. 17% higher YoY.

So why is the market not matching this positive real economic news?

First, the economy is not the stock market. The world over, a nation’s GDP growth is not significantly correlated (even over rather long time periods) to its stock market’s performance. This renders the first two items above as – while possibly helpful – for the most part irrelevant. Why? Because underlying earnings per share, and the sharply variable extent to which they are used in outside minority shareholders’ interests, is the real beef. EPS growth doesn’t correlate well to GDP growth – profits are but one component of GDP, and the changing ways a given company is governed are generally a far more important determiner of underlying EPS growth. Moreover, in Vietnam’s case, success in attracting major foreign direct investment (1Q disbursals up 7% YoY to USD3bn) at such an early stage of economic development is certainly transforming the economy, but this driver is by its very nature (mostly 100% owned foreign businesses) quite separate from the local stock market.

Next, the fourth positive offered above is actually a glass half full or half empty conundrum. Yes, it is good that the government is keeping up the stream of SOE stock sales (289 of them targeted for 2015 -maybe not an achievable number, but good to be ambitious), but minority stake sales do little to transform these businesses and improve their management. Banking sector reforms are continuing (eg, the sound measures in the government’s Circular 36), but a high level of NPLs remain in the system, some USD6bn of which (as of YE14) the government has yet to do anything with except warehouse them for the banks (with the banks still liable for them). Finally, regarding the new property, investment, and business laws, it is still too early to tell how big an impact they will have. A vigorous debate between the reform “half-fulls” and “half-empties” would still, sadly, favour the latter.

This leaves (3) and (5) as the fresh, relatively unambiguous bull points for Vietnamese equities. If property continues to get healthier, this is supportive to equities; these two asset classes typically travel together. Low inflation should mean further falls in interest rates, a central building block for higher equity valuations.

So in some cases, never connected in the first place. In other cases, a disconnect that will not last for too long. Despite the year’s underwhelming start for the Vietnamese equity market, patience is likely to be rewarded as the year plays out, making four straight years of rising stocks.

Mekong Man

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