Weathering bear market in 2012

By Kim Da-ye

It may be pointless to put together an outlook for Korea’s stock market in 2012 since there are so many uncertainties at home and abroad to put the KOSPI on a daily roller coaster ride.

Analysts of major domestic securities firms, however, surprisingly agree on major points. Most of them say that the market will pick up after the crisis in the eurozone in the first quarter, but slow down in the fourth quarter; the benchmark KOSPI may reach 2,300 points; investors should invest in blue-chip firms in the first half and cyclical stocks in the second; and IT, automotive and construction sectors make the best destinations for investment.

Many analysts believe that the change of the regime in North Korea would have limited impacts on the capital market in the South.

The first quarter will be the toughest time for the stock market overridden with risks including a large portion of bonds issued by European countries reaching maturity.

Hyundai Securities said that the governments of Portugal, Italy, Ireland, Greece and Spain (PIIGS) have to pay back within 2012 debts worth 536.1 billion euros, 206.8 billion euros of which matures between February and April.

“In the first half of 2012, banks in the eurozone have to secure up to 300 billion euros in capital,” said Hyundai strategist Lee Sang-won, raising concerns over the withdrawal of foreign money from the Korean stock market.

Because the eurozone and other major economies are likely to try containing the crisis, Samsung Securities said that policies and liquidity will shake and move the market

The economic situation and corporate earnings will have limited impacts because the current stock prices already reflect expectations for their slowdown.

“As the situation deteriorates, the governments will speed up countermeasures and the stock market’s reaction to the stimulative policies will become highly volatile,” said Oh Hyun-suk, a strategist of Samsung Securities.

Daishin Securities strategist Oh Seung-hoon offered a similar scenario. He said that further credit rating cuts on European countries in January may prompt them to take seriously the European Financial Stability Facilities (EFSF), a financial safety net for the eurozone, and seek global cooperation to proactively deal with Italy’s bonds maturing between February and April.

While most analysts project the bottom of the KOSPI at around 1,700, Kim Hak-kyun, a strategist of Daewoo securities, set it at 1,550.

Kim calculated the price-to-book ratio (PBR) — the value of the assets that could be allocated to shareholders if a firm goes bankrupt — in working out the KOSPI level instead of using the more-common price-earnings ratio (PER) because earnings forecasts are being frequently modified during downturns of the economy.

For the KOSPI at 1,550, PBR is 0.9, meaning that the book value per share is even higher than the stock price and that the market is very much undervalued. KOSPI’s PBR dropped to 0.8 right after Lehman Brother’s bankruptcy in September 2008.

Kim said that KOSPI would hit the bottom only temporarily, thus recommending an expansion of the equity portion of portfolios when it drops below 1,700.

After weathering the crisis in the first quarter, analysts say the stock market will be headed for stronger times although the second half is still full of risks and uncertainties.

Daishin suggested a scenario that after a global cooperation is played out to weather the European crisis, expectations over the U.S. economic recovery and China’s easing of the tight credit policy could build an upward momentum.

In the second quarter, as the slowdown of the Chinese economy accelerates after the Chinese New Year, growing concerns over a global recession may lead to quantitative easing in the U.S. and Europe and force China to change its policy direction to buoy the economy.

The third quarter could see policy cooperation kicks in and the capital market recover even while presidential races intensify in Korea and the U.S. The fourth quarter will be somewhat marred with political uncertainties. “When President Obama is re-elected, Bush’s tax cut is likely to come to an end, negatively affecting U.S. consumer sentiment,” Daishin said.

Although analysts forecast a better second half, most of them fail to provide adequate reasons. They instead point out risks, which may indicate that it is too early to make a reasonable prediction.

Woori Investment & Securities said that a “second” crisis after August could be more dangerous. The second crisis could involve European banks struggling to secure adequate capital as debt risks spread from governments to financial institutions; the U.S. trying to tighten money policy after the economy recovers; and the post-election era with a lame-duck president boosting political uncertainties.

“Wise investors will be cautious of hidden factors rather than the already-known,” Woori warned.

Brokerage houses suggest several tactics to weather the bear market in 2012.

The first is the obvious one of bottom-fishing — looking for bargains from temporarily undervalued stocks — and investing in blue-chip stocks, whose prices have been stable, in the first half.

Secondly, Samsung Securities recommends sectors and stocks that could show relatively strong growth amid an economic downturn. They include “top tier” companies that lead their sectors; those with developing businesses in emerging economies; those involved in building infrastructure in the Middle East; those favored by or shielded from government policies; and stocks severely undervalued due to temporary risks.

While automotive, chemicals and oil sectors led the rally of the market in early 2011, analysts identified the IT sector as the most attractive investment destination for this year.

Korea Investment & Securities said that consumers in emerging markets will increasingly adapt to mobile computing, including the use of smartphones, boosting production in Korea.

Furthermore, populism built up around elections tends to focus on domestic consumption, and the electrical and electronic sector has historically benefited the most from growth in domestic consumption. Compared to the global IT sector, the valuation of the domestic industry is also attractive, Korea Investment & Securities said.

Analysts forecast that the automotive sector would continue to remain resilient because increases in consumption in Asia will boost the sales of Korean cars.

While Woori pointed out that Hyundai Motor is now growing in quality and showing stable earnings, Korea Investment & Securities said that the PER of the sector is still 13 percent lower than the average since 2005, indicating a greater appeal for the higher valuation of related stocks.

Despite a range of strategies to weather the bear market in 2012, local brokerage houses acknolwedge it will be a difficult year for invetors.

“The KOSPI may attempt to reach a new high in the first quarter before a big pullback. A rebound will follow and fall short of a sustained uptrend. For the whole of 2012, the KOSPI’s return will be zero,” Daniel Cho, the research head of Daishin, said.

10 top picks

Samsung Electronics/ IT hardware

All six major brokerage houses chose Samsung Electronics as their “top pick,” and the unwavering confidence may become stronger as the company posted on Dec. 28 a revenue of 43.3 trillion won and an operating profit of 5.2 trillion won, which exceeded the market’s expectation.

Samsung is expanding its share in the global smartphone market as it establishes leadership in the fourth generation long term evolution (LTE) technology. The vertically integrated Samsung also makes key parts for smartphones including DRAM, NAND, application processor and AMOLED display, Hyundai Securities says.

NCsoft/ IT software

NCsoft is one of the most favored stocks among analysts. Blade & Soul and Gild Wars 2, which are said to be released internationally this year, are expected to be hit titles, helping the company boost its global market share. Hyundai Securities says that its price-to-earnings ratio is quite high at 22, but NCsoft is one of a very few companies whose MMORPG titles continued to succeed.

Woori Investment & Securities forecasts the revenue and operating profit to increase 62.9 percent and 194.3 percent to 1.03 trillion won and 479.7 billion won in 2012 while expectation for other new titles, Lineage Eternal and Wild Star, would continue building up in 2013.

LG Display/ IT hardware

LG Display became increasingly productive — it operated at 75 percent of full capacity in September and 95 percent in October and November. The liquid crystal display industry shows a satisfactory inventory level, slowdown of the LCD panel price drop and increase in shipments, Hyundai Securities says.

Cheil Industries/ IT & chemicals

Cheil Industries is expected to generate revenues of 100 billion won as its business of supplying materials for organic light-emitting diodes (OLEDs) gets underway this year, Korea Investment & Securities says. The firm may become a leading supplier as the OLED industry grows.

Woori Investment & Securities says that Cheil is expanding its material business into the semiconductor area while continuing to grow fast in the OLED and rechargeable battery sectors. Woori projects the revenue in 2011 to increase 7.1 percent from a year earlier despite deteriorating profits from chemicals and the sluggish IT industry.

Kia Motors/ automotive

While having significantly improved designs of its vehicle models, Kia Motors is shortening the quality gap with Hyundai Motor by sharing the same platform, Korea Investment & Securities says. In China, the completion of the third manufacturing plant is expected to boost the annual production capacity from 430,000 vehicles to 730,000 by the second half of 2014, the brokerage house added.

Mando/ automotive

The portion of IT parts in cars shot up from 15 percent to 32 percent between 2002 and 2010, and is expected to reach 40 percent in 2015. Mando could benefit from the growth thanks to its strengths in the automotive IT parts sector, Korea Investment & Securities says. The firm is one of the world’s top five brake system maker while its steering and suspension systems are well-respected, according to Hyundai Securities.

Korea Investment forecasts that Mando’s operating profit to sales ratio climb up 0.29 percentage points when the Korea-U.S. Free Trade Agreement takes effect in 2012 as the firm’s exports to the U.S. accounts for 12 percent of the total revenue.

Samsung C&T/ construction

Samsung C&T is a strong candidate for large-scale projects of building plants and infrastructure in the Middle East. Samsung isn’t just a builder, but differentiates itself from other firms with investment-oriented development projects in various areas including resource development, airports and healthcare, Hyundai Securities says.

Hyundai E&C/ construction

With orders for the construction of oil and gas production facilities in Iraq to be made in 2012, the expectation for Hyundai E&C’s winning of new overseas contracts would grow, Woori Investment & Securities says. Hyundai is expected to restore the portion of overseas revenue against the total to the 50 percent level and to diversify the overseas markets, now being part of Hyundai Motor Group, Woori added. Korea Investment & Securities also projects overseas orders to increase from $7 billion in 2011 to over $10 billion this year as the firm enjoys an unrivaled status in Iraq and Libya.

LG Chem/ chemicals

Samsung Securities picked LG Chem for its leadership position in the sector with an increasing market share while Hyundai Securities points out that building additional petrochemical facilities between 2011 and this year would boost revenues by 1 trillion won and operating profits by 200 billion won. The automotive battery business is also expected to grow fast, catering to 160,000 vehicles by the end of next year from the current capacity of 100,000, Hyundai says.

Fila Korea/ retail

Daishin Securities projects that the acquisition of Acushnet, a major golf equipment maker that owns Titleist, will begin to contribute to Fila Korea’s earnings in 2012. The licensing business is expected to improve this year with reorganization in Europe. The profit before tax could increase over 100 percent, Daishin forecasts.

The 10 companies above have been chosen as top picks by two or more securities firms in Korea.