[Good Morning Stock Market] Stock Market Declines Amid COVID-19 and Delays in Additional Stimulus... Focus on China's 5th Plenum

[Asia Economy Reporter Oh Ju-yeon] The U.S. stock market plunged sharply due to the resurgence of the novel coronavirus infection (COVID-19), the possibility of economic contraction, and delays in additional economic stimulus measures. The Dow Jones Industrial Average closed at 27,685.38, down 2.29% from the previous trading day, the S&P 500 fell 1.86% to 3,400.97, and the Nasdaq Composite dropped 1.64% to 11,358.94.

Accordingly, it is inevitable that the domestic stock market will also start lower. However, since the 19th Central Committee of the Communist Party of China’s 5th Plenary Session (19th 5th Plenum) is underway in China, it is analyzed that the market could be influenced depending on the announcements made there. This meeting, which opened on the 26th and runs through the 29th, discusses China’s economic goals and directions for the next five years.

[Image source=Yonhap News]

◆ Sangyoung Seo, Kiwoom Securities Researcher = The U.S. stock market showed weakness as the possibility of economic contraction due to the spread of the COVID-19 crisis, debates over additional stimulus measures, and the likelihood of companies lowering their earnings guidance increased. Additionally, the decline in international oil prices and government bond yields weakened risk asset preference, which is expected to negatively impact the Korean stock market. In particular, while the spread of COVID-19 and stimulus debates were somewhat anticipated and known, the increased concerns over individual companies’ earnings pose a burden. For example, German software company SAP expressed concerns about the demand environment, which was expected to improve, and its stock plunged more than 20% after earnings announcements, causing the German DAX index to fall 3.71%. The problem is that SAP claimed that due to lockdowns in some regions caused by COVID-19, there is no meaningful recovery in earnings, which increases the burden on individual companies’ guidance and is negative for the Korean stock market.

However, AstraZeneca’s announcement of immune responses in all age groups, including the elderly, from vaccine clinical trial results (up 2.06%) is somewhat positive. Based on this, the pharmaceutical, bio, and medical device sectors saw limited declines.

Furthermore, among major U.S. tech stocks, Amazon and Apple showed firm gains as expectations for earnings improvement continued to flow in, which is also favorable. Considering this, although the Korean stock market will inevitably start lower, given the recent weakness, it is expected to show a process of digesting selling pressure rather than an expanded decline. In particular, attention is expected to focus on the Chinese stock market, which may change depending on the announcements made during the 5th Plenum.

◆ Jaeseon Lee, Hana Financial Investment Researcher = If the next U.S. president is confirmed on election day, the market will gradually focus on the signals. If that happens, the November stock market can be used as a signal period for phased buying opportunities.

Historically, the KOSPI rebounded with a 50% to 70% probability until the end of the year after the U.S. presidential election due to the resolution of uncertainty. In particular, among emerging markets, export countries are expected to show relatively strong recovery.

Looking at the September Japanese machine tool orders, which can gauge the recovery of facility investment demand, orders for machine tools destined for China recorded an 89% increase compared to the same period last year, showing the most remarkable improvement. The U.S. and Eurozone recorded -15% and -48% respectively compared to the same period last year, but the upward trend is maintained.

The KOSPI’s earnings and price momentum are gradually concentrating on cyclical stocks. Since October, the sectors that have contributed significantly to the 2021 KOSPI earnings estimates are mostly cyclical sectors such as semiconductors, transportation, automobiles, and chemicals. Currently, rotation among previously neglected cyclical stocks such as banks, steel, and transportation is observed.

From this perspective, it is necessary to pay attention to the possibility of relative catch-up in sectors such as media, chemicals, and displays, which recently recorded lower returns compared to upward revisions in earnings estimates.

◆ Donggil Noh, NH Investment & Securities Researcher = MSCI (Morgan Stanley Capital International) is preparing for its semi-annual review in November. The announcement date is November 10 (Korean time), and the effective date is November 30. The semi-annual review generally receives more attention than the quarterly review.

The MSCI regular index change event is a good opportunity for investors expecting excess returns. Clear index effects were observed in May and August this year when MSCI Korea stock changes occurred. In particular, the returns of newly included stocks performed relatively better than those of excluded stocks.

In this November MSCI quarterly review, attention should be paid to changes in constituent stocks and whether newly listed stocks will be included. SK Biopharm, which failed to be included by special exception, is expected to be included in the MSCI Korea index in the semi-annual review. Along with this, Doosan Heavy Industries & Construction and SK Chemicals also have a high possibility of new inclusion.

The strength of the index effect depends on whether it is pre-reflected. The more investors who predict index changes and trade in advance, the more excess returns may decrease. The stocks expected to be included in the November MSCI Korea index have seen a decline in trading volume relative to market capitalization over the past three trading months. Doosan Heavy Industries & Construction is an exception, but considering that this period was when news about business structure restructuring was concentrated, it is difficult to interpret this as a result of pre-reflection of the index. The conclusion is that there are not yet many investors who have predicted the index change and traded in advance.

The MSCI regular index change investment strategy could yield additional performance if the results are predicted in advance and used for trading. The key to improving performance is accurate prediction of inclusion and exclusion stocks. Currently, as the MSCI market capitalization reference date calculation period is ongoing, it is a time when results can be predicted relatively accurately. It is the right time to invest in advance by utilizing MSCI regular index change expectations.