An Analysis of Economic Impact of COVID-19
The following is an analysis from Shinhan Investment Corp. of the impact that the spread of COVID-19 has on the Korean economy, capital markets and major industrial sectors. -- Ed.
Economy: Ongoing impact of COVID-19 on the real economy
The COVID-19 outbreak affects the real economy: 1)decline in domestic demand led by the service sector; 2) disruptions in manufacturing; and 3) slowdown in investments brought on by a prolonged slump in demand. The first two impacts have already been felt. Global economic growth forecasts for 2020 have been downgraded by 0.1-0.2%p. The Chinese and Korean economies are expected to expand in the mid-5% and 2% range, respectively. The slowing USD appreciation will likely limit a further rise in the USD/KRW exchange rate.
Domestic stock: In the process of confirming an upturn
The KOSPI should resume its upward trend if the COVID-19 outbreak starts to subside within 1Q20. We keep our KOSPI band forecast unchanged at 2,000-2,400pt for 2020. If the epidemic lasts longer, the negative impact on earnings may increase. Full-year profits could come in 5-10% lower than projected. In this case, the KOSPI is likely to return to a narrow trading range of 1,900-2,250pt.
Domestic bond: Growing appetite for safe assets
The Bank of Korea’s policy board kept the base rate unchanged at 1.25% at its February meeting. There is a chance of a cut in April. The bond market should be wary of downside risks for at least one or two months. Amid mounting rate cut expectations, 3Y KTB yield is unlikely to rise above 1.30%.The long-term bond yield curve should continue to flatten due to negative economic indicators.
Alternative asset: Safe assets ≥ risky assets
Chinese economic indicators for January-February, which reflect sluggish demand in China, are weighing down on global oil prices. We do not expect oil prices to dip below USD40 per barrel considering the possibility of additional output cuts by oil-producing countries. Gold prices may climb further as the world’s major central banks move to lower benchmark rates to shore up their economies.
Impact of COVID-19: Differentiated share performance by sector
Negative (or some positive) impacts of the COVID-19 outbreak are priced into the stocks. We expect sectors that have been hit hard by the outbreak to rebound if the increase in confirmed cases slows down, including semiconductor, handset, cosmetics/retail (duty-free), bio, banking, securities, media (cinema), games(small/mid-caps), auto parts, oil refining, shipbuilding, and transportation. If the epidemic continues to spread, a downward revision of profit forecasts for companies listed on the KOSPI is inevitable. Defensive plays in utility, food/beverage, media (contents), medical equipment (diagnostic devices), insurance, and machinery/defense sectors are expected to perform better.
Impact of COVID-19 by sector
Semiconductors
* Demand: Extent of impact differs by length of disruption in Chinese IT product/component manufacturing
* Supply: DRAM/NAND makers to actively respond with capacity cutbacks
* COVID-19 to have only limited impact on semiconductor market direction; recommend buying during short-term fluctuations
Handset & IT Parts
* Short-term shock inevitable for IT hardware industry; most companies to miss expectations on 1Q20 earnings
* Prolonged disruptions in Chinese production to benefit Korean IT companies
* Domestic substrate makers to benefit from rivals’heavy reliance on Chinese production; eyes on Apple-related stocks with Apple’s momentum typically stronger in 2H vs. 1H
Internet & Games
* COVID-19 to indirectly benefit internet, content and commerce companies (especially commerce players due to changes in shopping patterns)
* No direct impact on games but concerns raised over cancellation of large-scale events if the outbreak drags on
* Recommend internet stocks as a defensive play and small/mid-cap game stocks as a momentum play
Travel/Leisure & Cosmetics
* 2020 outlook: Outbound traffic -19.6% YoY, inbound traffic -20.5% YoY, Chinese inbound -15% YoY
* 1H20 outlook: Travel agencies to suffer 70% YoY fall in sales, casinos to see limited sales drop on high sales share of VIPs, entertainment agencies facing possibility of concerts being postponed
* Duty-free operators assumed to see return of small-scale Chinese merchants in mid-April; cosmetics companies to witness recovery in Chinese operations in March-April
Retail
* February same-store sales growth estimated at -10.8% YoY for department stores and-14.9% YoY for discount stores (already reflected in our February earnings forecasts)
* Even further slowdown in same-store sales growth in March to have limited impact (roughly 2%) on annual earnings
* Recommend keeping track of each stock to predict share price bottom and rebound rather than being overly concerned
F&B
* Share price sensitivity to COVID-19: Alcoholic/non-alcoholic beverages > confectionery/ice cream > tobacco > food
* Share price performance since January 20 when COVID-19 started to spread nationwide:Alcoholic/non-alcoholic beverages -11%, confectionery/ice cream -6.2%, food +11.7%
* Surge in demand for daily necessities →Recommend focusing on food companies and stocks set to enjoy structuralgrowth through market share gains after COVID-10 subsides
Apparel
* Companies with online/offline sales channels in China to see at least 60% YoY drop in February sales
* Domestic apparel sales forecast to fall YoY amid sluggish same-store sales growth at department stores, a key sales channel
* Relatively limited damage to OEMs, but need to check consumer spending index
Media
* Domestic content companies to enjoy growth in VOD (video on demand) revenue on increased indoor activities
* Cinema operators to suffer negative impact, unlikely to break even in 1Q20 due to labor costs and rent
* Ad agencies to see limited impact with overseas operations representing more than 70% of total gross profit
Pharmaceutical & Bio
* Extent of impact to vary by business type
* Domestic pharmas with heavy reliance on domestic sales to see reduction in marketing activities and prescription sales
* Beneficiaries: Biosimilar makers with high sales share of US/European operations, developers of COVID-19 testing reagent/kit
Banking, Credit Card & Fintech
* Possible contraction of exports, which in turn should seriously hit domestic consumption due to high economic dependence on exports
* A drop in long-term interest rates amid concerns over economic slowdown to drive down banks’ profitability; additional base rate cut possible by the Bank of Korea
* A rise in USD/KRW exchange rate to spark an outflow of foreign funds and loss on non-monetary items at some major banks
Insurance & Securities
* Insurance: Loss ratios to improve on a decline in outdoor activities and hospital visits due to fears of virus infection
* Lower preference for face-to-face interaction to help reduce the heavy portion of new business acquisitions through GAs and thus improve expense ratio
* Securities: Global pandemic to bring down global stock indexes and trigger a knock-in option for ELS products, causing losses, in a worst-case scenario
Auto
* Concerns raised over supply disruptions after a surge in confirmed cases of COVID-19 in Daegu and Gyeongbuk province where many parts plants are located
* Temporary shutdown at one of primary parts vendors after a worker died from the virus, but no additional shutdowns expected
* Further downside to be limited with recent share price fluctuations already reflecting the COVID-19 issue
Oil Refining & Chemicals
* Oil refining: Refining margins to remain sluggish through 1Q20 on weakening oil demand from COVID-19 outbreak
* Chemicals: Price spreads of main products to continue to decline due to high inventory levels and slowing demand in China
* Refineries poised to suffer negative impact in the near term, but see gradual recovery after 1Q20
Transportation & Shipbuilding
* Transportation: Freight rates have bottomed out; energy carriers to see strong rate rebound before others
* Shipbuilding: Temporary dip in order placements disappointing, but a recovery expected for energy carriers
* Share valuations to reach bottom in 1Q20 and rebound in earnest from 2Q20
Machinery
* Traditional machinery: China sales to drop 50% YoY in 1Q20
* Defense: Beneficiary of higher USD/KRW rate with no concerns over order intake
* Defense earnings to rebound from 1Q20 after reaching bottom in 4Q19
Utility
* Limited impact on electricity/gas demand; USD/KRW rate hike to weigh on earnings in the near term
* KEPCO: Higher USD/KRW rate to negatively affect 1Q20 earnings, oil price declines to help improve 2H20 earnings
* KEPCO to see earnings improvement toward 2H20 on lower oil prices and rise in nuclear capacity utilization, despite higher USD/KRW rate
Construction
* Domestic: Serious hit to presale market with possible delays in large-volume presales
* Overseas: No impact on projects in China; concerns rising in the Middle East with a growing number of countries suspending/limiting the entry of Koreans
* Actual impact of COVID-19 to be limited despite some concerns over domestic/overseas projects
Steel
* China: Decrease in steel demand and prices, increase in inventories
* Domestic: Low possibility of virus spread at plants with limited impact from the recent confirmed case
* More concerned about a narrowing of the hot