Latest economic data released by the government indicate that the Philippine economy is firmly on track along a 7% or higher growth path. The 2.1 M new jobs in 2016 will likely support the trend of 1.1 M Filipinos annually moving out of poverty between 2012 to 2015 into 2016 and beyond. This, together with higher peso value for OFW remittances, will ensure a solid base of 7% & above growth in consumer spending, which accounts for more than 70% of GDP. But investment spending should remain as the main growth driver, as we expect continued double-digit growth in capital goods imports, similar to the construction sector. The latter will be buoyed up by aggressive infrastructure spending by the government and private residential and commercial construction that have shown a recent pick-up. FDIs will resume to take a faster pace in 2017 as PH economic numbers continue to impress foreign investors, especially the Japanese, Chinese, Koreans, and Taiwanese. These Asian investors will offset any slowdown of U.S. and Eurozone investments (excluding UK) should they continue to focus on non-economic issues. Exports should register more positive gains in 2017 and thus contribute a little to economic growth. OFW remittances (in USD) growth should remain subdued at the 2% to 4% range, but peso-wise, the peso’s expected depreciation should help these remittances to provide additional stimulus to the economy. Finally, while there may be periods of peso appreciation, the overall trend of a depreciation will likely continue in 2017, albeit at a slower pace than 2016. The U.S. economy will continue to improve slowly but surely as we’ve seen positive data consistently in the past quarter.
Fixed Income Market
With the Fed policy rate hike over and done with in December, the market’s expectation of three additional increases of 25 bps in 2017 has brought bond yields to recent highs. But not all is bleak for the bond markets. U.S. 10-year T-bonds hit a high of 2.60% on December 15, 2016, but has trended lower since then. As we have pointed in the past, financial markets tend to overshoot and this is a clear instance. It is unlikely to get even close to this high in Q1 even after President-elect Trump announces his stimulus plan for the economy. But the overall trend towards higher yields for the year remains. Local bond markets could still have bright patches, as local bond yields have risen even more than in the U.S., despite the historical evidence of relatively low (30% to 50%) pass-through to 10-year local T-bond yields. Nonetheless, we see 2017 year-end anywhere between 4.8% to 5.1%. This is despite the higher borrowing requirements of the NG, as was evident in their Q1-2017 borrowing program (+33% y-o-y). NG will opt for shorter term maturities in the face of the upward trend of yields, but it will need to offer more regularly longer term T-bonds in order to maintain liquidity in these tenors and avoid benchmark yield curve distortions.
Despite the bright macroeconomic outlook (at least in the next 12 months), our 2017 market outlook is subject to a large degree of uncertainty. We see two scenarios playing out this year. Under the first scenario, we believe returns will be challenging in H1-2017 as investors digest the bulk of the headwinds in the market such as higher interest rates, weaker currency, and fund outflows. And under the second scenario, as investors get used to the large degree of uncertainty, the power of fundamentals should eventually play out. Therefore, outperformance this year will come from a combination of selective picks and active/nimble management. We prefer to reduce exposure as the market strengthens at levels above our 2017 target, and wait for better entry points. Risks to our view include: 1) our perceived market headwinds do not materialize, and 2) the large degree of uncertainty clouding our outlook dissipates or lessens. Our picks for 2017 are banks, consumer staples, and infrastructure plays. We will also be on the lookout for mispriced index stocks resulting from outflow-driven sell-offs.