Major China banks, Europe oil players seen as strong yield plays

Singapore

MARKET volatility and a negative interest rate environment may spell a dour outlook for yield seekers but strategists still see scope for chasing yield plays among global equities, including European oil majors and China banks.

In fixed income, BB and BBB grade emerging market (EM) corporate bonds also present an opportunity during the home stretch of the year.

Hou Wey Fook, DBS Bank's chief investment officer (CIO), said recently at the bank's Q4 outlook briefing that opportunities are present in high dividend stocks. While many would argue that equities are trading at historically high price-to-earnings levels, Mr Hou explained that investors should instead compare relative valuations between equities, cash and bonds. He added: "If you look at the yield gap between equities and bonds, you'll find equities to be very attractively valued."

Mr Hou's view is shared by UBS Global Wealth Management's APAC head of chief investment office, Tan Min Lan. She wrote in an October outlook that stocks with high dividend yields are preferred, given the elevated volatility and falling interest rates.

DBS may be underweight on European equities for Q4, but still finds opportunities in European oil majors like Total, BP and Royal Dutch Shell.

While the economic slowdown has resulted in downward pressure on oil prices, Mr Hou noted that these integrated players are hedged and have a healthy level of free cash flow to increase dividends and sustain a dividend yield of around 6 per cent.

Elsewhere, DBS continues to favour Singapore real estate investment trusts (S-Reits) as well as large Chinese banks - beneficiaries of accommodative central bank policies.

Mr Hou acknowledged that recent equity pullbacks in China, and worries that larger Chinese banks were bailing out smaller contemporaries resulted in attractive entry opportunities.

Lenders like China Construction Bank and the Industrial and Commercial Bank of China (ICBC) are trading at historically low price-to-book levels while having dividend yields of close to 6 per cent.

Meanwhile, UBS's Ms Tan sees other value stocks in the Asia Pacific, where valuations have been suppressed by structural concerns but opportunities remain among high-quality names.

UBS likes select Hong Kong conglomerates and infrastructure firms, which have been affected by geopolitical issues and are trading close to five-year lows as well as laggard mainland Chinese internet stocks with strong turnaround potential.

That said, BNP Paribas wrote in a Q4 outlook in September of being "relatively bearish on Chinese equities, given the increased downside risk we see for Chinese economic growth, the downside risk to earnings and subdued foreign inflows".

For growth assets, Mr Hou has maintained clients buy into secular trends such as US technology, digitisation and millennial spending plays, among others. UBS likes beneficiaries of smart city development.

Among bonds, it seems like the action is mostly in the EM space. Both DBS and UBS are recommending that clients look into BBB and BB rated US-dollar denominated EM corporate bonds as they offer investors the best value within the asset class.

This compares with lower yielding developed market corporate and government bonds, with many of the latter already negative yielding. DBS's Mr Hou noted that the 3-5 per cent yields offered by EM corporate bonds may not be "very high but good enough in the face of zero interest rates".

Among bond issuers, Ms Tan said UBS prefers those from selected Chinese developers. "We continue to like good quality, improving credit stories in the Chinese property sector, and prefer BB and BBB over B bonds," she wrote. UBS also likes investment grade BBB bonds like those of Chinese government-related issuers.

European Bank AT1s or contingent convertibles, which are hybrid securities, is another area of opportunity.

"Banks have deleveraged, earnings have stabilised, we see limited risks in AT1 paper and like the current levels of carry," BNP Paribas wrote in its Q4 outlook. The French bank expects such subordinated bonds to continue to perform during the period.

DBS's Mr Hou noted that returns on European lenders' AT1s over the past five years register between 5 and 5.7 per cent. He added that a portfolio of highly rated AT1s could see investors lock in a yield of 4.9 per cent.

The current environment has also made gold a more attractive proposition for investors, with appreciation expected this quarter.

In its final quarter outlook, BNP Paribas senior economist Harry Tchilinguirian said: "We expect gold to move higher as the Fed initiates a patient easing cycle."

Mr Hou noted that the yellow metal makes a worthy investment at present as it is uncorrelated to stock returns and would add resilience to the portfolio. "Against the backdrop of an unpredictable tug-of-war between easy monetary policies and geopolitics, gold will be favoured as an effective portfolio diversifier and to enhance risk-adjusted returns," he said.