LAST week, this column elaborated on the three key elements that will dictate the global economy this year, and to a larger extent, how this will impact financial markets. From the global perspective presented last week, it is now an opportune time to discuss the Malaysian economic and market direction for this year.

       As it is, the economic growth expectations for the year, based on the government’s forecast of between 5.5% and 6.5%, is on the premise that Malaysia, just like any other country, will not see further disruptions like the ones we observed last year.

       This will enable the Malaysian economic momentum to continue from what has been built up since October last year, as the economic sectors have been fully opened up from disruptive closures experienced during the various National Recovery Plan phases.

       Economy-wise, the growth expectations are not too far-fetched for Malaysia to achieve this year, but there will be challenges in meeting the projections.

       Some of them are beyond the control of the government, while others depend on how it is able to chart the path to full recovery and bring the economy back to the pre-pandemic level.

       Summarised below are five key domestic elements that will dictate the market’s direction.

       It is all about politics

       While Malaysians, in general, are rather tired of the domestic political landscape, the politicians don’t seem to be tired of it at all.

       From the unscheduled Melaka state elections last year and the Sabah state polls the year before, politicians from both sides of the divide have caused significant damage to the nation’s growth trajectory and policymaking.

       While the 15th General Election (GE15) is not due until mid-2023, the drums are already beating among certain factions within the government to call for early elections and sort of settle the score, for once and for all, as to who will run the federal government.

       However, due to the fragmented nature of the current political scenario, it is unlikely that a clear winner with majority control of the lower house of Parliament can be achieved, and in all likelihood, it will be back to political horse-trading.

       The government of the day needs to put the house in order and one of the first things that needs to be addressed is introducing the anti-hopping law, which will prevent the mandate given by the people to be taken away due to the political expediency of certain quarters.

       Malaysia needs political stability, the one that we used to experience before GE14, to enable the market and investors to gain confidence in the government’s ability to not only manage the economy but to chart our future.

       Otherwise, due to political factors, Malaysia risks being left behind not only by our neighbours, but more importantly, leaving us poorer.

       It is likely that GE15 will be called this year as there are increasing signs that the so-called memorandum of understanding between the Prime Minister and the Opposition, led by leaders of Pakatan Harapan (PH), will run its scheduled course up to the middle of this year.

       It is hoped that if GE15 is called, political parties are able to align themselves clearly between the sitting government and the Opposition to ensure clear straight fights for all Parliamentary seats.

       In this way, the votes will not be split and voters will have clear choices and one that will see the emergence of a stable government. Let us do this as multiple-cornered fights will be our deathbed.

       For political parties, it is time to compromise and align yourself either as part of the government or the Opposition.

       There are no two ways about it as a divided political front will lead to a divided Malaysia.

       The outcome of GE15 will have an impact on markets and its near-term direction as we can see how the market had perceived the handling of the economy under three separate governments since GE14.

       In terms of timing, GE15 will likely be called much earlier than expected and a June-July window is seen as an opportune time, right after the Hari Raya festivities in early May.

       Forget about earnings

       With the prosperity tax that was announced in Budget 2022, the market has more or less priced in this expectation that earnings for the year will likely be a washout as companies with chargeable income in excess of RM100mil will be imposed an additional 9% tax rate on top of the statutory rate of 24%.

       As markets tend to look at least 12 months ahead in terms of expectations, the sooner investors begin to factor in the financial year 2023 earnings expectations, the better it would be for the market as the earnings momentum will then normalise without the imposition of the additional tax rate.

       Hence, as we progress into the year, market valuation, at least as far as the price-earnings method is concerned, will likely price in the 2023 earnings from the second half of 2022 onwards.

       This is where investors will find value among Malaysian listed companies, especially with respect to large corporations and in particular the 30-stock FBM KLCI and selected larger non-index stocks.

       Rate hikes are imminent

       As the United States Federal Reserve (Fed) is expected to raise rates three times this year, it is likely that emerging market economies will have no choice but to follow suit, not only due to the rate differential with the US, but also to curtail the expected inflationary pressure as well as the likelihood of the economic growth returning to a normalised level.

       For Bank Negara, it had reduced the benchmark overnight policy rate (OPR) by as much as 125 basis points (bps) since the emergence of the pandemic in early 2020.

       While it is not expected to be aggressive in normalising rates, the market does expect rate hikes to be on the cards this year with expectations of between one and two rate hikes of 25bps each.

       This will take the OPR to between 2% and 2.25% by the end of the year, which is still well below the pre-pandemic level of 3%.

       Rate hikes which are still supportive of economic conditions are not necessarily bad, as higher rates will see banks enjoying better interest margins while companies in net cash positions and depositors will enjoy higher investment returns.

       Maintaining fiscal discipline

       With the 65% self-imposed statutory debt-to-gross domestic product (GDP) ratio passed last year, Malaysia needs to ensure that it maintains its fiscal discipline this year.

       Malaysia cannot afford to be wasteful in implementing various projects.

       At the same time, it will have to ensure the projected nominal GDP growth for the year remains well within the expected trajectory.

       The tabling of the Fiscal Responsibility Act (FRA) some time this year is seen as a crucial step in implementing this discipline as well as the introduction of the Medium-Term Revenue Strategy (MTRS), which will chart Malaysia’s very much-needed tax reform.

       As it is and widely recognised, Malaysia lacks a cohesive taxation system and introduction of new taxes, whether it is a wealth tax, inheritance tax, capital gains tax, or even a value-added tax.

       With new tax reforms, the government can chart a better Malaysia in terms of managing its finances with a lower budget deficit as well as at least maintaining our international credit rating.

       ESG theme to dominate

       One cannot deny how the environment, social and governance (ESG) theme dominated investors’ risk appetite towards companies in 2021 and this is likely to continue into this year but from a different perspective.

       While 2021 was a year when companies were punished for what is seen as violating ESG best practices, this year will be a year where corporates put their foot down and embrace the ESG theme in a big way.

       This includes not only social factors like human rights issues or forced labour practices but also issues related to governance and climate change.

       Malaysian corporates have been stepping up their ESG adoption practices and it is foreseen that companies will spend time and money to correct what was previously judged as bad practices and to embrace ESG best practices.

       With this, companies will be rewarded in terms of valuation benchmarks and more and more companies are also foreseen to be included in the FTSE4Good Bursa Malaysia Index.

       In conclusion, the year 2022 will be a year of two halves.

       Not just due to the political temperature, which will likely be lowered after GE15, but as investors begin to price in the 2023 earnings growth in the second half of the year.

       Rate hikes will likely follow the path taken by not only the Fed but perhaps to a large extent domestic considerations.

       The surprise for the market will be the re-rating of Malaysia if we are able to introduce a comprehensive MTRS as well as corporate Malaysia stepping up on ESG practices. That would be a game-changer.

       Pankaj C Kumar is a long-time investment analyst. The views expressed here are the writer’s own.