Danareksa Sekuritas Market Outlook 2011 roadmap

New index target set at 4,100
The market has shown strong performance in 2010, with the JCI up 41.3% YTD, at a 14.9x 12-mth forward PER, thanks to strong earnings growth amidst brisk economic expansion. Indeed, our economic cycle is still at an early phase of a 7-year cycle, meaning strong earnings growth to come. We now set our FY11E index target at 4,100, based on a bottom-up approach, implying 16.3x 2011 PER. Our conviction is supported by continuation of benign inflation and therefore record low interest rates, sustainable earnings growth of 24.8% and an upsurge in FDI-led investment growth. Our estimate of 2011 GDP growth remains at 6.4%, buoyed by robust investment aside from the higher consumption growth. Bank lending has been supportive as well, with loans growth likely to reach 18.6% next year. Upside is from a potential upgrade in the sovereign rating and realization of infrastructure projects, while downside risks are potential global economic slowdown and a
sudden upsurge in inflation.

The macro outlook looks rosy
While inflation carries a big risk to our economy, the recent years of economic expansion have tended to insulate consumers from rising costs. We estimate inflation to rise to 6.2% by YE11, not a big jump from the current year’s 6.0%, although we may see some upward pressure mid-year. The BI rate is likely to be kept at 6.5% - that’s assuming BI’s inflation-targeting policy still stands. Continuity in food supplies – specifically rice, is one of the big risks, we believe, given a lack of infrastructure. Yet market operations and the likelihood the government doesn’t obstruct imports may ease demand-pull inflation. Concerns over the growing base money (M0), and therefore potentially higher inflation, appear to be unfounded, as well. This is especially true given the brisk rate of GDP growth. Besides, one needs to consider the unused government account in BI
amounting to Rp169trn as of October.

So, what may derail our inflation forecast? Well, food supply issues aside, efforts to reduce the consumption of subsidized fuel is a challenge. Only recently, the nation’s parliament approved a long-awaited measure curbing fuel subsidies. By the end of March next year, subsidized fuel shall only be available for public transport vehicles and motorcycles. As a result, inflation is likely to increase by 0.3%, not much, we think; although that’s assuming that only private cars are prohibited from using subsidized fuel.

Investment driven growth
The key theme for economic expansion remains investment growth and government spending. So far, FDI has increased by 27.5% YoY to about US$11.9bn and by 43.6% for domestic investment. Despite the economic expansion, production utilization is relatively unchanged, which in a way suggests that demand has kept pace with the investment growth. What remains a bottleneck to our economy is realization of infrastructure projects, although around US$47bn are expected to be tendered over the next 5 years. Next year, investment growth should reach a strong 12.9% - after a good start this year. Much will hinge on the ability of banks to lend aggressively. Thus far, lending has been robust, and as the economy continues to expand, loans growth is expected to stay above 15% p.a.