Taiwan Strategy:TAIEX…back in the danger zone

Foreigners continued investing in Taiwan in February, driving the index to9800 (ended up 3.2% for the month, in line with the region) and the NT$ upanother 2.7% (to its highest level since May 2015).

Why are we in the danger zone? The TAIEX has peaked at or above 9800four times this century. The first time was on February 17, 2000 (10,202), butended that year 54% off its peak. The second time was on October 29, 20079810), but pulled back 23% within 3 months. The third time was on April 27,2015 (9973), but pulled back 26% within four months. The most recent was onFebruary 15, 2017 (9800)…What is so good? Despite the recent strength, the market is only trading at<14x consensus estimates for 2017 (on expected 11% EPS growth) which isat a discount to its 7-year average of 16x+. Also, two key drivers for techshares: 1) after the negative iPhone unit growth in 2016, we are expecting astronger iPhone cycle this year, and 2) we are forecasting globalsemiconductor growth of 9% in 2017 after two years of flat growth.

Our TAIEX target for 2017 is 9500 (1.7x P/B – equating to 13.4x consensusearnings). Key risks globally are potential demand shock brought on byweakening (and/or volatile) EM currencies and higher component costs. Keyrisks for Taiwan specifically are politically focused (relationship with / highproduction exposure base in China). Although a weaker US$ YTD (NT$ up5% YTD) lessens the risk for a global demand shock (majority of costs inUS$, but are sold in multiple currencies), however, if the NT$ remains strong,consensus estimates for Taiwan companies are at risk.