The author is Macquarie Equities Research
Investors are asking us at what point the multiple expansion in Macau gaming stocks stops. We think that one critical factor which will continue to drive share prices of Macau names above fundamental valuations is the tight free float.
If we add onto this the historical surprise in growth rates, the strong thematic of Macau gaming and difficulty to forecast, it makes for the perfect concoction to support rich valuations.
Until valuation frameworks are tested, or growth rates wane, both of which are unlikely in the next 12 months, share prices would creep higher. SJM and MPEL are the two operators where we see significant upside to fundamental valuations.
The biggest difference between Macau and other consumer sectors is that it operates under a concession. However, this can (for now) be sidestepped.
On the other hand, the surprise history of Macau’s growth rate and the structural positives to the industry (together with difficulty in forecasting) gives investors the opportunity to see stocks as being "cheap" on long term growth forecasts that are difficult to assess as being realistic or not.
We don’t see this changing in the near term until something shakes up the sector.
The main risk to the valuation framework is incorporation of the concession renewals – which we don’t think many investors are taking into account. The other risk is around growth rates which could come off depending on how much Macau has penetrated China’s "first timers" penchant for gambling.
However, neither of these risks will transpire in the next 12 months. Against this backdrop, we think that valuations in the Macau gaming sector will continue to grind higher and well past their fundamentals.
Given the under-ownership we think that every correction provides an opportunity for fresh investors to either enter or build a position into an exciting emerging market consumer thematic.
However, what is a positive can also turn negative as tight free float can often turn into an overhang.
(The article has been edited for clarity)