J.P. Morgan turns bullish on Macau as risks are priced in

Hong kong stock exchange

The risk/reward potential for investors is Macau’s six casino operators is now skewed to the upside, says J.P. Morgan, which has turned “incrementally bullish,” on the sector.

The analysts said they have upgraded Sands China, Wynn Macau and MGM China to overweight from neutral, with Sands and Galaxy Entertainment as its top picks.

The analysts, who in September called the market uninvestable after the publication of proposed amendments to Macau’s gaming law, said they now see the risks as being fully priced into the stocks.

The proposals, which included potential restrictions on capital distribution, triggered a record one-day drop in the Macau operator shares, wiping more than $18 billion off their market value.

“Recent bad news (e.g. HK SAR outbreak, China Omicron cases, delays in travel bubble) do not seem to move stocks anymore, we see these as testament to low (to no) investor expectations and positioning.”

The firm said investors seem reluctant to bottom fish despite the stocks being some 60 percent down from their levels at the beginning of last year due to concern about license risk, the VIP sector and higher taxes.

It said it believes the level of concern is unnecessarily high and that signs from the government after the recent public consultation process on the gaming law indicate that major disruptions, such as license loss, are unlikely. 

In its modelling, J.P. Morgan has assumed zero junket revenue and said the impact of the loss of the higher rollers isn’t meaningful. There also appears to be little spillover into the premium mass and direct VIP business, where demand remains strong.

The normalization of travel, given China’s zero Covid strategy, is harder to predict, but is still a short-term problem that long-term investors should be able to look beyond. 

J.P. Morgan said its base case forecast is to assume that same-store EBITDA only recovers to some 70 to 80 percent of pre-Covid levels and said it sees these as conservative assumptions. However, its price targets imply more than 30 percent upside from current levels, especially for investors able to hold their stocks for more than a year. 

It said at the current stock levels, investors seem to be assuming a bear case scenario that earnings will be permanently impaired by about 20 to 30 percent and that multiples are de-rated to 8 to 10x, which it said is overly pessimistic.