For many Malaysians, the latest annual budget unveiled by the government last month was a sobering reality check on the state of the national economy.

Instead of receiving the usual goodies, Malaysians learnt instead that they will have to live with a new 6 per cent goods and services tax (GST) from April next year and a cut in fuel subsidies, which means pricier petrol.

These tough measures were among a slate of reforms the government has unveiled, aimed at cutting the country's fiscal deficit and bringing down its debt.

For Singaporeans with exposure to Malaysian investments, this may be a good time to think about how these moves will affect the Malaysian economy and financial markets.

Economic outlook

First things first: Many economists believe the contractionary fiscal policies that the Malaysian government plans to adopt will lead to slower economic growth.

The introduction of the GST, coupled with a cut in subsidies and cash assistance, will likely dampen consumption. The government also plans to rein in its own spending.

At the same time, Malaysia faces headwinds from sluggish global trade and soft commodity prices, notes Royal Bank of Scotland economist Sanjay Mathur.

"The fiscal consolidation is likely to inflict economic pain and to an extent has been recognised in the economic projections," he says in a recent report.

"The growth forecast corridor for 2015 is 5 to 6 per cent - moderately lower than the 5.5 to 6 per cent for 2014. Underlying the forecast is an assumed moderation in private consumption."

Exports are forecast to rise only 3.2 per cent next year, only around half the level likely to be attained this year, Mathur adds.

UBS Wealth Management chief investment officer for southern Asia-Pacific, Kelvin Tay, agrees.

He notes that although Malaysia's real gross domestic product growth in the first half of this year beat expectations, the data for the second half might moderate owing to sharply lower commodity prices.

"If commodity prices remain soft, commodity-related exports which account for 35 per cent of Malaysia's total exports are likely to moderate," he says.

"Malaysia is the biggest loser in Asia from lower global commodity prices. Being the only net exporter of oil in Asia, Malaysia stands to lose valuable revenue not just from lower global oil prices but also from weaker oil palm prices - two of its biggest commodity exports."

According to estimates, a US$10 decline in US benchmark West Texas Intermediate crude oil prices will likely result in a  250 ringgit (US$75.61) -per-tonne decline in palm oil prices, Tay notes.

Unlike the rest of Asia which stands to gain from lower inflationary pressure brought about by lower commodity prices, Malaysia is likely to experience higher inflation next year

The government's plan to slash subsidies and introduce the GST will likely push inflation above 4 per cent, Tay says.

Higher inflation and the possibility of a further interest rate hike by Central Bank will likely drive the ringgit's movement over the next six months, says Phillip Futures analyst Howie Lee.

"If inflation proves to be stubborn and refuses to ease, we will expect the ringgit to climb against the Singapore dollar on expectations of further rate hikes," he says.

Stock market outlook

Expert views are more mixed when it comes to the outlook for Malaysia's stock market.

Lee, for one, believes that the government's new policies are steps in the right direction. While initially painful for the economy, they will be good for Malaysia in the long run, he says.

And so, "we would seek to buy Malaysian stocks on dips", he says.

"The opportunity to buy on lows may present itself next year should the US Federal Reserve hike rates and cause a sell-off in global equities."

However, UBS' Tay takes a less upbeat view, saying that he expects the MSCI Malaysia Index to continue underperforming, given its unattractive valuations and negative earnings revision trends.

"Malaysian corporate earnings have been cut by an average of 2 per cent since the start of the year, with market consensus earnings growth for Malaysia at 8.5 per cent for 2014 compared to 11 per cent for Asia excluding Japan," he notes.

Malaysian stocks are also more expensive than their regional peers, he notes.

They are trading at 15.2 times forward price-to-earnings.

This means that, on average, Malaysian stocks are priced 15.2 times the firm's expected earnings per share over the next 12 months.

In comparison, the rest of the region is trading at just 11 times forward price-to-earnings, Tay says.

DBS Group Research is similarly pessimistic about the market, saying in a report early last month that corporate earnings are unlikely to excite in the near term, given inflationary pressure and dampened consumer sentiment.

CIMB Research, however, says in a report on Oct 16 that a recent selldown in the Malaysian market, driven by volatility on Wall Street, has thrown up significant value in terms of buying opportunities, particularly among smaller capitalised stocks.

Sectors and stocks to buy into

Domestic demand is still the main driver for Malaysia's economy, notes Phillip Futures' Lee, with private investment leading economic growth.

"Malaysia is seeking to be a medical and education hub, while there are also plans to support the telecommunications sector through infrastructure upgrading," he adds.

"For these reasons, we will choose the health-care, consumer non-cyclicals and telecommunications sectors as our top picks for 2015."

Standard Chartered Bank investment strategist Audrey Goh prefers the utilities sector, saying she believes it will benefit from higher tariffs driven by the government's plan to raise revenue.

Maybank Kim Eng Research is optimistic about Malaysia's construction and oil and gas sectors.

The research team says in a recent report that it expects infrastructure construction and Malaysian national oil and gas firm Petronas' committed capital expenditure to continue, which will drive jobs momentum in these industries.

"We maintain our top 'buy' list with Tenaga Nasional being our top pick. In addition, we see values emerging in the oil and gas stocks led by Bumi Armada, with catalysts being strong, steady earnings growth from three new jobs," the brokerage says.

"We continue to like Perdana Petroleum whose brownfield exposure insulates its business from oil price volatility."

Bank of Singapore's executive director for equities research, Camilia Goh, agrees, but notes that oil and gas stocks are "for more aggressive investors".

"Following the sharp share price correction in oil and gas stocks on the back of oil price weakness, we highlight SapuraKencana Petroleum for consideration."

SapuraKencana is one of the largest integrated oil and gas companies in Malaysia with a strong order book providing earnings visibility, she notes.

"Its recent share price weakness offers an attractive risk-reward ratio, given our base view that the decline in oil price has been excessive."

Bank of Singapore also likes infrastructure stocks such as YTL Corporation and Gamuda, given that the government laid out plans in the budget to continue with infrastructure investments.

UOB Asset Management's Asean equities investment analyst, Wang Hoi Min, agrees.

"We continue to see a strong pipeline of projects, including nine public transport and highway infrastructure projects worth 76 billion ringgit  that were announced in the recent 2015 budget.

"The unrealised investments of 179.7 billion ringgit under the Economic Transformation Programme are also set to boost the sector."

Some analysts also picked out a few stocks for their good value.

Inari, an electronics manufacturing services firm, offers "a compelling entry to a high-growth stock", Maybank Kim Eng says in its report.

"We project a three-year earnings compounded annual growth rate of 61 per cent, with fundamentals riding solid on stronger orders from Avago to meet record demand for new smartphone launches."

Another Maybank Kim Eng stock pick is Genting Malaysia.

The gaming firm's outlook is improving, the brokerage notes, with catalysts being the Genting Integrated Tourism Plan with new hotel rooms opening next year and a potential casino win in the United States.

Bank of Singapore, meanwhile, likes AirAsia, whose share price has dropped amid capacity concerns.

"Expectations of rational pricing in the industry and ongoing yield recovery add to the company's earnings growth prospects," says Goh.