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Friday, May 31, 2013

Are You Investing In The Right Trust?

by Ong Qiuying and Choo Hao Xiang 31/05/13 7:00 pm

The hunt for yield has spurred a bull market in Singapore-listed trusts. While trusts have generally been perceived to be stable yield plays, share price performances of business trusts had not able to keep pace with that of its other akin investment vehicle – real estate investment trust. Are investors of such trust in danger of being left behind?

Roughly one decade into the introduction of the first trust, numerous trusts have found their way onto the Singapore Exchange. Looking at the past 12 months, trusts made up a quarter of 23 new listings on the local bourse.

The intriguing fact about these new trust listings is that majority is in the form of a business trust structure. Despite the lacklustre performance of business trusts since listing, investors’ enthusiasm has not faded as seen in the recent public tranche offered by Croesus Retail Trust that was 48.8 times subscribed.

Are All Trusts The Same?
Established for the purpose of acquiring properties, business trusts and real estate investment trusts (REITs) are essentially cash-generating assets. The vehicle, which is created by trust deed, provides investors the chance to own a portion of the trust’s assets, be it infrastructure assets or retail malls, which would otherwise be inaccessible to retail investors.

The reason behind such a setup instead of a company lies in the capital intensive nature of the business and the expertise required to manage the assets. It also allows companies which pump assets into the trust to realise their investments and obtain recurring income such as management fees concurrently.

Another similar feature is the investment return. Apart from capital appreciation, returns from such investments would typically be accompanied by regular distributions. Unlike a company, these distributions are derived from cash flows rather than accounting profits.

Despite the similarities, business trusts are structurally different from REITs, which can be seen in the table below. Because of these differences, REITs and business trusts can have very different levels of risks.

To put the case in point, the gearing of a business trust can go beyond 100 percent. For both business trust and REIT that provide similar returns, a REIT with a gearing limit of 35 percent would be of a lower risk. Nonetheless, a high gearing level is not necessarily bad as the trust could expand much faster with more readily available funds. However, a business trust may also surprise their unitholders with changes to their payout in times of difficulties as it does not have a minimum payout policy like the REITs. Hence, it ultimately boils down to the risk tolerance of the investor and the individual’s investment goals.

So, REIT Or Business Trust?
 This is perhaps the biggest question hanging over our heads. With yield plays the hot favourite in this low interest rate and high liquidity environment, much of the attention have been on REITs instead of the lesser known business trusts. It is not difficult to wonder why, given the REITs’ outstanding performance and business trusts’ lacklustre showing thus far. From the start of this year till 23 May, REITs recorded an average of 11.8 percent gains in share price while business trusts averaged 4.3 percent and stapled securities at 2.2 percent.

However, as newly-listed business trust Croesus Retail Trust cruised to post double-digit gains on its debut, one has got to wonder if the tide has turned for business trusts that were once surrounded by skepticism.

Performance Table On Business Trusts And REITs

Source: Compiled from information on the Singapore Exchange
*Yield for the period from company’s listing to its financial year end
 Average computation excludes newly listed trusts in 2012 and 2013

Notably, there are also instances where business trusts outperform the REITs. To be specific, we take a closer look into Perennial China Retail Trust (PCRT) and CapitaRetail China Trust (CRCT), which are both operating in the China retail market. PCRT has recorded price gains of 6.2 percent as at 23 May and a dividend yield of 6.4 percent while CRCT’s shares have fallen by 3 percent over the same period with dividend yield of close to 6 percent. In this comparison, the outperformance by PCRT may be attributed to investors factoring in the potential growth PCRT have as it undertakes development properties while existing development properties turn income-producing.

That said, one noteworthy point is that the performance of a trust is largely dependent on its underlying business, quality of assets and operating business environment. Making references from the performance table, we can see the varying share price performances within business trusts that are grouped under real estate related and non-real estate related. The business trusts that are real estate related beat those that are non-real estate related hands down with a capital gain of 6.9 percent compared to 2.5 percent for the latter.

If you take a closer look at the trusts listed under the non-real estate related segment, you would also realise that they can be broadly classified as defensive or cyclical assets. And that is where a pattern emerges. Defensive stocks that are backed by infrastructure or healthcare assets are faring well while the same cannot be said about cyclical stocks. With the exception of Hutchison Port Holdings Trust, shipping trusts sank into negative territories, albeit the impact were mitigated by decent yields.

In addition to this distinctive classification, investors should recognise that the capital structure as well as business strategy employed play a huge part in determining whether expansion is an aim for the trust in the interim.

With that in mind, it pays to understand what each trust offer in terms of growth and yield. While the wider range of assets a business trust can hold may leave investors spoilt for choice, the need to take a selective approach still stands.

Tuesday, May 28, 2013

S-REIT: Are We Blinded By Yield?

by Raymond Leung and Simon Ang 28/05/13 12:30 pm

In this low interest environment, investors have been actively seeking yield through investments in dividend paying stocks and REITs. However, the recent sell-off of Keppel REIT by Keppel Corp have sparked the question: Are we overpaying for S-REITs?

Sale Of K-Reit Stake
 In the past week, the sale of Keppel Reit (K-Reit) by Keppel Corporation to Goldman Sachs has sparked the discussion of the overvaluation of S-REITs. This, the result of buying behaviour exhibited by investors chasing yield. This is the second divestment of K-Reit by Keppel Corp this year following the sale of stake through a placement to unknown buyers arranged by Barclays Bank.

Goldman Sach purchased 180 million units at $1.555 apiece which is a 6.7 percent stake in Keppel-REIT from Keppel Corp. The placement price of $1.555 was a 3.1 percent discount to the market price of $1.605 on the day the announcement was made. Based on the placement price of $1.555 and the dividend of $0.0777 per share paid to investors for FY2012, the implied yield for Goldman Sachs on K-Reit will be 5 percent compared to 4.84 percent retail investors based on the price of $1.605.

Liquidity And Chasing Yield
 In the current low-interest environment with Singapore Government 10-year bonds yielding only 1.6 percent, investors in Singapore have been actively seeking yield from the market thus boosting liquidity. With such ample liquidity, Singapore has been attracting initial public offerings (IPOs) of various REITs and Business Trusts (BT) for IPOs.

This year alone, we saw the IPO of Mapletree Greater China Commercial Trust (REIT), Croesus Retail Trust (BT) and Asian Pay Television Trust (BT). Despite the large issues from these IPOs, more REIT IPOs are on the way.

Speculation is rife that companies such as SPH, OUE, Hoo Bee and Banyan Tree are looking to spin off assets to form the basis of REITs which will then list on the Singapore Exchange. A recent update from SPH mentioned that it expects to raise about $540 million from an asset spin-off (Paragon and the Clementi Mall) into a REIT. The IPO of this REIT is expected to be in early July.

Despite having new IPOs of REITs and BTs, there is still ample liquidity in the market which has led to the compression of yields of REITs. The compression was mainly attributed to the higher prices of REITs which have lead S-REITs to trade at an average of 1.24 times Price-to-Book based on reports by OCBC Investment Research.

K-REIT – Value Affirmation?
 Looking back at K-REIT, the fact that it is able to attract institutional investors like Goldman Sachs can be viewed as value affirmation and a positive outlook to S-REITs.

K-Reit currently owns the highest-quality office portfolio among office Singapore Office REITs including prime office buildings such as Ocean Financial Centre, One Raffles Quay and Marina Bay Financial Centre Towers 1 and 2 which makes up 80 percent of its portfolio by net leasable area.

With its prime portfolio, K-REIT attracted major investors such as Temasek Holdings and Capital Group which owns a 2.8 and 1.33 percent stake in Keppel-REIT respectively. This affirms the value of K-Reit and its prospect but at the same time proves the point that it seems to be be currently overvalued by investors.

Source: FactSet, table on K-REIT’s brokers’ recommendations

Investing in a Low Yield Environment
 When investing in REITs, it is important to consider the sponsor of the REITs, this particularly so after lessons learnt from the Lehman crisis. REITs with strong sponsors such as Mapletree Logistics Trust weathered through Lehman crisis despite the credit crunch. While REITs with weak sponsors such as MacarthurCook Industrial REIT(now known as AIMS AMP Capital Industrial Reit) almost went bust.

Source: FactSet. chart comparing the returns of AIMS AMP Capital Industrial REIT and Mapletree Logistics Trust (5 year horizon)

Bond ratings of a REIT is another factor to look at as it plays a huge role in the ability and cost for financing in REITs. Bond ratings and borrowing costs have an inverse relationship which means that the higher the credit rating of the company, the lower the cost of financing.

It is also favourable for REITs to obtain investment grade ratings as institutional investors like insurance companies have been constantly seeking for such bonds since the Lehman crisis as stricter risk mandates have kicked in. Having insurance companies as holders of the bonds are favourable as they tend to buy and hold to maturity which will bring stability to bond prices.

To sum up all the points, no matter how good the quality of the investment is, it will not be a good investment if you overpay.

Investors need to be prudent in picking the REITs not only in the quality of the assets but also the cost of investment. If Goldman Sachs is receiving 5 percent yield, why should retail investors settle for less?

Monday, May 27, 2013

Head-scratching over greenback’s rise

Goh Eng Yeow

IT USED to be a simple no-brainer strategy: You can win big-time if you make a wager that stock prices will go up each time the US dollar turns wobbly.

So it comes as a surprise to find that the global stock market rally is still in full swing, even though the greenback has been strengthening of late.

Since September, the US dollar has jumped 32 per cent against the yen and about 3 per cent against the yuan. In the same period, it has also rallied 3.4 per cent against the Singapore dollar, with about three-quarters of that rise occurring in the last two weeks.

To many people, this does not make sense. There is no reason for the greenback to rally, given the determination of the United States central bank to expand the money supply by buying US$85 billion (S$107.5 billion) of US government bonds and mortgage securities every month.

In theory, that should depress the value of the dollar, since there is a lot more of it in circulation. And this was what happened in 2009 and 2010 during the US' previous two rounds of quantitative easing (QE), as its money-printing process is described.

On both occasions, investors had been so fearful of the inflation that QE might spawn that they fled to "safer" assets such as gold. Their rationale was simple: Unlike fiat money whose supply can be expanded simply by printing more of it, one cannot conjure up more gold than what is available in the form of gold bars or jewellery, or remaining in the ground to be mined.

So there appears to be a big contradiction with the latest QE. More and more US dollars are being printed, yet the greenback's value appreciates against other currencies. And while there is no sharp increase in the supply of gold, its price has crashed about 22 per cent in US-dollar terms in the past six months.

Another puzzle needs to be explained. Even though the US dollar is up, Wall Street is still partying away. Since January, the Dow Jones Industrial Average has jumped by 17.2 per cent.

One possible explanation for the strengthening US dollar could be the sheer abundance of shale gas in the United States which is dampening energy prices in a big way. In the past nine months, Brent crude had tumbled by 11.4 per cent.

That may have allowed the US Federal Reserve to get away with its manic money-printing programme for now, as lower energy costs keep the lid on inflationary pressures.

In its semi-annual report recently, the International Energy Agency predicted that the rising US shale oil production would help to meet most of the world's rise in oil demand for the next five years.

That would leave Opec with little room to lift production without risking a big drop in oil prices, or ask for a higher price in US-dollar terms since alternative US supplies would be available to make up the shortfall.

The US external trade balance can only get better if US oil producers get the go-ahead to export the black stuff - all very good news for the greenback.

As the US is less dependent on exports than many major economies, it may actually benefit from a stronger currency.

As the US dollar strengthens and Opec loses its pricing clout, that can only mean bad news for gold - the traditional hedge against inflation.

That should give the Fed more leeway to print money to keep borrowing costs extremely low to spur the still weak US consumer demand without stoking inflation in a big way.

What should investors do? If this argument holds true, the US stock market may prove to be attractive, as the US benefits from a stronger currency and US manufacturing enjoys a renaissance with cheap shale gas lowering production costs.

The flip side of the strengthening dollar is a weakening yen.

It does not take a financial expert to explain why a falling yen is good for the Tokyo stock market, as it spells strong profits for Japanese firms.

Toyota Motor, for example, had estimated that every one-yen swing against the US dollar would produce US$397 million in extra profits for the company.

Since Japanese Premier Shinzo Abe demanded a much more aggressive monetary policy, following his electoral victory last December, the Nikkei-225 index has behaved like it is on steroids as it climbs 48 per cent in just six months, as the yen plummets.

For Asian markets, there is the prospect of history repeating itself once again, as borrowing in yen becomes fashionable again and Japanese money floods the region once again in search of higher returns.

One decade ago, the yen carry trade - the description for the massive yen loans taken out by traders and speculators because of Japan's low interest rates to buy higher-yielding assets - was the single most powerful driver propelling South-east Asian markets higher. That day may yet return.

Sunday, May 26, 2013

Sleepless in Singapore no more

Published on May 26, 2013
By Kezia Toh

Black-out curtains, warm milk before bed and lavender-scented pillows. For years, insomniacs in Singapore have been tossing and turning out ways to slip into a dreamy snoozefest.

A recent editorial in the Annals, a journal by the Singapore Academy of Medicine, found that one in three people here is getting so little sleep that it is affecting their health. It said that people who do not sleep enough are more likely to become obese and suffer from diabetes and heart problems.

SundayLife! asks a range of experts, including sleep doctors, traditional Chinese medicine physicians and aromatherapists, for tips to make falling asleep easier.

Keep hands and feet warm
Wear mittens, gloves and socks to "trick" the mind and body for better sleep, says Dr Shirish Johari, 43, a senior resident physician at Tan Tock Seng Hospital's Sleep Disorder Clinic.

Studies have shown that keeping your hands and feet warm dilates blood vessels in those parts, which cools the blood as it flows through the open channels near the skin's surface, lowering your body temperature and making sleep come easier.

Cool your room
Sleep at a temperature which is comfortable for you, says Dr Shirish. Though it differs from person to person, the ideal range is between 20 and 22 deg C. A cooler room tricks your body into lowering its temperature, a pre-requisite for deep sleep.

Hide the clock
Avoid the temptation to watch the clock if you cannot sleep, says Dr Ong Thun How, director of the Sleep Disorders Unit at Singapore General Hospital.

"If you lie down and stare at the clock while trying to fall asleep, you are inadvertently stressing yourself by trying to meet a 'deadline'."

Turn your clock towards the wall while you sleep to avoid sneaking peeks at it and turn it back around in the morning to check the time.

No electronics allowed
Keep mobile phones, television sets, laptops and iPads away from your haven of sleep. If these are in your room, switch them off.

While there is no scientific evidence that the wavelengths from electronic devices affects sleep, turning off mobile phones removes the "subtle stress" of the need to stay connected, says Dr Shirish.
A bedroom "only for sleep" may be difficult to achieve, says Dr Ong, as many Singaporeans live in crowded living spaces, which may not be sleep-conducive.

Leave your bed
If you lie awake in bed for 30 minutes or so, get up to do something else. A sedate activity such as reading is good, but avoid doing it in bed.

Make sure you are in a different part of the bedroom or in a different room, says Dr Shirish. This conditions the body to sleep when you fall into bed.

Return to bed only when you feel sleepy. Strangely, trying to stay awake rather than trying to fall asleep can do the trick. He says: "In what is known as 'paradoxical intention', the mind that focuses on being awake will relax sooner than the mind that is struggling to fall asleep."

Two-hour wind down
To relax the mind and body, dedicate a winding-down period to prep for a good snooze, says Dr Ong. She says: "The mind is not an engine that can be turned off at will and when you are tensed up after a hectic day, the body is still pumped full of stress hormones like adrenaline."

Doctors advise a two-hour wind-down period - have a hot shower, a massage or practice muscle relaxation techniques, or listen to new-age music.

Avoid studying, office work, cyber- gaming, television or housework during this period, says Dr Sridhar Venkateswaran, 43, assistant director of Changi General Hospital's Integrated Sleep Service. It sees about 120 patients with sleep disorders a week, an increase from previous years.

Smell sleep
An aromatherapy burner to diffuse fumes from essential oils of lavender, mandarin, rose and chamomile can do wonders, says Ms Julie Lew, 52, manager of aromatherapy brand Perfect Potion.
A cheaper option is to drip one or two drops on a tissue and slip it into your pillowcase so that you can smell it while you sleep. A scent pillow or satchet may not be a good idea as it could grow mould in about three months, she adds.

Cedarwood, ylang ylang and patchouli could also work, says aromatherapist Sheeba Majmudar, 39, from health and wellness centre Verita. You can apply a drop behind each ear or use a timed diffuser, which will automatically switch off when you fall asleep, she says.

TCM methods
Cook a sweet dessert of lily bulb, lotus seed, red dates and longan - about 30g of each - and drink it two hours before sleep, says TCM physician Lim Lay Beng, 50, of YS Healthcare TCM Clinic.
These ingredients clear the "heart fire" which prevents sound sleep.

To calm the nerves, drink half a glass of warm milk. However, avoid drinking Milo, says Ms Lim.
"I usually do not encourage patients to drink this as it contains cocoa and can wake up the brain," she adds.

She also recommends a 30-minute warm foot bath an hour before bedtime - dip your feet in warm water mixed with about 30ml of rice wine or vinegar, which helps the blood to circulate.

Sleepless in Singapore

Published on May 26, 2013

Many Singaporeans are not getting enough sleep and they are generally unaware of the serious ill-effects of the poor habit. One in three people are getting so little sleep it is affecting their health, according to a recent editorial in the Annals, a journal by the Singapore Academy of Medicine.

A Straits Times street poll of 140 people found that most of them were ignorant of the finding that insufficient sleep can lead to obesity, diabetes and heart diseases. Experts have also pointed out that long-term sleep deprivation can cause damage to memory and cognitive functions.

It is easy to blame the problem on the long hours at work. But lack of sleep causes poor concentration, which leads to a vicious cycle of spending more time on a task and hence working longer hours. The lack of concentration also increases the risk of transport and industrial accidents by one and a half to two times, according to the Annals.

Corporate managers should set an example by not staying late in the office when there is no need to. They should let their staff know that working long hours in the office does not make them better workers. Instead, it might indicate that they may not be as organised in their work as they should.

Many people also stay up late into the night to engage in social media. They have developed a habit of checking Facebook, Twitter and e-mail and surfing the Net. This is especially so among the young. Parents should set a curfew on their children and be strict about it for their own good.

The Ministry of Education has given schools the leeway to start their morning sessions at eight, instead of 7.30 am. Many schools are not taking advantage of this, but keeping up old practices which require students to rise at the crack of dawn. The Health Promotion Board should launch a concerted educational campaign to promote awareness of the long-term ill-effects of insufficient sleep.

Saturday, May 25, 2013

Coming to grips with valuations

The price of stocks and their value are two different things


WHEN I was studying for my CFA exams back in early 2000s, I found Aswath Damodaran, Professor of Finance at the Stern School of Business at NYU, to be one of the most lucid authors. He made stock valuation seem to easy.

This week, Prof Damodaran was in Singapore as a speaker at the 66th CFA Institute Annual conference. His extended session was entitled "Living with Noise Valuation in the Face of Uncertainty".

He provided a lot of good reminders and pointers in his presentation that analysts and investors who are trying to do fundamental analysis will find useful.

First off, he said, the value of a stock that emerges from using a discounted cashflow model is imprecise. "But one just has to be less wrong than the market (to make money)," quipped Prof Damodaran.

For example, he valued Amazon at US$35.08 back in January 2000 while the market price for the stock was US$84. By January 2001, Amazon's share price had collapsed to US$14. He updated his analysis and found the stock to have a value of US$20.83.

In May 17, 2012, his valuation of Facebook came out to US$25.39. The Wall Street investment banks - Morgan Stanley, Goldman Sachs, among others - which took Facebook public, sold its shares at US$38 apiece. In its first two trading days, Facebook plunged 19 per cent.

Prof Damodaran said he was asked by CNBC how the investment banks could get their valuation so wrong. His answer was: "They are pricing the issue, they are not valuing the shares."

In his presentation, he reminded the audience that in intrinsic valuation you value an asset based upon its intrinsic characteristics. For cashflow, the intrinsic value will be a function of the magnitude of the expected cashflows on the asset over its lifetime and the uncertainty about receiving those cashflows.

Discounted cashflow valuation is a tool for estimating intrinsic value, where the expected value of an asset is written as the present value of the expected cashflows on the asset, with either the cashflows or the discount rate adjusted to reflect the risk.

He outlined three basic propositions for risk-adjusted value. One, if "it" does not affect the cashflow or alter risk (thus changing discount rates), "it" cannot affect value.

Two, for an asset to have value, the expected cashflows have to be positive for some time over the life of the asset. Three, assets that generate cashflows early in their life will be worth more than assets that generate cashflows later; the latter may, however, have greater growth and higher cashflows to compensate.

Here's how you ascertain the fundamental determinants of the value of a company. First determine what are the cashflows from existing assets. If you are valuing the equity, it's the cashflows after debt payments that you must look at. If you are valuing the firm, then you take cashflows before debt payments.

Second, determine what is the value added by the firm's growth assets. In valuing equity, you look at growth in equity earnings/cashflows. For firms, you look at growth in operating earnings/cashflows.
Third, determine how risky the cashflows are, from both existing assets and growth assets. For equity, it's the risk in the equity in the firm and, for firm, it's risk in the firm's operations.

Finally, determine when the firm will become mature, and the potential road blocks.

In doing all of the above, there are numerous uncertainties. First, there is the estimation versus economic uncertainty. Estimation uncertainty reflects the possibility that you could have the "wrong model" or estimated inputs incorrectly within the model. Economic uncertainty comes from real sources: the fact that markets and economies can change over time and that even the best models will fail to capture these unexpected changes.

Estimation uncertainty can be mitigated by doing your homework, collecting more data or building better models, said Prof Damodaran. But economic uncertainty is here to stay.

Next there is micro versus macro uncertainty. I think this is quite similar to the uncertainty mentioned above. But here's how Prof Damodaran defined it: Micro uncertainty refers to uncertainty about the firm you are valuing and its business model - the potential market or markets for its products, the competition it will face and the quality of its management team. Macro uncertainty reflects the reality that the firm's fortunes can be affected by changes in the macro economic environment, such as the strength of the economy, the level of interest rates and the price of risk (for equity and debt).

Micro uncertainty can be mitigated or even eliminated by diversifying across companies, but macro uncertainty will remain even in the most diversified portfolio, said Prof Damodaran.

And then there is discrete versus continuous uncertainty. Some events that you are uncertain about are discrete. So a biotechnology firm with a new drug working its way through the US Food and Drug Administration pipeline may see the drug fail at some stage of the approval process. In the same vein, a company in Venezuela or Argentina may worry about nationalisation risk.

Most uncertainties, though, are continuous. Thus changes in interest rates or economic growth occur continuously and affect value as they happen.

In valuation, we are better at dealing with continuous risks than with discrete risks, said Prof Damodaran. In fact, discount rate risk adjustment models are designed for continuous risk.
The unhealthy responses to uncertainty are paralysis and denial; resorting to mental short cuts or rules of thumb, herd behaviour and outsourcing to "experts".

Some suggestions for dealing with uncertainty are: one, keeping the forecasting simple, when trying to forecast the cashflows of a new company, take a look at the trajectory of previous similar companies. For example, Prof Damodaran modelled Facebook's growth trajectory after Google's.

Two, build in internal checks on reasonableness. For example, the market share cannot exceed 100 per cent of market size. Three, use consistency tests, for example the currency in which cashflows are estimated should also be the currency in which the discount rate is estimated. Four, draw on economics first principles and mathematical limits. For example, a stable growth rate cannot exceed the growth rate of the economy. Five, use the market as a crutch, when trying to estimate, say the equity risk premium. Six, draw on the law of large numbers. For example, when trying to estimate beta (or volatility), take the beta of the industry and adjust for the debt level of the company you are analysing. Other suggestions include confronting uncertainty by coming up with a probability distribution, constantly adjusting and adapting your model as new information comes out. Finally, accept that you can make mistakes, but keep the biases out. "If you are 'biased' about individual company valuations, your mistakes will not average out, no matter how diversified you get."

There are three ways to view the value/pricing gap. One, if you believe in efficient market theory, then you'd think that the gaps between price and value, if they do occur, are random. Then you'd go for index funds.

If you are a "value extremist", then you'd view market participants who collectively price the stock as dilettantes who will move from fad to fad. Eventually the price will converge on value. If you are in this camp, then you'd buy and hold stocks where the value exceeds the price.

For the pricing extremists, they think value is only in the heads of the "eggheads". Even if it exists, prices may never converge to value. So what they do is to look for mispriced securities and try to get ahead of shifts in demand and momentum.

The dilemmas of "pricers" are that they don't have an anchor on where a security should be and are, therefore, pushed back and forth as the price moves from high to low; they are reactive; and they face the difficulty of trying to read where the crowd is going to move to next.

The valuers' dilemmas are that they are not sure about the magnitude of the value/price gap, and they are uncertain when the gap will close. They can mitigate that uncertainty by lengthening their holding time horizon, and by providing or looking for a catalyst that will cause the gap to close. Prof Damodaran's study of Apple showed that the value/price gap for the company would close by 80 per cent if the holding period is 5 years. That goes up to 90 per cent for a holding period of 10 years.

And, finally, here's a tip for Apple fans from Prof Damodaran. According to his study, there is a 90 per cent chance of the company being undervalued at its current price of about US$440 per share.

Wednesday, May 22, 2013

GIC more cautious in going for higher returns

Published on May 22, 2013

Chief investment officer prepares for 'end game'

THE Government of Singapore Investment Corporation (GIC), which manages more than US$100 billion (S$125 billion) of assets, said it is more cautious about seeking higher returns as yields remain low ahead of the "end game" in the next five to 10 years.

The average annual return on bond yields will be about 1.9 per cent over the next decade, while equities may offer a 1.6 per cent median real return a year during that period, said the fund's chief investment officer Lim Chow Kiat, citing different portfolio models.

"We are getting more cautious in reaching out for higher-yielding assets," Mr Lim, who assumed his position in February, said yesterday. "No one can predict when the end game will be, but we can prepare for it."

Central banks are pressing down on benchmark borrowing costs, leading investors to seek higher-yielding assets outside of government bond markets. US 10-year rates fell to an all-time low of 1.38 per cent in July, and the Standard & Poor's 500 Index rallied to a record this week.

"Central banks will find it hard to exit from this quantitative easing policy," Mr Lim said, adding that "substantial risks remain".

Investors have had "largely good returns" over the past three decades, he said, and they are seeing the latest part of a 30-year credit expansion cycle with low interest rates.

"We see bubbles everywhere," Mr Bill Gross, who runs the world's biggest bond fund at Pacific Investment Management, said on Bloomberg Television last week. "As long as the Fed and the Bank of Japan and other central banks keep writing cheques and don't withdraw, then the bubble can be supported."

GIC said last July its cash allocation almost quadrupled to 11 per cent of its portfolio in the year ended March from 3 per cent a year earlier. Stock holdings fell to 45 per cent from 49 per cent as it pared equities in developed markets, while bond investments dropped to 17 per cent from 22 per cent, it said in its annual report.

The so-called 20-year annualised real return was 3.9 per cent as of March last year, unchanged from the previous year, it said. The annualised nominal rate of return in US-dollar terms was 3.4 per cent over five years, 7.6 per cent over 10 years and 6.8 per cent over 20 years, it said. GIC does not report an annual return or disclose the actual size of its portfolio, and is expected to release its next performance figures for the year ended March in July.

"As prices of risk assets improve, there are more pressures and temptations to reach out," said Mr Lim, 42, who previously oversaw GIC's investments and relationships in Europe, Africa and the Middle East.

He said there are investment opportunities in technology, such as China's growing online retail market, and the rising middle class in emerging economies. About one in two middle-class consumers will come from Asia in seven years.

"Though valuations are not low currently, longer-term prospects are not to be missed," he said.
GIC is ranked the world's eighth-largest government investment fund by the Sovereign Wealth Fund Institute, which estimates it manages US$247.5 billion.


Tuesday, May 21, 2013

Lower returns on bonds and stocks a concern for investors: GIC

By Linette Lim
POSTED: 21 May 2013

Lim Chow Kiat, group chief investment officer of the Government of Singapore Investment Corporation, says lower returns on bonds and stocks in the next 10 years are a concern
for investors.

SINGAPORE: Lim Chow Kiat, group chief investment officer of the Government of Singapore Investment Corporation, has said that lower returns on bonds and stocks in the next 10 years are a concern for investors.

Citing different portfolio models, he said the average annual return on bond yields will be about 1.9 per cent over the next decade, while equities may offer a 1.6 per cent median real return a year during that period.

Mr Lim was speaking at a conference on Tuesday.

Global interest rates have been on the decline for the past 30 years, and that has driven investors to higher-yielding but riskier assets.

Some of these assets include Asian local currency bonds.

But experts said these have been safer to invest in over the past decade, as the Asian bond market becomes more liquid.

Worth over US$6 trillion, the Asian local currency bond market has doubled in size over the past five years.

Part of the growth is driven by investor demand for higher yields, and part of it is driven by the increasing number of Asian corporates who choose to raise funds through bond issuances.

Deutsche Bank said that India, China and Singapore are the three top markets to invest in.

Vishal Goenka, head of Local Currency Credit Trading (Asia) at Deutsche Bank, said: "The Sing dollar corporate bond market is a hometown favourite. I really like it because we have a very proactive regulator here, who is promoting liquidity in the secondary bond market.

"From an international investment point, it offers a lot of stability because of the massive private banking involvement in the investor base of this market."

Private bank clients make up about half of the investor base for the Sing dollar corporate bond market.

According to Deutsche Bank, it is a market that is worth about US$95 billion.

In comparison, the size of the Indian corporate bond market is US$200 billion.

China's corporate bond market is worth US$1 trillion, up 45 per cent from a year ago.

Wong Sui Jau, general manager of, said: "Our latest tracking for Asian bonds' yield to maturity is 4.3 per cent. But US yields are under 1 per cent, Europe yields are not much better - slightly above 1 per cent - and Japan is also close to zero."

Bond yields are tied to interest rates, and these have been much higher in developing Asia.

Experts said this search for yield is a matter of concern and warn that investors need to take into account risks involved.

Mr Lim said "more and more investors are being crowded into searching for yields and taking risk", and this "leaves little on the table to cushion adverse outcomes".

- CNA/ms

10 potential costs of QE

Persistent Quantitative Easing can lead to asset bubbles (like in S’pore’s housing market), among other side effects

By Nouriel Roubini
21 May 2013

Most observers regard unconventional monetary policies such as quantitative easing (QE) as necessary to jump-start growth in today’s anaemic economies.
But questions about the effectiveness and risks of QE have begun to multiply as well. In particular, ten potential costs associated with such policies merit attention.

First, while a purely “Austrian” response (that is, austerity) to bursting asset and credit bubbles may lead to a depression, QE policies that postpone the necessary private- and public-sector deleveraging for too long may create an army of zombies: Zombie financial institutions, zombie households and firms, and, in the end, zombie governments.
So, somewhere between the Austrian and Keynesian extremes, QE needs to be phased out over time.

Second, repeated QE may become ineffective over time as the channels of transmission to real economic activity become clogged.
The bond channel doesn’t work when bond yields are already low; and the credit channel doesn’t work when banks hoard liquidity and velocity collapses. Indeed, those who can borrow (high-grade firms and prime households) don’t want or need to, while those who need to – highly leveraged firms and non-prime households – can’t, owing to the credit crunch.

Moreover, the stock-market channel leading to asset reflation following QE works only in the short run if growth fails to recover. And the reduction in real interest rates via a rise in expected inflation when open-ended QE is implemented risks eventually stoking inflation expectations.


Third, the foreign-exchange channel of QE transmission – the currency weakening implied by monetary easing – is ineffective if several major central banks pursue QE at the same time.
When that happens, QE becomes a zero-sum game, because not all currencies can fall, and not all trade balances can improve, simultaneously. The outcome, then, is “QE wars” as proxies for “currency wars.”

Fourth, QE in advanced economies leads to excessive capital flows to emerging markets, which face a difficult policy challenge.
Sterilized foreign-exchange intervention keeps domestic interest rates high and feeds the inflows. But unsterilized intervention and/or reducing domestic interest rates creates excessive liquidity that can feed domestic inflation and/or asset and credit bubbles.

At the same time, forgoing intervention and allowing the currency to appreciate erodes external competitiveness, leading to dangerous external deficits. Yet imposing capital controls on inflows is difficult and sometimes leaky.
Macroprudential controls on credit growth are useful, but sometimes ineffective in stopping asset bubbles when low interest rates continue to underpin generous liquidity conditions.


Fifth, persistent QE can lead to asset bubbles both where it is implemented and in countries where it spills over. Such bubbles can occur in equity markets, housing markets (Hong Kong, Singapore), commodity markets, bond markets (with talk of a bubble increasing in the United States, Germany, the United Kingdom, and Japan), and credit markets (where spreads in some emerging markets, and on high-yield and high-grade corporate debt, are narrowing excessively).

Although QE may be justified by weak economic and growth fundamentals, keeping rates too low for too long can eventually feed such bubbles. That is what happened in 2000-2006, when the US Federal Reserve aggressively cut the federal funds rate to 1 per cent during the 2001 recession and subsequent weak recovery and then kept rates down, thus fueling credit/housing/subprime bubbles.

Sixth, QE can create moral-hazard problems by weakening governments’ incentive to pursue needed economic reforms. It may also delay needed fiscal austerity if large deficits are monetised, and, by keeping rates too low, prevent the market from imposing discipline.

Seventh, exiting QE is tricky. If exit occurs too slowly and too late, inflation and/or asset/credit bubbles could result. Also, if exit occurs by selling the long-term assets purchased during QE, a sharp increase in interest rates might choke off recovery, resulting in large financial losses for holders of long-term bonds.
And, if the exit occurs via a rise in the interest rate on excess reserves (to sterilize the effect of a base-money overhang on credit growth), the ensuing losses for central banks’ balance sheets could be significant.


Eighth, an extended period of negative real interest rates implies a redistribution of income and wealth from creditors and savers toward debtors and borrowers.
Of all the forms of adjustment that can lead to deleveraging (growth, savings, orderly debt restructuring, or taxation of wealth), debt monetisation (and eventually higher inflation) is the least democratic, and it seriously damages savers and creditors, including pensioners and pension funds.

Ninth, QE and other unconventional monetary policies can have serious unintended consequences. Eventually, excessive inflation may erupt, or credit growth may slow, rather than accelerate, if banks – faced with very low net interest-rate margins – decide that risk relative to reward is insufficient.

Finally, there is a risk of losing sight of any road back to conventional monetary policies. Indeed, some countries are ditching their inflation-targeting regime and moving into uncharted territory, where there may be no anchor for price expectations.
The US has moved from QE1 to QE2 and now to QE3, which is potentially unlimited and linked to an unemployment target. Officials are now actively discussing the merit of negative policy rates. And policymakers have moved to a risky credit-easing policy as QE’s effectiveness has waned.

In short, policies are becoming more unconventional, not less, with little clarity about short-term effects, unintended consequences, and long-term impacts.

To be sure, QE and other unconventional monetary policies do have important short-term benefits. But if such policies remain in place for too long, their side effects could be severe – and the longer-term costs very high. PROJECT SYNDICATE


Nouriel Roubini is Chairman of Roubini Global Economics and Professor of Economics at NYU’s Stern School of Business.

Sunday, May 19, 2013

How to pay for kids' varsity studies

Published on May 19, 2013

Options for parents include taking up endowment plans and tapping CPF funds

By Magdalen Ng

The value of an education is priceless, but it certainly comes with a big price tag.

Tuition fees for a four-year economics degree at a local university will set you back by at least $30,000, and a similar degree overseas may cost northwards of $200,000, after taking into account living expenses.

Most parents hope to be able to fund their children's education, but the hefty sums can be daunting.
Except for the very privileged few, coughing up a big lump sum is tough, which is why experts say it is important to start saving as soon as possible.

MoneySense, the National Financial Literacy programme, recommends that the first step to take is to assess how much you have set aside currently for your child's tertiary education.

Next, parents should estimate how much their children's tertiary education would cost, factoring in tuition fees, other expenses and inflation.

The final thing to do is to work out the shortfall and figure out how to make up for it.

AIA Singapore has an education planning calculator on its website, which allows you to factor in inflation and the effects of compounding interest when calculating how much you will need to save and for how long.

Prudential Singapore's senior vice-president and chief marketing officer, Mr David Ng, says the best way to save depends on expectations, time horizon and risk profile.

For example, those with a longer time horizon will probably be able to opt for a less risky and lower return product compared to those with a much shorter timeframe.

However, no matter what your timeframe is, it is important to note that there is no free lunch: the higher the potential return, the higher the risks.

A non-capital guaranteed product, for example, may mean that it is possible to lose some or all of the money that you have put aside.

Central Provident Fund (CPF) members can use part of their CPF savings to pay for their children's tertiary education at approved institutions in Singapore.

CPF savings cannot be used for overseas education.

CPF members can use only up to 40 per cent of their accumulated Ordinary Account savings, or the balance in the Ordinary Account after setting aside any amounts reserved for housing or other schemes (if any), whichever is lower.

Upon reaching 55, members may not be able to use their Ordinary Account savings for tuition fees if they have not met the Minimum Sum and the prevailing Medisave Required Amount.

From July 1 this year, CPF members who turn 55 between then and June 30 next year will need to set aside a minimum sum of $148,000 in their Retirement Account.

The money taken out from your CPF savings under the Education Scheme will have to be repaid, including the interest which you would have otherwise earned if the amount had not been withdrawn.

Your child will have to make the repayment in cash, and it will start one year after your child graduates, or one year after your child leaves the course, whichever is earlier.

Personal loans
Most banks offer personal loans that may help fund a child's education, but Mr Brandon Lam, senior vice-president and head of consumer investment and insurance products at DBS Bank, advises parents to plan ahead and start saving early rather than take up a loan.

Endowment plans
Prudential's Mr Ng explains that endowment plans generally offer a relatively more stable form of savings.

Some plans are capital guaranteed, while others are not, which means that you may not even receive the total sum of money that you originally put in.

For example, the PruSave Limited Pay plan allows the customer to pay annual or monthly premiums for either five or 10 years.

The policy will mature in 15 years from the time the first pre-mium was paid.

"One of the advantages is the potential for an extra non-guaranteed bonus feature of the product, which varies according to the performance of the participating fund," he says.

Mr Ng notes that many endowment plans may include a protection element, unlike pure savings plans such as fixed deposits.

Mr Lam says there are some endowment plans that provide insurance coverage on death, total and permanent disability or accidental death.

"In the unfortunate event where the parent dies or comes down with a critical illness, the claims proceeds can still fund the child's education, unlike other investment alternatives, which are likely mark-to-market upon liquidation," he says.

The downside is that endowment plans are more illiquid than bank savings or fixed deposits.

Currency risks
Mr Lim Wyson, head of global wealth management at OCBC Bank, points out that one of the key risks in preparing for an overseas education would be foreign exchange fluctuations.

For example, he says, since 2008, the Australian dollar has traded widely against the Singapore dollar, between a low of around 0.9 and current levels of around 1.225.

He adds that there are ways to hedge against excessive currency strength, such as dual currency investments, which are short-tenor instruments that allow investors the chance to get the investment converted into an alternate currency at a lower rate while generating yield in the interim.

However, this is quite a risky product as there is no cap on the downside risk potential.

Parents can also regularly purchase currencies.

DBS Bank offers the DBS Multi-Currency Autosave, which allows them to plan ahead and purchase currencies they need when the rates are most advantageous to them.

"They can continue to enjoy interest earned on their savings and later remit the necessary funds without having to incur additional currency conversion charges," Mr Lam explains.
Insurance coverage while overseas

Ms Joanne Yeo, head of product and funds development at AIA Singapore, says that while parents focus on investing for their children's education and future, they tend to overlook the need to protect their children against unexpected medical bills.

Most life insurance policies provide worldwide coverage as long as they are in force, but most medical insurance policies in Singapore provide the cover for hospitalisation in Singapore, with substantial reduction in coverage when hospitalisation happens overseas, according to Great Eastern's chief product officer Lee Swee Kiang.

Most overseas universities also require students to be covered by hospitalisation and medical insurance schemes during enrolment.

DBS' Mr Lam says: "Students may also wish to consider a personal accident plan for added protection, but they will need to ensure that the plan will cover them while they are overseas as most of the personal accident plans offered in Singapore only provide local coverage."

What price an overseas education?

Published on May 19, 2013

Stepping up to the financial precipice to send my kids abroad is not my thing

By Aaron Low, Assistant Money Editor

A couple of weeks ago, a friend told me that his uncle was looking to sell his five-room flat and downgrade to a three-room flat.

His uncle wanted to free up some $200,000 in cash to invest; not in equities or bonds, but in his daughter.

See, the young woman - my friend's cousin - did not make it to law school here. So she wants to go to a British university to study law so that she can practise here.

My friend's uncle is not rich. He and his wife are a typical heartlander family. Both husband and wife worked in administrative jobs which did not pay a whole lot. They managed, however, to put two of their kids through school; one to junior college and the other to polytechnic.

Through prudent spending, the couple also managed to pay off their mortgage over 20 years.

Their hope, my friend said, is that the girl goes off to get a first class honours in law, comes back and earns a huge salary to support them in their old age.

It is not uncommon for such families to take drastic moves as cashing out on their asset to provide for their bright young kids.

For the parents, especially those in less well-to-do families, having their kids go to university, especially law school, is a thing of immeasurable pride.

I have two kids, a girl, four, and a boy, 18 months, both of whom I absolutely adore and spoil almost religiously.

But I would not sacrifice my long-term retirement plans, sell my house and place myself near financial ruin just to see my kids get an overseas education.

I'm not saying that parents who do that are wrong; I'm saying that it just does not make sense to do so.

For one thing, getting an overseas education is ridiculously expensive. According to checks by The Sunday Times, it can cost nearly A$200,000 (S$245,500) to get an Australian degree; it costs roughly the same amount for a degree from Britain.

Local universities cost a fraction of the price. A law degree at the National University of Singapore (NUS) for citizens costs about $10,250 in tuition fees a year. A Bachelor of Arts is 30 per cent cheaper, costing $7,650 a year.

The usual argument is that the overseas education brings so much more to the student who studies overseas.

There is a level of prestige attached to an overseas degree, especially if it comes from places like Oxford, Stanford or any of the top global universities.

On top of that, the student gets to experience foreign cultures, matures more quickly and develops into a more-rounded person overall.

It's not true the local universities are of a poorer quality compared to overseas universities.

Granted, NUS and the Nanyang Technological University (NTU) may pale in comparison to Harvard, Yale or Cambridge. Still, NUS and NTU hold their own in the global lists of top universities. NUS was ranked 22nd on the Times Higher Education list, while NTU was 86th.

It is not untrue that studying in London or in the US is a once-in-a-lifetime experience, which probably exposes the student to a lot more.

But is it worth selling off one's property or putting oneself at great financial risk to secure this goal?
My own approach to my children's university education is simple: I will save enough only for a local university education.

I have, for each child, a basic endowment plan. This is just to ensure that there is a base for my savings.

By the time they hit 19, they will get about $30,000. If bonuses kick in, this sum could rise to $40,000 or more.

An Arts degree in 20 years will probably cost a lot more than the $7,650 a year students pay now. Assuming an inflation rate of 2.5 per cent a year, this works out to $12,000 a year.

This means that a four-year course could cost approximately $48,000. Factor in living costs - which could be say $6,000 a year - and the cost of funding one child over the course of a four-year degree will be roughly $72,000 at least.

This means I have to set aside $144,000 for both my children.

The endowment plans will help lighten the load but it's clearly not enough. So I am actively investing in equities, splitting my portfolio into high-yielding stocks as well as growth stocks.

My target is to achieve 8 per cent a year over 20 years, which I think is a slightly bullish estimate. But with this I should be well able to pay for both my kids' local university education.

If either, or both, decide they want to go overseas, my solution is this: I will give them the $72,000 and tell them that they need to top up the difference on their own. It could be through getting a scholarship (although I would probably advise them to think hard before accepting), or obtaining partial funding from bursaries or grants.

Beyond the numbers, I have two more reasons for taking a prudent approach to funding my children's education.

As a parent, I want my kids to get ahead in life but this should not be an end in itself.

What is more important is that they develop into responsible adults; bringing one's parents to near financial ruin for the sake of an overseas education is hardly the example to set.

The second reason is that I do not expect my kids to take care of me and my wife in our retirement years.

Sure, I may be seen as being harsh in not wanting my kids to go overseas. If I can easily afford it, I would. But I'm assuming that I can't both plan for my retirement and save for an overseas education.
My gift to them is simply that when they go into the workforce and earn a salary, they will not have to worry about us.

That's because, hopefully, with the right planning and a dose of luck, I would then have been able to set aside a tidy retirement nest egg for my wife and myself to rely on for the rest of our lives.

Saturday, May 18, 2013

Room for appreciation in some bourses

18 May 2013 08:49

Still cheap by historical standards

STOCK markets in many parts of the world are hovering at multi-year highs. Should investors be scared? I looked at five markets this week - Singapore, Hong Kong, South Korea, Japan and the US - to ascertain their prices relative to their value over the past few decades.

In the first set of charts, I plotted the various market indexes against the Graham and Dodd P/E. The latter tries to smooth out the business cycle's impact on earnings by using a 10-year moving average of earnings. In these graphs, I have also included the 10-year moving average earnings per share of the various indexes.

The indexes I can find for Hong Kong and Japan in Thomson Datastream with a long enough history are those which excluded technology, media and telecoms stocks.

From the first set of five charts, you can see the rise in earnings per share for all the markets over time. In Singapore's case, the rate of earnings growth picked up significantly from 2004 onwards. Because of the rise in earnings, the Graham and Dodd P/E for Singapore, Hong Kong and Japan are actually at the lower end of their past 30-year range.

The data for Datastream-calculated Kospi 200 Index is shorter, going back to just 1997. For Kospi, the PE is somewhere in the middle of its past 15 years' range. The S&P 500, meanwhile, is about one-third from the bottom of its 35-year range.

The lower the PE, the cheaper the market is supposed to be.

In the next set of charts, I plotted the price index against the "equity risk premium" or ERP. Here, ERP is calculated as the inverse of the Graham and Dodd P/E (that is, the average past 10 years' earnings divided by the current market price) minus the one-year interbank rate. With ERP, we are trying to calculate the earnings yield from the stock market which is in excess of the one-year interbank rate.

The higher the ERP, supposedly the greater the value in the stock market.

For the Singapore chart, the ERP fluctuates over time, but each subsequent peak is higher than the previous one. This is a function of the declining interbank rates.

Each of the previous peaks had also coincided with a market bottom. The last big peak was in early 2009. But even at today's prices, the ERP for Singapore is still at a fairly elevated level of 6 per cent. The story is similar for Hong Kong.

In general, the ERP should move in the reverse direction as the market price. The higher the market goes, the lower the ERP becomes. For Kospi, in the last six months, the market has been moving up, but so has the ERP! This is because of the declining interest rates in South Korea.

Japan's ERP chart looks the best - it's an almost perfect mirror image of the price index! There was great value in the Japanese market in the middle of last year. The sharp rise in the market in the last six months or so has brought the ERP from 5.7 per cent to 3.7 per cent. The current ERP is still high relative to the period from 1995 till 2009. As for the US market, it is still near the top end of its 27-year range.

One concern is that PEs and ERPs are high because of the unsustainably high profit margins. In the US, corporate profit margins has been climbing and are at record highs now. But not so for the other markets, where profit margins have been relatively stable. In fact, for South Korea, margins seem to be coming down (see chart).

In his most recent quarterly letter, Ben Inker, co-head of asset allocation at GMO, noted that "high profit margins should not persist in a mean-reverting world, and yet profitability in the US has been higher than long-term averages for most of the last 20 years, oddly pretty close to the same length of time that the US market has been trading above replacement cost".

High valuations imply a low cost of equity capital, which should encourage corporations to issue more equity. A high return on capital (as evident from high margins) should encourage corporations to do more investing. These pressures should gradually push the cost of capital up and the return on capital down.

"But in the period since the mid-1990s, stock issuance has been down and corporate investment has fallen as well, in apparent contravention of the basic rules of capitalism," he wrote.

And when investments are down, profits should in general be down, not up. The relationship of high investments leading to high profits was strong from 1929 till 1986, with a correlation of 0.75. The correlation weakened to 0.43 between 1987 and 1999. And then it went negative from 2000 till 2012. During this period, investments fell but profits went up.

Negative savings

The fall in corporate investments have been made up by negative savings by the government and households.

If profits are to stay high while government deficit shrinks, the current account deficit would have to shrink, household savings fall and dividends rise.

"All else (being) equal, falling budget deficits will hurt profitability. But if we do finally get the much-delayed recovery in investment or continued strong buyback activity, it is possible falling deficits could be absorbed without margins falling back towards historical averages.

"Rising investment would, in all likelihood, sow the seed of falling profits in time through increased competition, as would buybacks and dividends through rising savings or a societal response. But as for when, it is impossible to know," wrote Mr Inker. And it is GMO's view that profit margins are unlikely to have shifted permanently higher.

As for the other markets that we looked at, since it doesn't appear that profit margins are exceptionally high relative to the past, perhaps there is still room for more value appreciation.