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Thursday, June 6, 2013

Markets’ rally ending? Analysts stay upbeat

Cai Haoxiang 6/6/2013 

STOCK markets worldwide have gone up a fair bit in the last four years, especially in the past six months. Worries have surfaced on whether the rally is finally going to end. As if on cue, a correction hit at the end of May.

But most analysts and fund managers interviewed by The Business Times in the past few weeks remain bullish, saying that signs of irrational exuberance have not yet appeared.

They point to how price to earnings (PE) ratios, a measure of the value of stocks, are still at their historical averages, and how corporate earnings are keeping pace with their pricier valuations.

They also point to how the world economy is slow but improving, with a clearly recovering US and a resurgent Japan - even as China's growth slows and Europe is expected to remain weak.

And they say that easy liquidity conditions, a precursor for equity outperformance, will still persist for a year or two. Even if the US Federal Reserve decides to slow down or stop its quantitative easing (QE) programmes this year - hints of which have caused some profit-taking on the markets recently - there is nothing to fear.

Said Simon Flood, chief investment officer of Asian fund manager Lion Global Investors: "(Fed chairman) Bernanke has made it clear he's not going to do anything dramatic. For people not to be concerned about the end of QE, they need to be confident that the baton has passed from the public to the private sector.

"Now, we're beginning to see the private sector coming up."

As at June 4, the S&P 500 index in the US is up 15 per cent year-to-date, and trading at double 2009 levels. Singapore's own Straits Times Index is above 3,200 points, though it recently slid from highs above 3,400 points. It is still up 4 per cent year-to-date after a 20 per cent surge last year, and also trading at around twice of its 2009 level.

Japan has been the hot story of the year, with the money printing, public investment and yen depreciation policies of Prime Minister Shinzo Abe propelling the benchmark Nikkei 225 to new highs. The index saw a sharp correction recently, but it is still up 60 per cent from a year ago and up 25 per cent this year.

The stockmarket rally had led to warnings from some quarters in early May that the market was overvalued. In a May 9 report titled Raging Bull, Bank of America Merrill Lynch wrote: "The risk of a melt-up in stocks is high and rising. Positioning, price-action, policy and a range-bound economy can conspire to cause an overshoot."

But the party is not expected to stop anytime soon, underpinned by a fundamentally stable global growth outlook and low inflation. In a report on May 22, Citibank said that it forecast global growth to be 2.6 per cent this year and 3.2 per cent in the next.

"Even with improving financial conditions and modestly better growth prospects in some cases, we believe monetary policy is likely to loosen further in a range of advanced economies near-term and to remain loose for an extended period," it said.

"With highly supportive financial conditions, the Fed may be able to taper bond purchases later this year while continuing with MBS (mortgage-backed securities) bond purchases into 2014."

On May 20, investment bank Goldman Sachs raised its forecast for the S&P 500 index to 1,750 by year-end, 1,900 in 2014 and 2,100 in 2015. Goldman expects the US economy to recover from the economic stagnation that has plagued it for the last six years.

Earlier last month, an InvestmentNews article compiled 10 views from market gurus on whether the rally in the US stock market is ending. Three were worried about unsustainable debt and potential asset price bubbles, but the remaining seven were bullish.

Larry Fink, CEO of BlackRock, an asset management firm, was quoted in a May 7 interview that investors need to be "heavily invested" in stocks. "Despite this huge run-up in markets, corporate earnings have kept pace," he said.

Markets blogger and pundit Joshua Brown explained in a May 16 post comparing a previous bull market with this one: "In 1999 the S&P finished at 1,469, earned 53 (US) bucks per share, and paid out US$16 in dividends.

"The 2013 S&P 500 is earning double that amount - over US$100 per share. The index will also be paying out double the dividend this year, more than US$30 per share, and returning even more cash with record-setting share repurchases.

"The current S&P 500 trades for a PE of 14 versus 33 for 1999. So double the fundamentals for half the price."

Investor sentiment has shifted towards equities.

David Lim, Singapore CEO and head of private banking South-east Asia for Bank Julius Baer, said that clients both still crave for yield and are bullish on equities. "That's why you see both a strong bond and equity market," he said. "Money going into equities is coming from cash."

As for where to put one's money, the traditional developed economies of the US and Japan remain favourites due to their sheer size and potential, compared to emerging markets. In Asia, Singapore is not preferred even though analysts like the transparency and defensiveness of the market.

Real estate investment trusts (Reits) have suffered steep falls recently on concerns that interest rates will rise, increasing interest expenses. OCBC Investment Research argued in a June 4 note that the selling was overdone, and maintained its "overweight" rating on the sector.

But Mr Flood said that it is difficult to see another year of 20 per cent returns in Singapore. Comparatively, the US looks better. "The distance it has to go to recover its former position is further," he said.

Outside Japan, David Clark, Deutsche Bank's Asia head of equity research, said that the bank is positive on construction, some financial companies, infrastructure and shipping, and concerned about coal, steel and palm oil.

He called for "significant upside" in both China and India - a view also shared by asset manager Allianz Global Investors. Allianz Asia-Pacific chief investment officer Raymond Chan said that the Asean market is getting expensive, but aggregate valuations in Asia ex-Japan "are still reasonably underpinned by strong fundamentals".

For China, Mr Flood said that concerns about political transparency and creditworthiness of the financial sector there continue to cause equities to trade at a discount.

Yet hope springs eternal. Lorraine Tan, S&P Capital IQ vice-president of research for Asia, said that some high net worth clients whom she advises are still nervous. This might show how the market still has legs. "Markets are not exuberant yet," she said.

As for risks, another correction in Asian markets might come from news of Chinese bad debts. There is no systemic risk but negative sentiment could overflow to Asian equities if one or two Chinese local governments are allowed to go under, she said.

The eurozone is also still contracting and if things drag out longer, there will be a financial system risk. And continued budget cuts in the US could dampen US growth and confidence, she said.

But with equities still at a spread of 4-5 per cent to bonds, there is still upside: "I think we have a couple more years to go in Asia."

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