Is Singapore entering a bear market?

Published February 21, 2011

ANALYSIS

Caution will reign for now but a long bear phase is relatively unlikely

By TEH HOOI LING

(SINGAPORE) ARE we entering a bear market? From its recent peak on Jan 6, 2011 when the Straits Times Index hit 3,279.7 points, the market is now down 5.9 per cent.

The second and third-tier stocks have suffered a bigger drubbing, with the FTSE Straits Times Mid and Small Cap Indices falling by 6.8 per cent and 7 per cent respectively since then.

'While there's no agreed-upon definition of a bear market, one generally accepted measure is a price decline of 20 per cent or more over at least a two-month period,' according to the Vanguard Group, an investment management company.

The question is whether the Singapore market, and Asian markets in general, are in danger of seeing that kind of decline.

One big concern now of course is inflation. Last week, the government here raised its inflation forecast for the year by one percentage point to between 3 per cent and 4 per cent. And inflation could hit 5-6 per cent in the first quarter of this year. In the same period last year, the consumer price index grew by just 0.93 per cent.

Over the long term, the fundamentals of Asian economies remain on a firm footing once inflation is contained.


A BT study last week showed a very distinct relationship between three-month STI returns and quarterly inflation rate. Tracking data as far back as 1973, the analysis showed that negative inflation quarters saw the highest average and median STI returns. Returns get progressively smaller, and are the poorest when inflation is at the highest.

Meanwhile, the price-earnings (PE) multiples of the market too are higher when inflation is subdued. They begin to drop significantly once inflation hits 5 per cent and above.

That different inflation levels correspond to different PE levels is also observed by a study done by the Economist. According to the magazine, since 1900, when inflation has been in the one to 4 per cent range, price-earnings ratios on the stock market have averaged between 17 and 19 - in other words, an earnings yield of 5 to 6 per cent. Average PEs when inflation has been in the 4-5 per cent range have been 15. And by the time inflation reaches 6-7 per cent, the PE drops to 11.

Given that a 5-6 per cent inflation rate is expected for the current quarter, it would appear that stocks here are approaching danger zones. At those rates, inflation would exceed the dividend yield of many stocks.

But as the government is targeting a 3 to 4 per cent inflation for the full year, this 'would imply a sharp decline in inflation momentum from Q2 onwards - which may possibly incorporate the impact of significant monetary tightening,' said Citi economist Kit Wei Zheng.

All in all, the local market is set to enter a cautious period for at least the next three months. Not helping is the continued reversal of funds from Asia and other emerging markets into the the US and Japan. But short of another crisis, or major shock, there is a relatively low likelihood of the local and other Asian markets entering a prolonged bear phase.

One can take comfort in the fact that Singapore's market valuations at current levels are not stretched. According to Bloomberg, the STI is currently trading at 12 times PE. However, the earnings outlook is not uniform. StarMine's data showed that analysts are looking at a 13.2 per cent increase in earnings per share (EPS) in Singapore, bringing the price-to-forward earnings ratio in the next 12 months to 12.5 times. Bloomberg's estimate for the STI's EPS this year however is a decline of 15 per cent.

From most accounts, investors should still be looking at growth, rather than declines in corporate earnings this year. And over the long term, the fundamentals of Asian economies remain on a firm footing once inflation is contained.

In the absence of another asset class which can yield enough to make up for the rate at which consumers are losing their purchasing power, equities remain a good place to park spare cash.

At the very least, there are some stocks which can still be had at dividend yields of 7 per cent or more.