Don't get seduced by analysts' darlings

The Straits Times
Sep 4, 2011
small change

Investors who buy these four stocks could end up kissing their money goodbye

By Andy Mukherjee

If you have cash stuffed in your mattress or bank account, and if you are itching to put it to work in the markets, let me try to talk you out of it.

For choppy markets to get better, sentiment must first hit rock bottom. Like it did in the first quarter of 2009.

Conditions are different now. Analysts are still overly bullish. They are beginning to turn nervous, but are far from throwing in the towel.

In this column, I'll discuss four stocks as examples. These stocks have fallen between 12 and 16 per cent in the past month, underperforming the Straits Times Index, but analysts are overwhelmingly sanguine about their prospects. What if the analysts' optimism is misplaced?

A disclaimer before we proceed: I have selected the stocks based on some rules that I'll shortly explain. I don't have any position in them, nor do I intend to take any.

If these stocks outperform the index over the next six months, well, I'll have egg on my face. And if I'm proved right in my scepticism, I'll start holding investment seminars (just kidding).

Let's move on. What the four stocks have in common is this: Analysts are in love with them. Their ardour is beginning to cool, but it'll be a while before the consensus opinion on these stocks turns negative. At that point, they'll become interesting again.

Measuring love is simple. I required consensus estimates for the target price - the analyst community's opinion of a stock's fair value - to be at least 25 per cent higher than the current price.

But how do we know whether analysts are beginning to feel nervous about these companies that they are so enamoured of?

With that in mind, I pared down the list to retain only those stocks on which at least twice as many analysts have cut their full-year earnings forecasts in the past month as have increased them.

I looked at only those Singapore-listed stocks for which 'buy' ratings by analysts, compiled by Bloomberg, comprised at least 60 per cent of all recommendations in the past year.

Further, to exclude illiquid stocks that aren't widely covered by analysts, I whittled down the list to only those that have secured at least 10 'buy' ratings from analysts in the past year.

At the end of this exercise, I was left with four names.

Noble Group

Analysts are still wildly bullish about Noble, which supplies energy, food and mining products where these are needed. The consensus estimate for the stock suggests a 35 per cent upside.

But some cracks in confidence are beginning to emerge. Ms Zuo Li at IIFL Capital cut her earnings growth forecast for Noble by 12 to 20 per cent for the current year and the next two.

Keep an eye on the European money markets. As the 2008 crisis clearly showed, when money markets dry up, trade - and traders - get hit.

Noble shares fell more than 80 per cent between June and October 2008.

Indofood Agri Resources

Indofood Agri, which produces and refines palm oil, is another analysts' darling languishing in the dumps.

With the hiving off of Salim Ivomas Pratama, which was separately listed in May, the company is sitting on 6.1 trillion Indonesian rupiah (S$860 million) in cash, with little clarity from management on future expansion. Meanwhile, the profit accruing to Indofood shareholders grew less than expected in the June quarter, according to a Nomura report.

Still, analysts are hopeful. The consensus estimate for the stock's target price is about 33 per cent higher than the current price.

Genting Singapore

'Spurned'. That's how Ms Magdalene Choong at PhillipCapital titled her analysis of the casino operator's 'exceptionally weak' second-quarter earnings.

Chip volumes declined 13 per cent from the previous three months' as high rollers took a breather to nurse the previous quarter's losses. Or they may have gone to Marina Bay Sands to gamble the night away.

According to Ms Choong, who downgraded the stock to 'hold' last month, the outlook for the stock does not look enticing.

'In view of the downwards revision on GDP as well as rising risks from Western economies, we further reduce Genting's valuation,' she wrote.

Overall, though, the analyst community is still gung-ho on Genting. After as many as 12 downgrades in the past month on the company's full-year earnings potential, the consensus target price is still 28 per cent higher than the market price.

The longer the analyst community stays on the wrong side of the market, the more quickly it can surrender.

DBS

With the United States Federal Reserve promising to keep overnight interest rates at about zero until mid-2013, local-currency interbank rates in Singapore, to which the domestic banks' lending rates are pegged, have collapsed. One key rate - the swap offer rate - has even turned negative.

'This development has dashed whatever hope there was in the market earlier about net interest margin bottoming out and recovering next year,' Kim Eng Securities analyst James Koh wrote in a recent research note, cutting his rating on all three Singapore banks to 'sell'.

The consensus in the analyst community, however, is that DBS Group's fair value is 28 per cent higher than what the stock currently sells for.

If the Singapore economy slips into a technical recession this quarter and loan growth slows markedly, then the lingering optimism on DBS could dissipate. That could be risky for investors.

For now, the cash in your mattress is quite safe where it is. If you really want to do something with your money, consider stocks with high dividend yields.

andym@sph.com.sg