Friday, December 16, 2011

High Dividend Stocks 2011

Holiday seasons are here again and here is the long awaited update on the high dividend names in Singapore. How time files, the last one, which is also the most read post on this blog, was done more than a year ago.

Using almost the same criteria as last yr:

1. Market cap more than $50mn
2. Dividend yield more than 4%
3. Past 3 yr average ROE more than 12%
4. Past 3 yr FCF yield more than 7%
5. Past 3 yr EBIT margin more than 4.5%

We get over 50 stocks. This first installment shows the top 20 names. Actually I tweaked the criteria a bit bcos using the old one (with ROE of 9%) will get close to 70 stocks which will stretch the series too long.

Again I must warn that such lists usually cannot help investors make money. It is a mere first cut for diligent analysts to dig further for gems.

A couple of names on last year's list is gone now. One of top names: Best World completely collapsed. It's sales decline 30% and its share price halved. I didn't drill into the details, but you can imagine there would be a few of these bombs in a list like this.

So pls do your homework!

Incidentally, the name we discussed in the post last year: Transpac did very well. It returned $1.1 to shareholders but it's share price only fell from $1.7 to $1.5, this means that people who bought in Sep 2010 when the post was out would have made 50% in 1 year excluding tax effects.

But as alluded to last year, it is a difficult co. to understand as they are not running a normal manufacturing business. Rather it's now more an investment holding company.

Anyways here's the bonus (or bomb! depending on how the stocks will do in the next 3-5 yrs). Based on my limited experience, I believe the following co.s are genuinely good businesses to own and should help perserve capital over the long run.

These are co.s that either have a reputation for quality management or in a good business or both. Investors who had looked at Sg stocks for some time would be familiar. Again, caveat emptor, pls don't just buy blindly. Do your own homework.

1. Adampak: Packaging co., makes stickers and films and also helps distribute 3M products. Key risk: High exposure to HDD.

2. Boustead: Engineering co. run by FF Wong, an astute manager. Key risk: cyclical nature of business. Fellow blogger Musicwhiz covers this stock very well.

3. Viz Branz: 3-in-coffee and cereal maker. Great business in China and Asia but weaker than Super Coffee. Key risk: Battle for control within family members.

4. SATS: Big food supplier in Singapore (for Changi and the Army), blue chip. Key risk: Declining Sg male population, SIA squeezing them and relatively high valuation and payout already.

So, that's all folks. Stay tuned for the next few installments!

Wednesday, December 14, 2011

Meaningless Millionaires

We might have reached the end of the line for fiat currencies. This has been talked about in economic circles but perhaps the most people are still not aware of its drastic consequences. While nobody thinks it will be anything like Germany after WWI or Singapore's banana money after WWII, the end result is not great. We are going to see a lot of meaningless millionaires.

I just found a good description of what it means to be a millionaire from my favourite encyclopedia.

From Wikipedia: A millionaire is an individual whose net worth or wealth is equal to or exceeds one million units of currency. It can also be a person who owns one million units of currency in a bank account or savings account. Depending on the currency, a certain level of prestige is associated with being a millionaire, which makes that amount of wealth a goal for some, and almost unattainable for others.

The story started in 2008 during the Lehman collapse. The US govt pulled out all the stops to save the global financial system. It printed and printed and printed money. It is often said, Bernanke is a student of the Great Depression. If he had to throw sacks of dollar bills out of the helicopter to encourage people to spend, he would do it. And he did, figuratively.

This lead to the debasement of the US dollar, the world reserve currency.

Now we are seeing it in Europe. While the political bickering stopped the 27 governments from carrying out its actions promptly, ultimately, back-stopping everything that can go wrong by printing is recognized as the way out.

Well, there is another painful path, which is to let parts of the system fail and start over, like Iceland. However, policy makers cannot risk that and thus we go back to the printing press. Anyways this path also leads to the collapse of the currencies involved.

China had done its part with the 4 trillion stimulus although the effect on the yuan is less visible due to the peg. Most of it ended up in shadow banking and also the foreign reserves.

The Swiss came out with a bang with its unlimited intervention to keep the Swiss franc competitive.

The British more or less didn't have to do anything while the market sells its pound to historical lows.

The last major currency holding out is the Yen. But with its Government debt to GDP at 200%, higher than Greece, Italy and Spain, it might just be a matter of time before the yen implodes. Meanwhile, they are doing some stealth intervention.

What about the Singapore dollar? Our Govt has always maintained that we need the SGD to remain strong in order to offset inflation.

But there is a limit to how strong SGD can get, if not, our exports will crumble, or worse: we might give the Chinese or global HNWI (High Net Worth Idiots Individuals) the impression that Singapore's property is the safest haven in the world and the SGD can never depreciate. ie all the more reason they push up the red-hot property sector. This will lead to more unhappy Singaporeans and bring about the end of the PAP regime. So that's a no-no.

So basically all global currencies are going into competitive devaluation, what this means is inflation, or worse stagflation - inflation without real growth.

Actually, the story didn't start in 2008. The prequel was when Alan Greenspan took over as Fed Chairman in 1987. And for the next 20 years he re-engineered growth of the global economy into a one that doesn't go through normal business cycles of boom and bust but rather grow in a 45 degree straight line for more or less 20 years.

This has a drastic impact on inflation longer term but the effects were not felt for the most part of the last 2 decades. The true inflation is also masked by obscure methods of calculating inflation like adjusting for productivity or quality. For example a laptop bought this year at the same price as last year is counted as -50% in price (bcos the CPU speed doubled), imagine the impact on inflation with a portion of the 350 items counted like that!

All-in-all, what these means is that money is worth less, much much less than it was 20 years ago. Long term inflation as stated in textbooks is always roughly 2-3% per year. But I would say that the true inflation over the last 20 years might be closer to 5-6%.

In the last 3-4 years, inflation basically went stratospheric, in Singapore it is 5-6%, but again, the true rate might be double of that at 10-12% or even more. Just roughly speaking, taxi prices when from $15 for airport to town, to $30 now, with peak surcharge and airport surcharge and ERP and another couple more dollars if you suay suay ganna the premium cabs like the black Chrysler.

That is roughly over the span of the last 5 years, so that's 100% inflation over 5 years - ie 20% per year.

With that in mind, 6% inflation for the last 16 years, and 12% for the last 4 yrs.
That means that 100 dollars 20 years ago, is probably worth like 25 dollars today.
This also means that a millionaire today only has 1/4 of the true net worth or spending power compared to a millionaire 20 years ago.

In a capitalist society like Singapore where aspirations of financial freedom, millionaire by age thirty-five are abound, the implications are profound. Who wants to be a millionaire? Sorry, it's actually who wants to be a $250k-aire?

The truth is, being a millionaire is no longer enough. A millionaire today is not even half of what it was.

A millionaire tomorrow is basically meaningless.

It means you can probably buy a HDB flat (which would have taken up 70% of that amount) and live happily for like 5 years. Then inflation catches up and you realize that a proper restaurant meal costs $150 (today it's about $60 today for a family of four), your car cost $200k and your insurance can cover your taxi fare to the hospital ONLY.

Even if you don't count the first property (which is traditionally the way to determine a true millionaire, ie not counting the first property), it's still pretty meaningless. Bcos a millionaire definitely cannot buy a 2nd property anywhere in Sg and the same food, transport, medical inflation would destroy wealth faster than you can say "final answer".

So, who wants to be a millionaire?

Thursday, November 03, 2011

Problems and Solutions to Singapore’s Education System – Part 4

This is the last post of a four part discussion on education, interested readers can read from the first post.

Teachers, or rather the lack of good old-fashion responsible teachers, the inability of the system to retain the talented ones, the low teacher to student ratio, the mind-boggling ECA workload, the long hours are all the woes we hear about teaching.

It is said that being a teacher is no longer about teaching. It’s about writing proposals to help the school win awards or about going through motion since the students would then learn from the private tutors anyways. Even better, teaching is simply a way to get oneself out of the unemployment ratio.

I believe the whole teacher/teaching system is due for a huge revamp. The solutions are pretty straight forward to me although I must admit this is just really from my layperson point of view.

1. The admin workload of writing proposals, involved in ECAs

It is pretty clear that there is a need to increase admin headcounts for these jobs. Teachers are supposed to teach and they should be compensated for teaching and rewarded for being able to teach well ie the students genuinely love learning from the good teachers and their grades improve when they get a good form teacher.

As for the admin staff, they would be involved in the ECAs, the awards, event organizations and their compensation would reflect their output on these jobs.

2. Inability to retain talent

Partly related to the first point, as teachers spend more time doing work that they don’t like, working long hours but getting less satisfaction, is it a wonder that most good teachers would leave to become private tutors? Of course, we forgot to mention that teachers’ salaries have not risen to match other professions bcos it is not set by the market, but by the Govt.

Hence the solutions are pretty simple. Make teaching enjoyable again by reducing the workload, reducing the working hours and increasing the pay of teachers. In the old days, I believe teachers would be in the top quartile of income earners in Singapore. It was regarded as a profession, and a noble one. Today, as income rises exponentially, teachers are no longer earning as much in a relative sense and private tuition pays bcos it is set by the market. As we have discussed, since the whole system creates these scarcity premiums all over the place, prices skyrocket and the best teachers leave to become private tutors. And the best private tutors charge the best prices.

3. Overall lack of teachers

It is a well-known fact that our teacher to student ratio has not improved in the past 20 years. It was one teacher to forty students then, it still is today! We don’t have enough teachers! Why? Bcos they keep leaving to become private tutors and we keep importing foreigners and their children to our schools. So we are back to square one, we need to make teaching a job that people covet. We need to increase the pay, reduce the working hours and improve the working environment.

There might also be a need to de-emphasize the ECAs and the awards so that schools focus on what is most important: the students and their learning experience.

4. Performance assessment of teachers

Currently, there are also situations where teachers who excel in doing ECAs get promoted bcos this work is more visible and definitely what the principal needs. Real teachers who just want to impart knowledge are marginalized.

Hence we are back to the first point where teachers should simply teach, and admin staff can handle the ECAs. And the performance of teachers should be based solely on their teaching ability. Also the principals should not be judged on how many awards the school wins, or how well they do their ECAs.

The focus should be on the children and their learning experience. Education in the early years should be about learning basic stuff in a more holistic manner. It’s not just about mathematics, science and languages and high stakes exams. It should be about nature, music, art, history, hands-on, sports etc.

The best teachers are those who have the passion to help our children learn about all these. They have the knowledge, the patience and the enthusiasm to teach and they should be judged by these yardsticks. Not quantitative measures like how many awards, or how many initiatives.

Teaching should be made noble again and learning fun.

See all posts!
Part 1
Part 2
Part 3
Part 4

There is also more discussion on kiasu parents.

Friday, October 14, 2011

Problems and Solutions to Singapore’s Education System – Part 3

This is the 3rd post out of four part discussion on education, interested readers can read from the first post.

The phenomenon of having more private tuition to supplement school education is a very Eastern phenomenon. We see it in almost all East Asian countries like China, Korea, Taiwan and Japan. We might argue that this is a cultural issue. Parents in Asian countries going through this phase of development see the importance of being ahead of the crowd in education and hence are willing to pay through their noses to let their child have this head start.

This is also the argument used by MOE. The Govt cannot stop parents from sending their kids to private tutors. Blame the kiasu parents. They are not called kiasu for nothing. No matter the changes put to the system, since kaisu parents want their kids to be one-up, private tuition will continue, and prices for the best private tutors will keep on rising.

Well, let’s see if this argument really stands.

Putting on the economics hat again, I can again identify a fundamental economics problem here. Yes, the supply and demand issue again that we discussed. In short, the whole elitist system drives demand for private tuition. If the system is made less competitive (well at least in the primary school level), more holistic, with more qualitative assessment, less high stakes exams, it would become irrelevant to game the system with more tuition. In Finland, lower primary is just about learning and how to make it fun. There are no numerical grades, no high stakes exams. Yet their students do as well in international competitions.

It might be a good idea to completely do away with PSLE and replace it with qualitative assessment and simple grades with no numbers or granularities ie just A, B, C, D. Then you might ask how to differentiate between the good and the bad students? Now, by asking that question, you just missed the big idea. The idea is: there is no need to differentiate them at such a young age. The education mission is to allow the child to learn about our world in their first 9-10 school years. Each child should be given the same opportunity at this stage. It is not about differentiating and just bringing up our best children.

Of course, at the big picture level, when we achieve the grand goal of having so many good schools that eliminates the scarcity premium of the top schools, there is no longer any need to compete for the limited spaces.

On the supply side, there is a lack of good teachers and a system to retain the best teachers in schools that resulted in Singapore’s phenomenon. We all hear anecdotal stories of how some of our teacher friends started noble wanting to teach, only to be discouraged by low pay and poor working environment and they move into private tuition. Now if we can change that, put these best teachers into the schools again and at the same time further increase the quantity of good teachers, can we address part of this issue?

We might.

I say might bcos we have not tackled the other part. The kiasu part.

Parents are inherently kiasu, even if you put the best teachers back in schools, or you revamp to whole system, since they want their kids to be one-up, they will still go for private tuition. There is no solution to this problem.

Is that really so?

The kiasu conundrum is an interesting one. I see it as somewhat similar to the famous Prisoner’s Dilemma in Game Theory. If you confess, you get a light sentence and the other guy suffers. But if both confess, both are worse off. The parents are in exactly the same situation. They think that by going to private tuition, they gain one-up. But in reality, since everyone is doing that, we are all worse off. Only the private tuition agencies gain.

The issue here is one of information. If all the prisoners know that the other parties are not going to confess, they will all keep mum and all stand to benefit. This is how most Singapore oligopolies play the game. Look at the telcos, or the petrol kiosks, or the transport co.s. Nobody ever cut prices. Nobody ever confesses and every player benefits, except the consumers.

Twisting the situation around, the policemen also have the full information picture. They know whether the other prisoners have confessed. In fact, at the start, they could have engineered the results they wanted. They could have tell the prisoners no one is confessing, if you do, you sabo everyone. But if everyone doesn’t confess, everyone is better off.

MOE is the police here. The official stance is always that they should not meddle with the private tuition industry. But the fact of the matter is that private tuition is now mainstream education! And by the way, private tuition is now a multi-billion dollar industry in Singapore, bigger than the budget of some Ministries. In time it WILL be bigger than the budget of MOE.

There is a need to educate the parents, to show that everyone is worse off with tuition in a relative sense. Yes the child do improve on absolute terms, maybe they learn fractions faster or can read Shakespeare earlier. But since everyone can, we are all the same in a relative sense. Just that the parents’ wallets are thinner. I believe some parents figured this out, but their response is: no choice, bcos everyone is doing it, we cannot lose out. So if it can be shown that there something can be done, the parents would bite. Information is the key here. Inform the parents that tuition does not help.

Perhaps MOE or other relevant bodies can commission a study to show that the stress level of students are much higher, or they have less sleep time, less play time and hence affecting their development as a result of tuition. And bcos everyone is going for private tuition, nobody actually gains. The media can definitely publish more articles on these issues. The media can also highlight how some tuition agencies are not adding value at all and how some private tutors are irresponsible and are there just for the money.

On a more hardline tone, MOE can regulate the industry since it is becoming such a big part of education. In Korea, they outlawed private tuition some time back ie anyone caught giving tuition goes to JAIL, and the tutee pays a FINE! That’s a bold move! That might not go down well in Singapore. But MOE can still have some measures.

All primary school classes have form teachers who know their students well, they can discourage parents from sending kids for tuition, not encourage them by telling parents they MUST send their kids for tuition. Of course this works better when the class size gets down from current 40 plus to 20 or less. They can give exact instructions to parents on how to help their kids improve in weak areas like focus on spelling, or multiplication etc. Or where the child show world-class potential and can really develop a REAL “one-up” against others. The idea here is to curb demand.

To regulate supply, MOE should ensure that all private tutors are qualified and licensed and have fee guidelines, protection against scam tutors etc. These measures also discourage some of the bad practices.

Again the solutions proposed here involve a destruction of the billion dollar private tuition industry and is definitely a bitter pill for many, many people. However for the sake of our children, I believe it is a worthwhile effort.

Next post, we talk about being a teacher!

See all posts!
Part 1
Part 2
Part 3
Part 4

Tuesday, September 13, 2011

Blood on the Streets

We have to digress from our topic on education a bit as the financial markets are entering interesting times. Here is my attempt to answer a question on many people's mind: time to buy?

The last couple of months were pretty awful for those who are involved the markets. Most indices were down double digits. Europe was down 20%, Asia high single digits and Latam was also down teens. Only US did ok with single digit declines. What an irony, US the birthplace of this current mess actually suffered the least…

Market commentators are talking about 1/3 chance of recession, but I believe the reality is that we are already in recession. It is double dipped chocolate with whip cream. Unemployment no.s are going to rise and real assets are likely to fall (finally! A chance to buy property!), hopefully.

So the big question: when is it time to buy? Now or still must wait?

Well, I must admit, I am THE worst market timer, so I won’t answer that question outright. I would say look at valuations. If the valuations look cheap enough, then probably it’s ok to buy. But if we go into a recession, things will get cheaper. Value investing cannot help you time the bottom. Market idiosyncrasies can bring a PB 0.5x stock go to 0.3x, even when the book is perfectly good, with no impairment, write-downs or other balance sheet risks.

So the trick would be to keep some bullets. This is for those with ample liquidity who can afford to buy a bit now, wait for more blood on the streets and average down. Not forgetting, there would be transaction costs involved too!

Why do something like that? Why not just wait for real bloody mess and then bet the house?

Well for those who have gone through Lehman or previous messes, we know it’s easier said than done. First, something like Lehman might not happen. Markets might not fall further bcos it is already pretty cheap (at least some markets are, like Brazil which are at single digit PE and giving 4% yield). So if we didn’t buy now, we might miss the boat before we even realize.

Second, when it does come, we don’t dare to buy, bcos we think it’s the end of the world, better keep cash or gold. And when things recover, again, we miss the boat. Of course, the 2nd lesson learnt here would be that if Lehman does happen again (ie global markets fall 20% in one week), we just have to bite the bullet and buy.

Ultimately stock markets will recover. Stock markets have survived the Great Depression, Wars, Oil shocks, Hyper-inflation etc. The only exception is Japan which is mired in major issues which deserves a couple of posts to discuss. But I guess it is the safe to say that as long as companies meet their cost of capital (which most of them do), they would continue to create value for shareholders and that’s the reason stocks will continue to go up over time.

Thursday, September 08, 2011

Problems and Solutions to Singapore’s Education System – Part 2

So, what is the solution?

As I have alluded to in the last post, it is the elimination of scarcity value. This means eliminating our branded schools, or creating more schools that are as good. It will also incorporate changes to the grading system to make it more holistic, encompassing many more subjects, making the system less granular and qualitative assessments from form teachers. It will also involve redistributing resources from elite schools to the entire system and upping the Education budget, making it bigger than Defence.

There are a few ways to create more good schools, mostly involving hard measures but for the greater good. We can redeploy the best teachers to other places and rotate these best teachers and principals so that they spread the best practices. We can nurture promising schools so as they can rival the top schools. These are tough choices. There will be a lot of unhappiness and resistance and it will take a decade if not more to achieve but our children and the future generations will benefit.

Think about the day where parents no longer need to scramble to get their kids into branded schools, because they know that most schools in Singapore are as good. There will be no volunteering for mundane tasks, no fighting to be a grassroots leader, or buying properties for the sake of getting 1km from the school etc. Students receive equal opportunities no matter which school they go. They get a chance to learn from the best teachers and more importantly to learn more holistically.

These are not simple changes. We need to attract talented people and convince them teaching is again a good, noble, highly sought after profession, like in the old days. We might need to double the salaries of teachers, and pay the better ones even more. We need to put money into nurturing promising schools. It is not an impossible task. A good example would be Rulang Primary, which was never highly regarded just perhaps 10 years ago but is today one of the most coveted schools in Jurong. We need a lot more Rulangs and the people who made that possible.

The strength of a good system is to make the best the lowest denominator. In basketball, if we pit Chicago Bulls with Michael Jordan against and All Star Team, which team is likely to win? It’s Chicago Bulls, bcos in the good team, Michael Jordan in the lowest denominator, while in an All Star Team, the weakest Star is the lowest denominator, and the weakest All Star is inferior to Michael Jordan. Currently Singapore’s primary school system has the worse schools as the lowest denominator. And in the schools, the worse students are the lowest denominator, dragging down the class, or even the school. Hence the parents scramble to put their children into the best schools, not wanting to be dragged down.

On changes to the grading system, by making it more holistic means more manpower as well. The current PSLE is efficient and achieve its purpose of sorting out the best students. The new system wants to put the child at the centre of the equation. It means form teachers making qualitative assessments, ie smaller classes. Emphasizing other subjects, more specialized teachers. Infrastructure changes would likely be needed as well: a science garden, history and geography rooms, music rooms, sports facilities, like swimming pools in every school etc.

Again, such changes are not easy, but would be for the greater good and the benefit for the children of Singapore.

Next post, we talk about kiasu parents!

See all posts!
Part 1
Part 2
Part 3
Part 4

Thursday, July 21, 2011

Problems and Solutions to Singapore’s Education System Part I

This is a discussion dedicated to most parents who suffer from the idiosyncrasies of our education system. I have spent some time thinking about this and have decided to blog this despite its irrelevance to investment, although economics would help us understand how we can try to tackle some of the issues.

The discussions here would be focused on primary education rather than the whole education system which I believe deserves more scrutiny and research. I have identified 3 main issues or problems that are probably well-recognized by most Singaporeans. They are

1. Elitism in our education system
2. Escalating peripheral costs: predominantly private tuition
3. Good teachers, or the lack of them

Elitism in our education system usually refers to pouring resources into the top performers in the belief that the best brains in our country should be allowed to develop their full potential and when they in turn contribute to society, the benefits would be shared by all. I would not delve into this elitism topic by itself bcos I think that would probably need an entirely new blog. Rather I am looking at how elitism affect the economics of our education system.

One side effect of this elitist system is this: it creates scarcity. In economics, scarcity is a big thing. We all know economics is about supply and demand. Scarcity limits supply, encourages demand and causes prices to skyrocket. Think branded goods, gold and precious commodities, iPad 2, iPhone 5, luxury sports cars, exclusive events etc.

In our elitist education system, scarcity is created in multiple arenas: we emphasize exam grades on just four subjects, we have branded schools like Raffles, Nanyang, we have our Gifted Education Programs, SAP schools, through-trains, ex-teachers turned tutors that are highly sought after. All these drive up scarcity premium, encourage high demand and drive up prices. From tuition fees to property prices near schools to perhaps even prices of school buses.

In fact, we can argue that the whole Singapore system seems to have this indulgence with scarcity, or creating bottlenecks in the system that drive prices one way: up. Think ERP, COE, HDB flats, Class A wards, private hospitals, high-end restaurants, exclusive clubs, high-end condominiums, high-end spa and gyms, high-end this, high-end that, Singapore Airlines PPS membership, Solitaire membership, the list continues.

Well we can understand that listed co.s might want to have more of these scarcity premium to earn better profits to satisfy shareholders. But as a Government, the objective might well be the opposite. To eliminated scarcity as much as possible so that the bulk of the society benefits.

Partly related to this point of scarcity is the big issue of our education system being reductionist ie not holistic, or not well-rounded. In fact, at the primary school level, it’s basically about language and science. I did a quick Wikipedia read-up and found out that primary education in other countries usually also involve subjects like music, drawing, elementary instructions in nature, history, geography, sports and lessons combined with practical work experiences around the school compound.

Sure, we do have some of these in Singapore, but they are never emphasized and not part of PLSE, the all important high stake exam, and hence easily neglected. Whereas in other countries, it is the overall performance that counts, not one exam. The overall performance incorporates all subjects, including sports and music and qualitative assessment of the form teachers.

Elites need to be separated from the rest of the junk. We rank our schools, our classes, our teachers, our kids and we have this super granular system whereby each PSLE student has a three digit score. Btw I still remember mine! Why are we obsessed with ranking? Bcos we want to rank these PSLE students so that we can figure out who are the elites and can go to the limited number of top schools, where significant amount of resources are poured in to nurture our best talents. Yes, we want to create scarcity!

While rankings are required at the tertiary or higher levels to facilitate university entrance, it might be counter-productive at the primary school level. It takes the fun out of learning and turns learning into stress. Again, a simple wiki-study will reveal that most primary schools in other countries employ a more holistic and less granular grading system. In Finland, the country regarded as having the best education system in world, numerical grading is not found on report cards in the early years. And, there are also no high stakes exams. Ever. Well at least in primary school level.

Learning is about the children, not about grades and rankings.

Next post, we look at the solutions.

See all posts!
Part 1
Part 2
Part 3
Part 4

Tuesday, July 12, 2011

The Many Faces of PE - DCF

A lot of people like to say that PE is not robust enough. Ultimately a company is the present value of its future cashflow and how does one simple ratio determine it? We need to have a full model of all it's future cashflow, discount it back to today's earnings, add it up and we have the true value of the firm. How can one simple no. like PE determine the true value of a company?

Well, actually, it kinda does a great job at that.

PE is actually not that different with DCF.

Let's start with DCF. DCF is basically discounted cashflow of a firm:

Discount rate: 6%, Growth: 2%

Yr 0 EPS $1.00 - DCF to Yr 0 = $1
Yr 1 EPS $1.02 - DCF to Yr 0 = $0.96
Yr 2 EPS $1.04 - DCF to Yr 0 = $0.93
Yr 28 EPS $1.74 - DCF to Yr 0 = $0.34
Yr 29 EPS $1.78 - DCF to Yr 0 = $0.33

The calculations above shows you that this firm earns $1 per share and increases it by 2% every year, and will continue to do so for 30 years. To calculate the value of the firm, we need to discount these future cashflow back to today. So you can see that in Yr 1, ie next yr, it is actually making only $0.96 in today's dollar, Yr 2 it's $0.93 and in Yr 29 it's $0.33 in today's dollar.

Now adding these up gives you $18, which should be the intrinsic value of the firm.

Incidentally, if you think of the inverse of PE, which is the earnings yield and compare it against the discount rate of 6%, you can say that the right PE for the firm is 1 divided 0.06 which is 17x.

Using this to calculate the intrinsic value, we use next yr's EPS of $1.02 multiply by 17x, which gives you $17.4, not so different from the $18 calculated using the complicated discount cashflow.

In fact, if we know that the firm will continue to grow 2% for 30 years, we should be using a higher EPS, maybe say a Yr 2 EPS, which will give you $17.7 intrinsic value, just 2% different with the DCF calculated value of $18.

So PE while simple, gives you a quick but somewhat accurate way to calculate the intrinsic value of a stock.

Of course, there are a few caveats here:

1. Why 30 yrs? Shouldn't a company exist forever?

Yes in the example above, DCF lasted only 30 yrs but in reality companies can exist longer than that. In fact, we need to do DCF for 100 years in order for the last few years to become small enough such that it doesn't matter. Alternative, most people will actually stop after 5 or 10 yrs, and put in a terminal value and discount that back to today. But in doing so, basically, we are applying the PE methodology on the terminal value, and this value actually constitutes a larger part of the final intrinsic value. So essentially, we are still using PE this way.

2. Shouldn't a company grow faster than 2%?

Yes that is true, but with our example, when we put in a high growth rate for 30 yrs, the no.s become astronomical and can't be justified rationally. This is the power of compound interest which we have also discussed. For example, if we put in 8% growth, intrinsic value becomes $40 after 30 yrs, that's 40x PE based on next yr's earnings. Hence for very long periods, like 30 yrs, we have to assume that the average growth is small.

3. What if we change the discount rate?

The discount rate is the most sensitive part of the whole DCF methodology, changing it slight would alter the picture significantly. For example, changing the discount rate from 6% to 4% brings the intrinsic value to $23 from $18. Which is why most people doing DCF usually put in a sensitivity table showing how the intrinsic value changes as discount rate changes.

Putting this altogether, I think the main message is: you can use DCF if you have a good grasp of the various assumptions going into it, ie the growth rate, discount rate and how things changes over the next 5, 10, 30 years. Now if someone can really get all these right, then perhaps he should be doing something greater, like save the world and be the next Messiah or something. Why bother investing money, which really doesn't add value to the society?

Well if all you want is to get a quick answer to a ballpark intrinsic value, using a ballpark EPS multiplied by a rational PE multiple (between 10-18x) would suffice in most cases.

Wednesday, June 15, 2011

The Many Faces of PE - Quality

This is the 3rd installment of posts titled "Many Faces of PE". The previous two posts are:

Shiller PE

It is important to bear in mind that PE can bear so many different faces bcos we look at just next yr's PE. This is a practice that the whole financial industry agreed on some time back even though it totally made no sense for investors. But it does help generate lots of trades and commissions though.

So when we just look at next yr's PE, peer comparsion and quality also comes into play.

4. Peer Comparison and Quality

Usually one would determine whether the stock is cheap vs its peers in the same industry. So when looking the PE of Singtel, we also look at Starhub and M1. The industry average PE would determine where some of these individual stocks should trade at.

Of course, in reality, this made little sense. If something is cheap, you don't have to compare it to confirm its cheapness. Vice versa, if something is expensive, you cannot try to justify buying its cheaper peer.

Say Singtel, it's PE is 11x, but do you say that Vodafone is 10x so Singtel is expensive and hence cannot buy?

On the 2nd point, RenRen, the facebook of China, if it IPO at 50x, do you say then it's cheap bcos Facebook is 100x?

I guess the point I am trying to make is that the absolute PE level is very important as well when we look at peers. If it's cheap, it's cheap. It is not very important talking about how cheap vs peers. At the big picture level, if the whole industry is cheap it probably means there is a lot of upside when the outlook changes ie buying anything in the industry will yield significant upside. As an example, in the midst of Lehman, UOB was trading at 0.7x Price to Book and DBS was 0.6x Price to Book. Did buying one over the other matter very much? UOB is up 2.3x since its Lehman low from $8 and DBS is up 2.4x from $6.

Vice versa for expensive names, if the whole sector is overpriced then owning any stocks in the sector meant huge downside risk if things go wrong. Just like during the dotcom boom, it doesn't matter if you got Amazon, one of the best dotcom firm and still going strong today, or, a fly-by-night dotcom firm that does not exist today. You would have lost 80% on Amazon and 100% on

Having said that though,PE usually also tells the quality story. If Firm A has a better management, with more robust processes, better products vs Firm B, the market knows and gives Firm A a higher PE. Just as an example, the better quality Firm A might trade at 14x vs a poorer quality Firm B at 13x.

Next: PE vs DCF

Tuesday, June 07, 2011

The Many Faces of PE - Growth

This is a continuation of the previous post on the many ways to look at the PE ratio.

3. Growth Angle

As the investment world, led by brokers shifted to look at just 1 year PE ie PE using next year's earnings. A lot of imagination bloomed on how we can interpret this ratio. The most popular one being how PE can be used to tell the growth story. The rationale is simple enough: different companies and industries have different growth outlook. By looking at next yr's PE, we cannot just say that: ok, more than 15x is expensive, I am not going to buy anything more than 15x.

What if the industry is growing at 30% per year? Then 15x is cheap! By right, it should trade at 30x PE (see the rule of thumb below). Hence with this argument, basically the brokers can convince anyone to buy at any PE. The most recent case being Facebook, our most visited website nowadays. Facebook is being valued at USD 65bn, but its revenue is USD 1bn and profits probably half of that. This means that Facebook's PE is roughly 120x, yet investors are asking for more, they can't wait to buy it bcos on its first day of trading, it is bound to go up another 50%, ie its PE will hit close to 200x!

Well's that's the Greater Fool Game for you in Font Size 64.

But, back to reality, since the whole world looks at just next yr's PE, and it is the most accessible ratio, when we look at that number, we can also incorporate this growth angle mentality.

Basically the way I would look at it would be as follows (all based on just next yr's PE:

10x: either very cheap or the industry has no growth. Some telcos, nuclear stocks, dying industries trade at this PE

15x: Fairly valued, or cheap if growth is good (ie more than 20%).

20x: Expensive, very highly likely to lose money if we buy anything at 20x. The growth has to be 25% or more to justify this PE ratio.

25x: Nothing should trade above this (by right), no matter how good the prospects are. Think thrice if you want to buy a stock trading above 25x and then don't buy it. For more on this point, see this post: Valuation Expansion.

It is also industry rule of thumb to pay x multiple of x% of growth, ie if a stock is growing 15% we can pay 15x for it. There is no mathematical proof or strong financial concept behind this interpretation. It is, in every sense, just a rule of thumb. Some investors use this rule quite often. Even the value guys.

Of course this rule of thumb falls apart when the PE is too high or low. For eg, companies with no growth trades at 10x (usually), while Facebook which can probably grow 30-40% trades at 100x.

Hence I would usually demand more growth given the same PE. ie for PE 15x I hope to get 20% growth.

Next post: Quality!

Friday, May 20, 2011

The Many Faces of PE - Shiller PE

With the new Cabinet in place and the WP working hard to defend what they have won, it is time to get back to real investment! Today we look at our favourite ratio again!

PE or price earnings ratio has been talked to the death on this blog. This is more to just summarize the various ways to look at this ratio, or rather, how many in the investment community looks at it.

1. Cheap or Expensive

The PE ratio, first and foremost, is the quickest way to determine whether a stock is cheap or not. It is obviously not the best way, as most source will give the PE based on next year's earnings. Now why should it based on 1 yr's earnings is beyond me, given that business and the economy in general tend to go through cycles. In any case, we have discussed this about a million times. Here are a few of the earlier posts:

PE Ratio
Earnings yield

2. Shiller PE

Well it appeared that it wasn't just me who thought that PE should be based on some long term earnings instead of just next yr's. So some professor named Shiller calculated PE based on 10 year's worth of earnings. Before him, of course, the Grandfather of Value Investing: Ben Graham had already advised everyone to use 10 year average in the 1960s. Sadly, nobody bothered. Well at least today Prof Shiller continues to maintain the database of PE based on 10 yr's earnings and below is the chart.

From the chart, you can see why no broker would want define PE using 10 year earnings. Bcos it shows you there is about 3 times in the last 100 yrs where stocks were truly on bargain, 1920, 1931 and 1982.

There is about 10 times where you can buy at 10x PE, which is still quite cheap, over the last 100 years. If you are a true value investor and you know it's risky to buy over 15x, basically, this chart tells you that you shouldn't have bought anything in the last 20 years.

So is it a wonder why nobody showed us this kind of PE calculation?

Ok you might argue that if this Shiller calculation did nothing in the last 20 years, and we missed that bull run in dotcom, and during 2006 and 2007 when China was the bull and the bulls were all in China, then maybe we shouldn't be looking at it at all?

That is true, but I guess the main purpose of using such conservative ratio would be to protect against any risk of losing a lot of money. The Shiller PE would more or less guarantee you that you will not lose money if you bought when it showed 10x. It cannot tell you to buy at 15x hoping it will go to 40x.

Next post we look at the other faces of PE!

Saturday, May 14, 2011

The New Singapore Economy - Part III

This is a continuation of the previous two posts:
The New Singapore Economy - Part II
The New Singapore Economy - Part I

I guess the one major issue with the paper's Rengeration Plan as it was called, was actually the sustainability of the various measures. Just to jot down a partial list of proposals:

1. Doubling the no. of schools and teachers
2. Doubling the no. of hospitals and medical professionals
3. Waiver of Govt fees and taxes such as GST for basic items etc
4. Reducing the cost of raising kids: free education, monthly allowance, more maternity and paternity benefits etc

The problem here is that both schools and hospitals do not make money. Hence the first two proposals increases the burden on the State. At the same time, the last two proposals take money away from the State by reducing its revenue, either with lesser tax and fees or increasing cash outflow such as more allowance, more benefits etc.

While I think we can accept that the first $60bn sunk into building the initial infrastructure can earn zero return (after all it's a Govt, not a profit making entity), it might not be prudent if, on an on-going basis, all the measures simply run losses with no possibility of breaking even on an annual cashflow basis.

Just take an example of a school. The new school has on average say 600 students. Suppose we double the no. of teachers from currently maybe 30 to 60 teachers. In order to attract more people to become teachers, we need to pay them more, say on average $80k per teacher. This means that payroll alone is close to $5mn, including other running costs such utilities, peripheral services like security, maintenance etc, we might be talking about $6-8mn annual cost per school.

With zero revenue since school fees are proposed to be free, and 800 primary schools in Singapore, this alone is $5-6bn. Today, Education consumes just $8-9bn in our Budget including secondary schools and tertiary education. Hence this Regeneration Plan with the doubling of just primary schools and teachers will almost double the burden to the State, with no way of squaring the equation on the revenue side.

Of course the argument is that our Govt always incur surpluses, year in year out, which means that it has too much revenue in the first place. So doubling the burden is just making things right. It is okay to have a $14-15bn Education spending, which by the way will make Education the biggest spending, even bigger than Defense at $10bn.

Nevertheless, it might be prudent for these schools and hospitals to introduce some kind of revenue measures to offset the huge costs. Sustainability has always been a key aspect of our system and I believe our leaders really did get it right for some of the best sustainable systems put in place in the early years.

So how can we make the plan more sustainable?

With schools, we could have a two-pronged approach:
1. Endowment/Foundation for Primary and Secondary Schools
2. Aim to be a Tertiary Education Hub attracting foreign students

The Govt can setup an Endowment Fund for all Singapore primary schools and encourage old boys and girls to donate to their alma mater. Their donations can be tax deductable which would mean those who are successful would be keen to donate more.

Some of the most prestigious universities in US have endowment funds that are so big that they need to invest this money professionally for a good return. Our endowment funds should strive to do the same.

For tertiary education, we have already made some inroads in the private sector. Insead and Chicago have their MBA campuses here. The Govt should devise a comprehensive plan to make Singapore an overall education hub in Asia. Revenue made at the tertiary level can be used to subsidize primary and secondary schools.

For hospitals, there is only one option: become a medical hub. ie they would have to attract overseas patients. This means that Singapore has to become a 1st class medical hub that can compete globally with Bumrungrad in Thailand and Mayo Clinic in the US. The potential is definitely there. Our private hospitals such as Mt E Hospital have already made an impression in the region. It shouldn't be too difficult for the Govt to succeed as well.

It will take some time to achieve sustainability so perhaps the most important task for the Govt when it does embark on the Regeneration Plan is to optimize its revenue from taxes such that it can support the system during transformation (as the schools and hospitals try to gain sustainability).

It would probably mean more taxes from the rich and famous, more revenue from property (the playground for the rich and famous) and perhaps some cost savings by de-emphasizing Defence, reducing fat from every civil sector and *drumrolls* reducing Ministers' Pay: the No. 1 item on the voters' wishlist!

Friday, May 06, 2011

The New Singapore Economy - Part II

This is a continuation of the last post.

As with the Govt, various Ministers took pain to tear down the proposals in the paper by biting on points that appeal to peoples' hearts and emotional logic. These are:

1. The $60bn Price Tag
2. Raiding Temasek
3. Loss of Manufacturing Jobs

The first big rebuttal that came about was the big price tag. $60bn is unheard of. Our Govt annual budget is roughly around $30bn. Big no.s floating around are usually terms of millions or single-digit billion like YOG cost overrun ($300mn), Grow and Share Package ($3bn) and Lehman Crisis Emergency Help Everybody Fund ($10bn or so, which drawdown our Reserves for the first time).

However, it was not mentioned that the $60bn would be spent over 5 years. In fact I think it is more likely that it is spent over 10 years. This would be a more reasonable $6-12bn per year. Also it was highlighted that the Govt surpluses over 5 years (over $100bn) would have been more than enough to fund the $60bn.

An additional funding source mentioned was Temasek Holdings. $60bn was roughly just 1/3 of Temasek's portfolio and hence not a major issue. In fact by reducing Temasek's stakes in various listed entities (over a couple years), we could add liquidity to our equity markets and attract more investors to invest in Singapore.

While I do not know if that's entirely workable bcos it would cause major stock price disruption to the various listed entities and change the way investors look at these companies, I think the idea deserves scrutiny rather than the usual simply-brush-it-aside bcos it didn't originate from the Govt.

Perhaps the biggest hoo-ha came from this 3rd point of de-emphasizing manufacturing. 25% of Singapore's economy relies on manufacturing which support hundreds of thousands of jobs. Is this guy crazy to even suggest this?

On closer look, maybe not, you know... Below is a list of countries and the size of their manufacturing sector in % terms relative to the size of their economy.

China 33%
Korea 25%
Singapore 25%
Japan 22%
Germany 22%
Italy 18%
Brazil 15%
US 13%
UK 13%
France 5%

As you can see, most developed countries have a small manufacturing sector (less than 20%) unless they have an edge in manufacturing such as Germany and Japan. Of course in China and Korea, they compete on other factors such as lower cost. But what is the edge that Singapore has against these countries? Why are we pursuing manufacturing? Can we make better cars than Germany? Or better ships than Korea and China? There is no good answer.

The model that we have pursued 50 years ago might no longer be so relevant. Back then Singapore was as cheap as China today, we had a young population and we needed to provide a lot of jobs, fast. Today, we are so different. Things have changed.

On the other hand, the service industry suits our highly educated workforce and is not subjected to the volatility of global consumer demand. Singapore already have some brand with its education, healthcare and creative industries. We can definitely leverage on that and grow them bigger.

Granted, there will be a lot pain during the adjustment but what was proposed does make sense. Again my point is that we shouldn't just brush it off. Someone should be doing more study into whether this actually works.

Of course, the other angle is also that actually our Govt is already doing it. They might have started to shift out of manufacturing years ago. And we did get LucasArts to setup shop here and we got Chicago and Insead to have their MBA campuses here. But still, we shouldn't have built the casinos, right?

Next post, we look at some of the real issues with the paper.

Tuesday, May 03, 2011

The New Singapore Economy - Part I

One of the Powerhouse Opposition candidate Mr Tan Jee Say wrote a comprehensive paper to revamp Singapore's economy recently. I had the opportunity to read it in full and I must admit it's IMPRESSIVE. You have to give it to him (and the Govt training that he went through). After all that's the quality we would expect from a former high ranking civil servant and PPS (Principal Private Secretary) for the top officials.

Here is my unabashed point form summary that really doesn't do justice to the 45 page report. I urge readers who are free to read it in full. It's available on the onlinecitizen website. Here are the points:

1. Mr Tan Jee Say thinks that Singapore's economy should move away from manufacturing as this industry takes up too much land, labour and resources and Singapore is in short of all three elements. Manufacturing also adds volatility to our business cycle as it relies on global exports which is dependent on fast-changing consumer demand. In today's knowledge based economy, Singapore's reliance on manufacturing does not make sense.

2. Partly due to our big manufacturing industry (and also other reasons), the Singapore Govt had to rely too much on cheap foreign labour to generate GDP growth. This resulted in economic benefits trickling down to foreigners rather than the bottom 20%-30% of the population, causing their income to stagnate or even fall.

3. Singapore's future lies in the service industry but the Govt went into the wrong kind of services by building casinos. The emphasis should be on education, healthcare and creative industries.

4. Cost inflation in Singapore is largely driven by the rise of non-tradable goods and services (55%). While import prices accounted for the rest (45%). This means that costs like labour, fees and perhaps most importantly rental accounted for a significant portion of cost inflation in Singapore.

5. He proposed a $60bn package to address various needs including a restructuring of the manufacturing industry, promoting education, healthcare and creative industries, improving neighbourhoods and quality of life and a reduction in various fees that has added to cost inflation.

The paper also highlighted economic irregularities amongst various issues that really challenges some of our basic assumptions in Singapore. At least to me, it was a totally worthwhile read that was not only informative but also highly educational on economics, policies and moral issues.

Just as an example: he mentioned that the Sg Govt usually resort to price-mechanism to control demand such as in the case of ERP for driving and Foreign Work Levy in the case of importing foreign labour. However there are flaws with price-mechanism bcos the crux of the issue sometimes lies in supply or demand dislocations and using price does not solve the issue but simply add money to Govt coffers.

Take the case of ERP. The real problem has to do with too many cars and not enough roads. In 10 years the car population increased by 20-30% while the length of roads stayed the same. So is it a surprise that raising ERP doesn't work but just add money to the Govt coffers?

In the case of Foreign Work Levy, raising the levy benefits neither the employer nor the employee. Instead it benefits the Govt. So obviously, the Govt would use it in the first instance to restrict employers from recruiting too many foreigners. However this does not solve the fundamental problem: manufacturing and some industries like construction, low-end services are not suitable for Singapore's knowledge based economy. Hence we need to import foreigners to fill the gap.

On moral grounds, the paper also highlighted that is was not just economic no.s that matter, Govt should implement measures that are also morally right.

So, casinos was a major setback. While the Govt tried to promote a different image via the concept of Integrated Resorts, the truth of the matter is casinos come with social costs/issues that are very difficult to avoid.

Minimum wage, besides having a strong economic argument, is also morally right. If we ask for the service and effort of others, we should pay them what is an acceptable minimum amount in our society. When foreigners come, this concept is totally lost and the lower income households bear the full brunt.

Next post, we look at some Govt rebuttals!

Sunday, May 01, 2011

Solutions to the HDB conundrum

This is a continuation of the last 2 posts:
Are HDB prices really expensive?
What's wrong with HDB prices?

What is the solution to this huge conundrum of HDB prices being much higher vs its history and vs some Singaporean household income (esp lower income groups) yet lower in terms of rental yield and absolute prices vs other Asian cities?

The Opposition had come up with the cost plus solution. ie if the cost of building a HDB flat is $150,000, then the Govt should just put a tag of say $200,000 and sell it to Singaporeans. While this solution is pleasant to most would-be buyers, it creates huge problems for the system.

First by making new HDB prices widely different from current market prices, you run the risk of enticing speculators to join in the fun. Already, there are young couples who had tried to game the system just to get a good flat at a good location, balloting 10x in the span of a few months. It might become a major issue. Maybe people might just pretend to get married just to get a HDB flat then sell it after 5 yrs, divorce and split the profits. Things can really get out of hand. Hence cost plus model might not be ideal.

It is also imperative to bring prices down slowly over time rather than crashing it, a pointed highlighted by various ministers as it affects the valuation of 1mn homes. If prices crash, a lot of people might not be able to pay their mortgages, go bankrupt and create more problems.

Having said that, there are other possible solutions, which admittedly, the Govt is already implementing. Well, what do you expect, it's our First World Govt after all. They would have thought about it.

Economics will tell us supply and demand determines price. So we should aim for tools that can help us control these, as well as measures that can deter punters. Anyways, here are the some widely discussed must-implement measures:

1. Smoothen supply and leave some slack

If you look at HDB supply of flats over very long periods like 5-10 yrs or more, you see huge ups and downs, some years 20,000 new flats, recently has been 8,000 and lowest was at 5000. They should have learnt long ago not to time such cycles. Knowing that Singapore has 20,000-26,000 marriages every yr, just build say 15,000 flats every year (since not every new couple will get a HDB). Then review the system every 2-3 years.

In fact it might be prudent for HDB to always have some slack. Ensure there are always 5,000 flats available. In times like this, release them and make people happy. After all, if it's the Govt, isn't it ok to have stockpile of flats, when govts around the world stockpile stuff of national interest like oil, rice, or even gold.

2. Increase grants or other benefits to needy

While we cannot go for a cost plus model, we can always increase grants to people who need them. Current grants are like $30-40k when HDB prices can go to $700k. This is a miserable 4-6% of HDB prices. This should be increased to 10-15% to make it relevant.

As for lower income households, HDB can also help by reducing the interest rate for mortgage. Currently it's still 2.6% while commercial banks are giving 0.8%. Perhaps for the needy, HDB can match the commercial rate.

3. Variable LTV

For most speculators, LTV is an important ratio. LTV stands for Loan-To-Valuation and it basically determines how much money a buyer can borrow from the bank to finance the mortgage. For HDB, it's 80-90%, ie one can borrow up to 80-90% of the house price. In other words, punters can simply put up 10-20% in cash and punt the property.

The LTV can be made variable to deter punters and help the poor. Total asset size and household income might be a good place to start. A household with $50k in assets and $50k annual income probably isn't looking to punt HDB. But a retiree with zero income on paper but $50k from overseas stock dividends and $5mn in asset after his condo en-bloc sale might be.

There are other probable solutions to help cool the general property market (not just HDB) and also protect the rights of home owners. Maybe someone should write a 46 page report to address these points.

1. Improve lending rules to deter punters

Albeit this is already being implemented esp on the LTV front. Perhaps more can be done at the int rate level. Implement measures such that commercial banks cannot provide lending at ultra low interest rates as it encourages punting. This might include charging a higher spread over SIBOR or SOR, or maybe even a complete revamp of the system: ie not using SIBOR/SOR but a flat rate of say 2.x%, like HDB. The other solution would be for MAS to raise short term interest rates. However this have far wider economic implications.

2. Tax developers more

Property developers enjoy supernormal profits. If a developer just sell 60% of a condo development and can breakeven, something is not right somewhere. The other fact is somehow any Ah Beng, Ah Seng also can be developers. Look at Popular bookstore, SPH or some of the smaller construction firms. I am not sure about the specifics, but I think there is some loophole somewhere. Increase their taxes.

3. Change en-bloc rules

If 80% of the people say you should let them sleep with your wife, does that make it ok to really let pple sleep with your wife? The en-bloc rule is terrible for someone with no intention to sell their house. Protect their rights - naturally this will disrupt the supernormal profits of developers as well.

4. Land sales

This is coming. Marlboro Tan was pressured to do something to cool the property market. Maybe land supply should also follow the same logic with HDB, ensure some supply in place and use it as a tool to control prices. Also, make it difficult for developers to get land cheaply.

5. Tighten psf criteria

As you should know, they change the ruling some time in the 90s to allow like balcony, aircon area, wall area to count towards floor area of house. Hence old flats are much bigger even with same paper floor area. Change this. Or maybe make sure it doesn't get worse and owners doesn't get shortchanged.

6. Talk down markets

Talk is cheap. Just give some conservative statements. Like "although property prices will rise in the long run given Singapore's progress, the current situation calls for prudence. We urge new buyers to consider their financials when shopping for new homes." Don't just talk Ra-Ra all the time.

7. Restrict foreigners

Make it more difficult for foreigners to buy. After all they are mostly punters anyways if they don't stay here, or have any connections with Singapore. How do they contribute to the well-being of Singapore? Make sure they need to park like a godzillion dollars here before they can buy anything. Oh and their LTV should be like 20% or something. And tax them jialat jialat!

Well these are some measures that can be put in place, albeit some already are. The implications are that property prices will fall, a lot of punters will go bankrupt and the banks with the most mortgages might suffer a little. But it might be a good thing for the future. Take out the froth, endure some pain. At least our kids would be able to afford HDB again and maybe even pursue the 5C dream of owning a Car, a Condo, a Country club membership and have some Comfort in having their own Children some day.

Wednesday, April 27, 2011

What's Wrong with HDB Prices?

So HDB prices are not overly expensive but everybody blames our Govt for the pitiful state of things. Now new couples cannot afford HDB, not to mention low and middle income families, old folks, the disadvantaged. If they cannot afford HDB, where are they going to live? How are they going to survive? The sentiment on the ground is definitely very different from what we have established in the last post.

We shall look at a few issues that might shed some light into the disconnect:

1. Then and Now
2. Sour Raisins
3. Policy Blunders
4. Broken Dreams

Then and Now. Most people have great memory with regard to two things: their salaries over the years and their home prices. This point illustrates how the Price to Income has changed for HDB over the years. Long long time ago (like the 1970s), as the older generation would tell us, HDB flats were going for $20,000. Back then the pay was like $600 per month, so price to income was a mouth-watering 2.8x! And nobody wanted them! Okay maybe that's too ancient and not so relevant. Let's look at 2007. According to HDB website and Singstat, 4-Rm HDB was going for $241,000 and our median household income was $59,000 or so. That's still a cheap 4.1x compared to 6.4x today.

So while HDB is still cheap today when compared to other Asian cities, it is definitely much more expensive compared to its own past. Our incomes have not risen as fast as home prices. Everybody knows that. Well... except the Govt. Or actually they did know, maybe they just had a different agenda: like building the country's reserves or something.

Sour Raisins. To make things worse, our low income households bore the full brunt of higher prices. In 2000, the monthly salary of the lowest 10% was $1,276. In 2007, it went up to *drumrolls* $1,221. Sorry, it actually went down by $55. Finally in 2010, it went up to *drumrolls and crackers* $1,400. An increase of a whopping $12 per year from 2000 to 2010! How impressive! Meanwhile the top 10% grew from $14,959 to $23,684. Close to $10,000 increase. Answer to the recent poll: 17x difference.

Okay, that's a bit dramatic. But the point here is that the lower to middle income group hadn't had it easy. While the top 20-30% of the population enjoyed higher salaries, get to eat at fancy restaurants, drive new cars, upgrade to better 5-Room or Executive HDBs or even condos (yes this refers to all of you money-grubbers reading this blog!), these low income families are eating from hand-to-mouth. It's not even sour grapes, it's leftover sour raisins. And they have to share with their kids while servicing their 35 yr mortgage.

Frankly speaking, it doesn't really matter to them whether the price to income is 5x or 10x, to them it's always 35x, or until retirement. They definitely don't benefit if prices go up, bcos it's their only home and they cannot sell. The Govt seriously needs to do something here. Albeit they are already lending a helping hand, just that it's not publicized that much.

Policy Blunders. While HDB prices are inexpensive, I guess what really gets on peoples' nerves are various policy blunders that led to lower quality and service, like diminishing floor area, supply demand issues and the stupid 8k rule.

On lower quality, it's no secret that home sizes are forever shrinking. An old 4-Room HDB are now as big as 5-Room. Maybe in another 10 yrs, a 5-Room would look like Mickey Mouse's toilet. Bcos they counted the floor area of your balcony which is now bigger than your living room, the aircon unit, the common corridor and staircase as well! Why is this allowed to happen? Talk about major policy blunders!

Quality of finishing also had some hiccups. Remember the aluminium window frames that fell off? Or wall tiles that keep cracking? Well, admittedly, some of these issues have been resolved.

On lower service, this is actually tied to the supply demand mismatch. Basically new HDB owners have to wait on average 2-3 years or so before they get their flat thanks to HDB's "policy" of building behind curve and always in a roller coaster fashion. Just as an example, they overbuilt in the earlier part of the decade, flooded the market with tens of thousands of flats in Boon Lay and Sengkang. Then decided not to build anything, which led to the current situation of newly weds having to wait 2-3 yrs between ROM and customary ceremony. Meanwhile we want higher birthrates!

And now HDB decided to go all out and build 40,000 flats in the next 2 years, staging the market for the next cycle of boom and bust.

So despite paying up for a more expensive home, Singaporeans have to wait longer to live in a smaller unit with probably more defects and subjected to illogical rulings like an 8k income limit for a $780,000 flat.

I guess that is the ultimate unforgivable deed.

Broken Dreams. So far, all the analyses are being done on HDB. Prices though not as expensive as other Asian cities, are rising too fast too furious and policies are crap. Hence there's a lot of dissent on the ground. The far more important piece of the puzzle, is actually the private condo market. Even without doing any detailed analysis, most rational people would come to the conclusion that the Sg property market is frothy. Just a quick glance of two measures: Price to Income is more than 20x if you use median household income, or 13x if you use the 90th percentile. Rental yield is closing in on 2%. ie Froth-on-your-Tiger-Beer level. Any frothier, it's either going down the throat or the chute.

But the biggest setback posed by the private home market is this: It destroyed the 5C dream. THE Singapore dream. An average condo now costs more than a million bucks. Actually the average price is probably like S$1,875,000 (using $1500 psf times 1250 sqf). This means that 80% of the population with annual income of less than S$100k, cannot afford to upgrade to a condo, no matter how hard they try. Bcos it will take them close to 20 yrs just to earn that face value, assuming they spend nothing. With the new ruling of only 60% LTV, it means you need at least S$750k in cash or CPF to buy an average condo. Well, if you have S$750k, I guess it's better to buy yourself 20 yrs worth of food and staples in preparation for retirement. Bcos those are the next items to skyrocket in prices.

So that's the long and short of it. Singaporeans are probably more unhappy with uneven distribution of fruits of labour, policy blunders that let to poorer quality and service and the broken 5C dream. More so than just rising HDB prices itself.

Next post, we discuss some possible solutions!

Monday, April 25, 2011

Are HDB flats really too expensive?

With the election fever running high, it is probably apt to re-visit the property topic, a boiling hot button issue that is on everybody's mind. While various statistics had been throw around by the media, nobody actually believes them. So here is an independent analysis of whether HDB flats are really too expensive.

We shall look at a few measures:

1. Price to Income
2. Rental Yield
3. Absolute Prices
4. Housing Debt to Income

Price to Income is one of the most widely used affordability measure. Basically it is just median housing price divided median income. (info from HDB and Singstat). For Singapore, I am using the the 4 room HDB median price of $385,000 dividing the median household income of $60,000 which gives 6.4x. If we use 3 room, the ratio becomes 5x. Globally, this ratio ranges from 3-20x. Anything close to high teens is usually considered bubblish while anything below 5x would be consider cheap. In developed Asia, most cities are at a high single digit or low double digits.

Tokyo 9x
Guangzhou 8x
HK 11x
Shanghai 10x
Beijing 12x
Taipei 11x

Hence strictly speaking, HDB prices are not that expensive, but we cannot really say it's cheap though bcos 3-5x price to income is relatively common in other parts of the world, esp in sub-urban areas.

However, if we add in condo prices, Singapore is then close to 20x ie higher than most Asian cities, read: bubblish levels.

Rental yield of HDB is calculated using info on HDB's website. Basically using annual rental divided by the median price.


Median prices

The rental yield comes up to around 5-6% for 4-Rm, 5-Rm and Exec and *pause for effect* an amazing 7% for 3-Rm HDB. Again global rental yield ranges from 1-9% with 1% yield during bubbles and 7-9% during crisis. The average yield being closer to 3-4%. So again, HDB rental yield at 5-6% are not exactly indicating that they are overly expensive.

However we must also understand that the HDB rental market has its own idiosyncratic issues and also the no.s quoted are gross yield. With the Singapore RE market, there are various charges that come in such as agent fees, ridiculous renovation fees, down periods and fickle tenants. Esp with HDB, you can expect more problems and hence fees/downtime to take a bigger chunk out of gross yield bcos the absolute rent is not high to begin with. We are talking about S$1300-2000 per month. Tenants also tend to be very price-sensitive and picky, bcos if they aren't, they would have chosen condos. So a 5% yield might be just 4% in reality.

In terms of absolute prices per psf, well I guess most avid Singapore property followers would be more updated than me. HDB psf prices are roughly S$500-800, as compared to Sg condos which can be S$1000-3000. In comparison with global cities, the average is probably S$1200-1500. So again, HDB prices are not that expensive. However if we compare sub-urban areas, then prices are way below our HDB prices.

As for housing debt to income, HDB minister Marlboro Tan quoted that we are about 30%, which is not different from global standards. Granted, most Asian cities are higher, at 35-40%. But again, in US, 28% is what credit agencies would recommend, so we are just a bit higher than that.

Just to summarize, let's look at how HDB flats fare on these four measures

1. Price to income: fair to slightly expensive
2. Rental yield: Cheap in gross terms, maybe fair in reality
3. Absolute prices: Fair in total, cheap compared to cities
4. Housing debt to income: Fair

So on four counts, HDB is probably expensive on only 1 count: Price to income. This is however the most important measure out of those four as it directly determines how the buyers' incomes relate to home prices. Then again, bcos HDB is actually fair or cheap on various other measures, it makes sense as investors to buy HDB flats.

So we established that HDB flats are not way over-the-top expensive, esp so when compared to other Asian cities. In fact it gives a decent yield if we gauge them as investments.

Why then are Singaporeans so angry with our beloved Govt?

Next post, we shall examine the red-hot button holes and threads in detail!

See also Solutions to the HDB Conumdrum.

Sunday, April 17, 2011

Hyflux Preference Shares

Like most yield hungry Sg investors, I have been googling around on Hyflux's preference shares, but sadly, the information online is still somewhat lacking. One of the best analysis out there is done by la papillion:

The blogger has written a blockbuster trilogy as well, do read through his whole analysis, totally worthwhile! Considering that the deadline for subscription is like 3 days from now, I guess this will be the first and last post for me.

For those really dunno what's going on, Hyflux is the leading water company in water deprived Singapore. The mkt cap of the firm exceeds a billion dollars, which means it is not your small fry SGX listed co, this can be the next Keppel Corp one! Recently, the firm announced this plan to raise S$200mn via pref shares with perpetual yield of 6%, with a step up to 8% some years out.

A pref share is similar to a bond in the sense that it gives you an interest income (well in this case a more or less compulsory dividend). The difference being that the dividend is perpetual (at least theoretically). Also pref shareholders are junior vs debt/bonds but senior vs common equity. This means that if the firm goes bust, pref shareholders stand to get something only if all bondholders have taken their share - ie nothing much left lah. However, pref shareholders usually enjoy a higher dividend. In this case, a good 6%!

As for Hyflux, there are various issues involved and I will simply summarize the pros and cons briefly here:

Here's the good part first.

1. The dividends are cumulative - ie if they fail to pay one time, they must make up next round, ie you will more or less get your 6% over time.

2. The dividend must be paid as long as common shareholders are paid, bcos pref shareholders are ranked higher vs common shareholders. Looking at its common dividend, Hyflux's track record is ok, not super stellar but at least got dividend every year since a couple of years ago, albeit the yield is pathetic, like 2% kind.

3. Hyflux enjoys the support of the SG govt, while it is unlikely that the govt will step in to save the stakeholders (ie debt or shareholders) in the event Hyflux goes belly up, it is also unthinkable that Hyflux would actually go bankrupt in the next 3-5 yrs. The govt has in the past been supportive of Hyflux, awarding landmark mega contracts (like the first de-salination plant etc) to the firm every couple of years.

4. It is a well-runned company. Top management knows their stuff and has earned the respect of both investors and competitors. Just that it is in a bad business. More on this below.

Here are the cons:

1. Why is the firm doing such a detrimental financing? They can always borrow from the banks at a lower rate, but they chose pref shares, and have to pay 6%. It might have something to do with their credit rating, if they raise more debt, the rating will fall. It then also says something about their financing options. Last checked, the firm has S$1bn in debt and S$500mn in equity. It's definitely higher than most SG blue chips although not that bad if you compare it with global co.s. Maybe the uprising in Africa is really taking a toll on their businesses. Or maybe Olivia Lum thinks that she should share her success with all Singaporeans. Well that is my wishful thinking :)

2. Hyflux's business model is not robust. It relies on winning projects, which in turn is economic sensitive. Even worse, its growth relies on winning ever bigger projects, most recent ones were like US$1bn or more one. In bad times, like during Lehman, project pipeline dries up and cashflow goes into red.

Also, they have no say over the price, they bid for the projects and can only win with lower bids vs others. Inflation in the last few years is causing their input costs to go up. Now with Libya, I suspect they are not in a good shape although a recent SG project should help. This validates the point made above: the SG govt lends a hand during bad times.

3. The cashflow track record is not exactly great. Over the last few years, they averaged FCF of S$30mn, which means that this pref share dividend alone will eat up S$12mn or 40%. There is one year the FCF went into -40mn, so if that happens again, the shares WILL plummet, both pref and common, like it or not. In short, not too much of a buffer that can guarantee payment until perpetuity.

4. The shares will trade on SGX come end Apr, which means that there might be downside risk if you need the money. It can be trading at $80, then you lose 20%. Of course I suspect it should trade above $100 in the next few weeks bcos Sg investors are suckers for such high yield. Already it's oversubscribed by 8x or so. But we must remember when the going gets vicious, it is likely this thing can go to $70 or even $60. The OCBC pref shares went to $80 during Lehman (now $104). If that happens, you have to ask if you are willing to add more :)

4. Hyflux is likely to buy back the shares asap, 6% of 200mn to pay every yr is no joke (S$12mn as mentioned, or roughly 40% of its FCF), but that's ok even if we just get a couple of yrs of 6% as the shareholders.

5. Finally if you subscribe, you need to do some guesswork, bcos you are not going to get everything. From the 8x oversubscribed no. probably $100k will get like $15k or something. Then again, you must be prepared you might get everything, but this is quite a low probability event now.

Conclusion: Probably an ok deal though not entirely secure like buying the safe and sound blue blue chips. Buyers would be betting on some implicit government support in really, really dire straits, a competent management that knows what they are doing and of course the 6% yield. 2 days left to go to the ATM to subscribe!

Thursday, March 31, 2011

The Nuclear Saga Continues

After 3 weeks of intense battling with the nuclear reactors, our heros at Fukushima aren't really winning. In fact the situation is going from bad to worse. Radioactive substance is found in almost 100 different types of food, seawater is contaminated, tap water in Tokyo cannot be drunk, the area around Fukushima would probably be unlivable for the next 20 to 30 years.

The final outcome might be similar to Chernobyl, ie pouring a few hundred thousand tonnes of concrete to entomb the reactors. Even that is just a temporary fix. Ukraine now needs financing for a permanent structure to seal Chernobyl and has difficulty getting it.

The key company in question, Tokyo Electric Power or Tepco, meanwhile fell 80% over the last 3 weeks and it looks like it's going to zero. The reasons: cleanup, decommission, compensation costs is likely to wipe out its entire equity. Even bondholders might need to bear the brunt.

Tepco is also a sad case of becoming a political sacrificial lamb. Its public track record has been dismal. The co was run by ex-bureaucrats "descending from heaven", who are there to enjoy retirement rather than to run a company. Experts warned the company about inadequate measures, both Fukushima and also another nuclear plant that was affected in the past, but were brushed aside. And of course, the most unforgivable mistake: mis-reporting the radiation levels! Man, wake up your idea!

So while the earthquake, theoretically speaking, was a natural disaster and hence Tepco should not be asked to pay for compensation to the farmers and the fishermen, the Japanese govt would likely let it shoulder the bulk of the cost. Not to mention, the govt itself is really tight on budget. It cut the child allowance to raise money for the handling this disaster. Sorry kids, no milk for you until you are 18, and we have to send you to study in University of Heidelberg, where education is free.

But even without the compensation costs, the other big ticket stuff like decommission of the plants, replacement fuel cost and other nitty gritty are likely to put a huge dent into the equity. Assuming the market is correct, these should add up to like USD 20 plus billion, roughly equivalent to the fall in value of its market cap.

For the retail shareholders who held this stock for its dividend, tough luck. Suddenly, almost the entire capital is gone! I guess this truly highlights the risk of equity investing, or rather, any kind of investing. Things can go really, REALLY wrong! Hence it's always prudent to just put money you can afford to lose.

The bigger lesson: diversify. Make some kind of rule, like never put more than x% of your net worth into one investment or something. While it will be difficult to hit the jackpot, at least, if something like Tepco happens, the kids still can have their milk or go to a school of their choice.

With the nuclear story going down the chute, the smart money is pouring into LNG, oil and coal. This is the sad outcome: the world will become a hotter place. Well if we get to tap on more of LNG, it's not so bad bcos it's still the less carbon intensive among the three.

But LNG requires huge infrastructure: the gas pipes, the LNG tankers, the terminals to store them, liquification and gasification equipment etc. It would take some time for Asia and some of the emerging countries to build this up. Meanwhile the LNG stocks have gone to the moon in recent days. Check out Woodside Petroleum of Australia.

I guess in time to come, the world would realize that it still needs nuclear energy. Nothing is as cheap, reliable and scalable in a big way. Hopefully we won't have to wait 25 years after Fukushima. Or we would be wearing a lot more dry-tech T-shirts and using a lot more Ice-Type face wipes!

Saturday, March 19, 2011

A Long Nuclear Winter for Nuclear Stocks

The nuclear industry was one of the sexiest story for 2010. With the BRIC's rising fast, the world's hunger for energy looks insatiable. Renewable energy, bio-fuel, oil sands, nuclear were the buzz words. Nuclear was special though. It's clean, cheap and scalable in a big way. It can contribute 25% to the global grid if the world's govt put in the effort. Some developed countries are at that ratio. France, the No.1 nuclear supporter, is at 70%. Sadly for the world, today it's still a miserable 14%.

Undoubtedly it will go down below 10% in the next 10 to 20 yrs, thanks to what had transpired at Fukushima. Almost every country with major nuclear plans started talking about holding back, including the US, France, UK and India. Germany, a country that had never believed in nuclear after Chernobyl went a step further to expedite the decommission of existing plants that are deemed too old. Finally, a couple of days ago, China the last man standing, decided to review its nuclear power plans.

As for nuclear stocks, which were darlings just a couple of months ago, became dogs. On average, they were down 30%. Some of those most badly affected by Fukushima were down 40-50%. Some are now trading at 10x PE multiple, as compared to at least 15-20x when the story was hot.

I guess the lesson learnt here is one on valuation vs story: never pay for a sexy story. Just like Buffett, he is known never to pay for growth. Value investors should follow Jerry Maguire. Show me the money first. Buffett pays a good multiple for a good franchise, with strong track record but not for concept, nor sexy growth. Well he did buy BYD, but he paid HK$8 for HK$0.60-0.80 earnings ie 10-13x at that time. That's not so bad. You have to give it to him lah.

If you have a hunch for a good story e.g. nuclear or smart grid or cure for cancer, look for beneficiaries but also look at the multiple. If it's 10x, well that's a no brainer, buy. If it's 15x, then you need to ask, okay, is the growth going to be more than 15% and how sustainable is that, 2 yrs or 5 yrs or 10 yrs? If it's 20x, then forget it, even if it makes the growth, you have paid $1 for $1 worth of goods, there is no additional upside.

The nuclear stocks were just that. trading at high teens, the growth was factored in and when Fukushima came about, they cracked, like a Singaporean having a hard time in Mumbai, after drinking its water.

So now is it time to buy nuclear stocks? Sadly, I don't know. Some of them are now 10x, yes that is cheap, but earnings might decline going forward. After Chernobyl, we know the industry is not going come back for a long time. Last count, it's about 25 years. It's a long nuclear winter ahead. Maybe this time we are in a different era, we are really short of energy. Maybe the governments will finally get rational as they know that without nuclear, we are going to make the Arabs very rich and Qaddafi very powerful and that is not good. So they push ahead with their plans for more nuclear power. Well, that is wishful thinking perhaps.

As a last note, it is worth highlighting that for all the unfortunate souls who suffered or died from the effects of nuclear radiation since nuclear came about, the worst impact was not the pain nor the fear of dying. It was actually discrimination, by "normal" people. Imagine telling someone you just met that you are from Chernobyl in 1986 or Hiroshima in 1945. Next thing you know, they are ten feet away and running. Shunned by society, these victims suffered the most at the heart, not the body.

I hate reducing people to numbers, but it tells the story really well. So this is the punchline: The number of victims due to nuclear accidents since the birth of nuclear energy is less than 10,000 in all. In comparison, 20,000 coal miners dying every year. Not to mention the many millions more who get affected by polluted air and water. So should we be shutting down coal mines or nuclear plants?

For a solution that can solve a huge part of Earth's energy problem, Chernobyl and now Fukushima does really have a disproportionately huge negative impact far beyond what the media monkeys can imagine.

Anyhows, for now, let's just hope that our 50 heros at Fukushima can save the world this weekend!