Euro-led slow down, tensions in Korea, can it get any worse?

The STI lost 2.7% today, falling to 2651.19, at the lowest level since early November 2009. Current investor worries (in decreasing order of importance) are:

1. A Euro-led global slowdown, leading to a double-dip global recession
2. Issues related to the Euro area: a potential debt default by one of the PIIGs, a break-up of the Euro-zone, uncertainty over European bank balance sheets, systemic meltdown of the global financial system (ie. Lehman's 2008 failure)
3. War breaking out on the Korean peninsula
4. Chinese asset bubble/tightening worries
5. A (largely benign) financial reform bill being passed in the US, and perhaps, the potential impact of Basel III on financial institutions

While stock markets have corrected severely from their April highs, most (if not all) major stock markets have recently broke through their 200-day moving averages, a rather bearish indication from a long-term technical perspective. We would rather not commit more new funds at this juncture, as the technicals are suggesting further downside but post-correction valuations look rather appealing for many stocks we are watching. 

We can hardly think of any potential positive news which may provide the investment community with a shot in the arm at this juncture (especially to alleviate problems 1 & 2), so any impending rebound will largely be the results of technicals (and the technicals hardly look favourable now!). Given that we are currently short on "powder", we want to keep some dry in anticipation of a major capitulation in the stock market. Investor sentiment is largely negative now which means that we may be approaching the point of capitulation, but we probably need to watch for some of the following to occur:

• Sell-side analysts need to turn very bearish (consensus estimates for most markets are still on the rise)
• GDP estimates need to be revised downwards (like market earnings estimates, still on the rise)
• A "haircut" taken by holders of PIIGs debt, possibly beginning with Greek debt

As austerity measures face significant protests, it is increasingly likely that the country's creditors will have to take a hit. When this happens (we think the market is not yet pricing this in, given the euphoria over the ECB/IMF bailout package), the market could suffer an even larger decline. As has been the case in various financial crises, the failure or near-failure of major financial institutions often mark the market bottom. In the current issues with Europe, the marking down of Greek, Portuguese or Irish debt by European financial institutions could mark the climax of a market capitulation, in which we would be very happy buyers of quality companies which are also sold down in the fray of madness (despite their seemingly lack of association with the troubles of the European economy). 

We continue to like and own Wells Fargo, and are well aware that any negative sentiment on the financial sector will undoubtedly hurt the stock. Nonetheless, the company's strong fundamentals, low (and stable) cost of funding, and prudent management render the company an attractive investment, separating it from its peers. 

   

STI down 11.1% from recent peak, bought some Noble Group shares

The STI was 1.9% lower today, after weakness on Wall Street last night. The Singapore stock market has declined over 10% from the recent peak in early April, a sharp drop in just five weeks. Considering the risks known at present, most of them stem from European debt problems and the collateral damage often simplified in the media as the "Greek contagion". 

While throwing into question the risk-free rate of certain developed European economies is certainly unprecedented, systemic risks have been substantially reduced after the huge bailout package put together by the EU and the IMF. We are investing on the basis that a credit market seizure on the scale following Lehman's collapse in late 2008 will not occur again, which means the risks for Singapore stocks will largely be associated with lower levels of consumer demand. This is yet another indication of the growing disparity between emerging economies and developed ones, and Singapore is fortunate to have companies positioned to benefit from emerging market growth, without the tricky corporate governance issues.

The market correction is painful, yet inevitable and long-awaited. Wilmar was sold down yesterday on fears that the Indonesian government would take legal action to reclaim certain unauthorised tax rebates that the company had received over the past three years. The stock has already corrected more than 20% from its recent peak to levels last seen in July 2009, a worthwhile punt, but we will have to study the company in greater detail before making an investment decision.

In response to the market sell-off, we added $10,000 in new money today to the overall portfolio (the portfolio is almost fully invested). With some of the proceeds, we purchased 1910 shares of Noble Group, (one lot at $1.60, 910 shares  at an average cost of $1.624) at  to top up our holdings to 5000 shares. Noble recently did a 6 for 11 bonus issue, which meant that we held 3090 shares from the original 2000. With the shares falling as much as 9.4% this morning (with no negative company-specific news), we decided to add to our position in the stock.  

 

Sharebuilder additions for May

Bought the following via the Sharebuilder (18 May 2010):

21 shares of Fraser and Neave at $4.75
33 shares of STI ETF at $2.92694

Portfolio gains 4% in April, but May starts in horrible fashion

The portfolio gained 4% in April, as NAV rose to $1.064. On a total return basis, the benchmark STI gained 3.6%. Year-to-date, the portfolio has risen 6.4% and has outperformed the STI's 3.5% (recall that this is after performance fees of 20% of an outperformance of a 6% annual return).

While we would like to focus on what went well in May, that is rather irrelevant at present as the first few days of May has seen markets reverse their gains. The STI is already 1% lower (YTD, as of 6 May 2010), while our portfolio is marginally positive, up 2.4% over the same period. Instead of moping over the poor performance of our holdings, we have re-examined our investment thesis for each stock and have highlighted lower conviction ideas which we will wish to sell in the near future. At the same time, we have also identified stocks which we may want to increase exposure to if the market presents suitable opportunities. We are relatively pleased with our holdings overall (and view the recent market weakness as a temporary condition).

Thus far, our key low-conviction idea is SGX. We dislike the high valuations and the company's growth potential is likely overrated. Latest earnings have been slightly disappointing, and we think that the Exchange is not likely to be successful in the futures market (traders prefer anonymity). Other products like ETFs have shown a bit of promise - volumes have been rising but are a far cry from being a stable source of revenue. Overall, the breadth of products has been expanding, but the actual impact on revenue has not fared quite as well. 

On the other hand, SGX still maintains its monopoly status as a clearing house in Singapore, and a wildly exuberant market could send the stock heading much higher, as market turnover rises. It will likely take more than normalised trading volumes to provide an upward lift to the stock price, something we are not comfortable "speculating" on.

At the same time, Chinese property stocks have displayed considerable weakness as the Chinese government implemented new regulations to cool the property market, and several stocks have been beaten down considerably (names like Yanlord Land spring to mind). We purchased another 1000 shares of Capitaland at $3.57 today (6 May 2010), amid the weak market conditions. The stock trades at just a slight premium to book value (about 1.13X), a far cry from the 2.75X seen in the 2007 bull market. Capitaland has been sold down on concerns over its Chinese property exposure (about 35% of assets), and we think the recent correction provides a good entry point to double our exposure in the stock.  

[on a less fundamental note, the 38.2% retracement from the Apr 2007 decline to the 9 Mar 2009 bottom is $3.55 (adjusted for rights)]

Sold Hotung for a quick profit!

We bought Hotung at US$0.11 on 5 March. On the strength of liquidity provided by the company's share buybacks, the stock rose to a recent high of US$0.135, and we were able to sell our 15,000 shares at US$0.13 on 30 April for a quick profit. Admitedly, the US dollar has weakened against the SGD on the back of MAS monetary policy tightening, but the stock also went ex-dividend (approximately US$0.0076 per share) on 29 April, which means we are collecting a further $150 in dividends.

1Q 2010 results - CMT, CIT, WFC

CapitaMall Trust

CapitaMall Trust reported 1Q 10 distributable income of S$71.1 million, or about 2.23 cents per share. Actual amount available for distribution was S$80.6 million (approximately 2.54 cents per share) so assuming no retained income (100% distribution), we can expect an annualised DPU of about 10 cents.

Asset enhancement projects are underway (Raffles City basement extension, Jurong Entertainment Centre) which provide a form of organic growth without having to resort to further acquisitions. The incremental net property income expected from the JEC project (construction contract below budgeted amount) is S$16.1 million per annum, which could potentially increase annual DPU by as much as 0.5 cents, or 5% of DPU.

Cambridge Industrial Trust

CIT reported net property income of S$16.3 million, down q-o-q due to the divestment of 32 strata units at 48 Toh Guan East (Enterprise Hub). Distributable income was S$11.1 million, down from S$11.9 million in 4Q 09 and translates to DPU of 1.274 cents.

Long term debt (S$390.1 million, expiring Feb 2012) has been swapped to fixed from variable, which will probably result in higher interest expense over the subsequent quarters (and hence lower DPU). Gearing was at 42.6%, and the Managers have highlighted a preference to bring this down to around 38% by the end of the year. Longer term, target gearing is between 30-35%.

We continue to like CIT for its stable income, high occupancy rate and relatively long average lease term (approximately 4.4 years, with just 6.9% of rentals expiring before 2013). SGD assets which yield close to 10% are impossible to find at this juncture, but we are also mindful of the various risks which the REIT entails. The fiasco with AIMS AMP Capital Industrial REIT is particulary troubling, and cost us unnecessary money. Unfortunately, we do not have any viable alternatives at this juncture (CACHE Logistics Trust was interesting, but we prefer not to invest in IPOs), and will retain our rather large position in CIT for the steady source of quarterly income.

Wells Fargo

Wells Fargo reported net income of US$2.5 billion for 1Q 10, or EPS of US$0.45, ahead of the US$0.42 expected by the consensus. PTPP (Pre-tax Pre-provision profit) was US$9.3 billion for the quarter, an indication of the immense earning power of WFC. Tier 1 capital rose to 10%, considered a relatively healthy position while loss provisions rose slightly to US$25.1 billion, up from US$24.5 billion in the previous quarter. As an indication that banks are turning the corner, WFC's Chief Credit and Risk officer believes that quarterly provision expenses and credit losses have peaked, while non-performing assets which commonly lag credit losses are still expected to increase, but will peak before year end.

WFC managed a 4.27% net interest margin for the quarter (easily the highest among large US banks), translating to net interest income of US$11.3 billion. Much of this can be attributed to the strong (sticky) deposit base, where total interest-bearing deposits of US$632 billion cost the bank just 0.47% to borrow! The low cost (and also stable source) of borrowing is WFC's competitive edge, as opposed to short-term borrowings which are currently cheap, but can cause a bank's downfall should a crisis emerge and short-term financing dries up.

Third Avenue Management LLC nominates WBL director

 SGX-listed WBL Corporation Limited (Wearnes) – an international conglomerate with key businesses in technology, automotive, property and engineering & distribution – today announced the appointment of Benjamin C. Duster, IV, Esquire, as Non-Executive and Non-Independent Director with effect from 19 April 2010.

Mr Duster is currently Executive Managing Director of Watermark Advisors, LLC, a US-based strategic advisory firm specialising in mergers and acquisitions, private capital raises, strategic valuations and financial modeling. Prior to this, he was with Masson & Company, LLC; Wachovia Securities, where he was Managing Director; and Salomon Brothers, where he worked for 16 years. Currently Chairman of the Compensation Committee of Toronto Stock Exchange-listed pulp and paper producer Catalyst Paper Corporation, Mr Duster has also chaired various board committees of companies listed in Canada, New York and Poland. Mr Duster holds a Juris Doctor-MBA from Harvard University and a Bachelor of Arts (cum laude) in Economics from Yale College. He was admitted to the Illinois Bar in 1985 and is a registered representative of the National Association of Securities Dealers.

Mr Ng Ser Miang, Chairman of Wearnes, said, "The Board welcomes Mr Duster, who brings with him a wealth of experience in the legal, corporate finance and corporate strategy & development aspects of many global businesses. His domain knowledge, international perspectives and cross-border network will be added assets to the Group." 

"Mr Duster is nominated by Third Avenue Management LLC, a substantial shareholder of the Company. The Nominating Committee of the Company reviewed his nomination and based on his qualifications and experience, recommended his appointment to the Board of Directors. "

Considering that Third Avenue Management owns 17.47% of WBL Corp, it is a positive indication that the investment firm has nominated a director on board. WBL has a huge asset base, but it may take some experienced "prodding" to realise some of this value.