Idea Of The Week: Singapore’s market appear oversold

When investor confidence is weak, market tends to be erratic. The built up of pessimism sets no floor for sentiments as investor concerns over slowing global growth propagated into a comeback of a global recession, just 2 years into the recovery. As a result, a full year of gains were lost in a week as the STI index fell to a recent low of 2796.22 on 11 August 2011. The last time the market traded below that level was 11 June 2010.

It appears that the market has begun pricing in a recession while economic fundamentals remain largely unchanged and companies reported strong profits in 2Q 2011 with net positive surprises. The irrational market movement suggest that the local equity market appear to be oversold (see chart below).

1. Global recessionary fears overdone

• The root of the problems stems from developed markets, which exhibit signs of slowing growth
• Contagion to Asia highly possible, but unlikely to bring about global recession
• In fact, even a self-contained US recession was not our base case as such is usually a result from prolonged period of excesses (see US: What Is the Impact of Zero Percent Growth?)
• Our perspective is that global recessionary fears are not justified and likely overdone

2. Strong earnings with net positive surprises

• Technical recession in Singapore may be possible, but such is the always the case due to our cyclical manufacturing sector (see Temporary Speed Bump For Singapore in 2Q 11)
• Companies have generally reported strong earnings with net positive surprises
• Despite global concerns of slowing growth, coupled with a sharp market sell-off, estimated earnings for the STI index saw a marginal upwards revision by analysts over the last one week as reported 2Q earnings lends creditability to full year earnings
• We remain positive of Singapore’s earnings growth over the next couple of years

3. Equities more attractive after recent sell-off

• The divergence of earnings growth and the recent market movement saw equities trading at a more attractive level
• Trading at PE ratio of 12.8X based on 2011 estimated earnings, the market offers a reasonable level of upside for investors
• Even if the market does not re-rate by the end of the year to a PE ratio of 16X, which by our estimate is considered fair, the current low valuations will nonetheless provide attractive downside buffer for investors who are hunting for bargains

We concur with the view of slowing global growth but disagree on the risks of a global recession. As such, we remain optimistic on equities. Even if sentiments remains weak and markets remain volatile, current valuations for Singapore equities offer attractive upside with reasonable downside buffer. We are in the view that Singapore’s equity market is oversold and believe that investors are likely to find opportunities from the recent sell-off. If you intend to hunt for bargains, this may just be the time to start. However, do avoid lump sum investment if your appetite for risk has yet to return.