Climbing a Wall of Worry (25 Nov 2010)

Investors have been through a rocky 2 weeks. Ireland seemed on the verge of bankruptcy and needed to be bailed out by the IMF and the EU. But just when that appeared to be sorted out, the government was in danger of falling. Fresh elections could be held as early as in two months time. China was busy putting in new measures to curb the flood of hot money unleashed that was flooding in after America’s quantitative easing, and control inflation, and to top it off, North Korea took this time to fire artillery at South Korea, causing some property damage and casualties.

If not for the fact that I intend to rebalance my portfolio soon because the end of the year if coming up, I would happily have put in more money into equities now. All 3 concerns happening now can be considered politically driven, and one thing I have observed about most political events, their effect on the stock markets are usually quite short term. Let’s go through each of these.

First of all, Ireland. It was just this year that the Euro financial crisis hit and many European funds are still down this year in SGD terms. But there was already a huge reserve set aside to address this issue. Ireland is just one of the financially weaker that now needs to tap into this reserve. Markets got worries because the danger of the government falling meant that a new government might not accept the bailout, and if that happened, would it fracture the Euro.

However, this is a very remote possibility. No matter how much the Irish people might rail against the harsh budget cuts and belt tightening that comes with the bailout package, they have no other alternative lender. No one else is going to lend them that much money, and its not like they can hold a big asset fire sale to raise the amount either. They could do without the loan of course, but it would literally mean cutting themselves off from all international funding, and without foreign currency, they wouldn’t be able to buy any foreign goods and services. Unless they literally want to cut themselves off from the rest of the world, it is hardly an option.

So, they can take it out on their current government, bring in a new one, but even the new government would come in, take a look at the grim picture facing them and then will still end up accepting the bailout package, with all of its conditions in the end. Europe is very interesting right now. There is enough bad news that there must be some bargains there. Its just that this is going to be a long drawn out issue, and every time the next European country faces problems in the bond markets and is forced to accept a bailout, we will have these concerns surface all over again. So, investing into Europe now is going to require a lot of patience. There won’t be any quick gains, but for those who are willing to wait (and I think 3 years is going to be a minimum for Europe), then the current valuations are very cheap for Europe.

North Korea’s shelling of South Korea is another so called political event. It is almost certainly motivated politically. If a country really wanted to invade, it is not going to just shell an island. It will do far more than that. The danger is more that South Korea gets pushed beyond a certain point, such that it feels that it must take military action in the face of aggression. Has it reached that point yet? Probably not.

China’s tightening measures against the flood of money unleashed by America’s quantitative easing is the one that has the most direct economic and market impact in the longer term. Today, China has replaced the US as many of Asia’s biggest export market. China’s continued strong economic growth is one of the key drivers within Asia. If too much tightening causes China’s economy to falter, Asia would definitely feel the repercussions.

However, again from the China government’s perspective, they don’t want to see the China economy crash anymore than the rest of us. They are in the process moving two to three hundred million people from the rural areas to the cities. That is a huge number of jobs, housing, infrastructure and more that they need to create for these people. They can’t afford to have their economy crash and have millions of people jobless on the streets. And it is not like they don’t welcome foreign investment, since it was foreign investment that has resulted in such strong growth in the costal cities. However, if too much hot money flows in, inflation and over speculation in selected sectors will create problems too.

So, I personally feel that they will try all sorts of means and ways to curb too much inflow of hot money, inflation and speculation, but they will try not to touch interest rates too much. This is because raising interest rates is a very crude tool to guide economic policy, and they want to see China’s economy continue to grow strongly as well.

Thus, I am not so worried about what is currently happening. I think this year has been a big year of worry. Rarely has there been so many different things cropping up all within one year for investors to worry over, yet despite everything that has happened, most markets are on track to end the year with gains. It’s a classic case of climbing this wall of worry. There is lots of worry about, but the market will take two steps forward for every step back, and hence, over one or two years, will still move upwards. In this type of situation, the key is to remain calm, and be patient. These worries will eventually recede and when they do, we will see a significant rise in markets then.

In the meantime, the end of the year is coming up soon, so don’t forget to rebalance your portfolio! I will be doing this as well in the coming weeks.

Ireland Concerns make Germany Interesting (16 Nov 2010)

We are currently in correction mode. After the rise in markets triggered by the Fed’s QE2, China raised some of its bank reserve requirements. The move raised fears that China might be increasing interest rates, causing profit taking in markets. China’s consumer price index rose 4.4% year on year in October. It is thought that China may be willing to accept slightly lower growth to prevent too much hot money from flowing into China and this would trigger a slowdown in demand. As a result, commodities also retreated in prices. Oil was down as well (thankfully).

My view is that further tightening from Asian governments is to be expected. Asian governments know that hot money, while driving up stock markets and other assets like property, can also cause problems, precisely because they are hot money. And with Asian economies all growing strongly, there is really a concern to keep asset bubbles from developing, and to keep inflation in check.

In the medium term though, money will continue to make its way into Asia. Be it via massive funds raised in Europe and the US aimed at investing into Asia, or via corporations all looking to get a slice of the action in Asia by setting up in Asia, or direct investments from individuals and governments alike. Even currency is in Asia’s favour at the moment. The US stock market is positive year to date in US dollar terms. Convert that to SGD dollar terms and you are now looking at a loss. To investors based in the US or Europe, putting some money into Asia is almost like a no brainer. Even money invested into Asian bonds or emerging market bonds are giving them double-digit returns once converted back to Euros or USD this year.

Will this trend continue? I think it will, at least in the foreseeable future. What might cause a pull back would be if Asia suddenly chokes. But what would make Asia choke at this point? The concerns over inflation and hot money are well documented, and after the 1997/98 Asian financial crisis, all Asian governments are much more prudent now. And since they also know that allowing too rapid an appreciation in their currencies would wreck their exports, most Asian countries are all trying to keep their currencies at least at a reasonable trading level with the USD. If US thinks they can somehow deflate their currency out of their current troubles, it’s a rather unrealistic dream. Asian countries will be eventually seeing their currencies appreciate against the USD and the Euro though, whether they like it or not. Market forces are too strong in that direction.

The big inflows into Asia notwithstanding, by virtue of Asia’s increasing economic power, its countries’ currencies should appreciate. Look at Europe’s ongoing problems. Ireland has been hit in the bond market over fears that its finances were deteriorating. The interest rates on its debt has been climbing in recent weeks, with reports saying it was now as high as 8%. Investors worry that it would have to go to the EU and IMF for a bailout, though so far, the Ireland government has denied that it would do so. Fears that this would again trigger another round of crisis on the Euro currency was also one of the reasons for the current selloff. However, Ireland remains a relatively small portion of the Eurozone, so impact is still relatively limited at this point, especially since its ongoing debt problems is well known by now.

Europe is an interesting case. Especially Germany. Yes, the Euro may continue to come under pressure. They have a long road ahead of them to sort out their various problems with Greece, and other countries (the spotlight just turned back to Ireland). However, this doesn’t mean there aren’t good companies in Europe, or Germany for that matter. For example, Germany’s carmakers like BMW, Mercedes are probably doing even better in light of the lower Euro since their overseas earnings from overseas car markets are likely to see a boost due to the Euro’s fall. And a Gucci, or an LV bag isn’t going to priced any cheaper just because the Euro fell. So, I am looking to add to a Germany equity fund if these worries about Ireland cause the Euro or Europe markets to take another fall.

So, in summary, Asia’s uptrend will continue, though we can expect profit taking every now and then. At the same time, the hot money flowing in, while continuing to push up asset prices here, will not stay forever, and will add to the volatility in the region. Don’t neglect to consider other regions or countries outside of Asia. Opportunities may present themselves, even in regions which one might find difficult to consider touching right now! Don’t forget that some of the best bargains are to be had when everyone is selling.

The Fed has Turned on The Tap (8 Nov 2010)

The US Federal Reserve has turned on the taps, announcing last week that it would buy 600 billion USD worth of bonds supposedly to support the weak US economy. Personally, I think the US economy is doing fine. As our recent research report titled “US: On Track To Record-High Economic Output in 2011” shows, advance estimates show that 3Q economic growth was an annualized 2%. With the US economy expecting to grow between 2.5% to 3% in 2010 and another 2.4% in 2011, the economic output of US is now expecting to hit record levels by next year.

The main reason why there is so much hand wringing in the US, to the extent that the Fed has now turned on the taps again, is because of the unemployment rate, which is still at 9.6%. Otherwise, corporate America is actually doing great, and its companies are going to be seeing overall earnings at an all time high next year.

Nevertheless, the buying of bonds by the Federal Reserve, termed “Quantitative Easing” has unleashed a new flood of liquidity which has found its way into the market. Thus, commodity prices, emerging market bonds, emerging market equities have all seen a boost since last week’s announcement. Not all of this is simply liquidity flowing from the US into emerging markets. Emerging markets, including in particular Asia, has many other factors making it a good buy right now, including reasonable valuations, very strong earnings growth, and the entire region is basically shifting to a higher gear economically with China leading the way.

But things like strong corporate earnings, valuations and mega trends take time to happen, and some of it gradually takes place over a period of time. Asia did not suddenly wake up today and decided to become an economic powerhouse, nor did its companies suddenly overnight start to make lots of money. Now however, the Federal Reserve’s announcement has acted as the trigger, the catalyst that has unleashed the flood gates. Previously, even investors here in Asia were cautious, despite the many signs that Asia as a whole, was growing at a red hot pace.

Now, with last week’s announcement, the excess flood of money will also serve to bring about a relooking at where markets stand today, and based on fundamentals, there is much to like about Asia. This doesn’t mean just close your eyes and buy any Asian unit trust, or commodities fund, or resources fund blindly. Investors still need to be disciplined, and maintain a diversified portfolio and approach to investing. In the short term though, the flood of liquidity is going to continue to drive equity markets and commodity markets up, and after that, the strong fundamentals at least in Asian economies will help drive it Asian markets even further.

Ultimately though, will QE2 work? I don’t think so. Not in the sense that this round of QE is going to magically restore the US economy, in particular bring back jobs. But it will certainly result in a surge of liquidity that just happens to be the trigger that I believe will continue to propel Asian markets into this next phase of bull run we are seeing. In the medium term, it will also weaken the US dollar and cause commodity prices to move up even more.

Oil prices have now surged to over 88 USD per barrel as of 5 November, as a result of the Fed’s announcement and the surge of liquidity arising from it. Inflation and asset bubbles are a source of concern in Asia, and rising oil prices will heighten such concerns. It will remain to be seen if Asian governments take further steps to keep inflation in check. Also, higher oil prices will result in higher costs for Asia, which imports a lot of oil. If the US dollar continues to weaken, oil prices are likely to continue to trend higher. Certain pockets of assets, be it property, etc may also be subject to increased speculation arising from the excess liquidity, and if an asset bubble develops, then in time, it will eventually burst. Thankfully, we are not quite there yet, and based on many Asian government’s actions recently, we are trying to control the amount of hot money sloshing into Asia, so with luck, perhaps asset bubbles can be contained, or even avoided.

In the end, as with all markets, what goes up must come down. So, keep an eye out on overall stock valuations. These are the biggest indicators. We are not quite there yet, but when stocks in general all start to sell for 20 times or higher PE ratios, when all caution is being thrown aside and when everyone is queuing to jump into them, then its time to get a lot more cautious. The good news is that we are not at that stage yet, since most Asian markets are still off their all time highs. So in the meantime, enjoy the ride!

Added 2k More to Portfolio (29 Oct 2010)

Asian markets went into some profit taking this week, but that is exactly the kind of short term pull back I was waiting for to put in my monthly investments. So, I took the opportunity to add in $2,000 into my portfolio yesterday. These were all placed into Aberdeen Asia Smaller Caps.

I continue to think there is more upside potential in Asia, but the surge recently also means that some markets are more attractive while other markets are now closer to fair valuation. South Korea, and Asia small caps remain very attractive to me. Especially on a valuation basis, these look cheap. On the other hand, Thailand, which has run up so much this year, is starting to look fairly valued, and if the run continues, will start to look expensive.

Singapore equities is a weird case. I have great confidence in our country’s ability to grow, and our diversifying of our economy has made the case even stronger. Certain economies like South Korea and Taiwan are still overly reliant on manufacturing and electronics. They are dependant on the Tech cycle going in their favour. (Fortunately for them, I think Tech will continue to do well over the next two years). But China is catching up really fast, and China is going to move into every single sector it can, so the competition from China will only get more fierce. Singapore though, has diversified well. We are now into biomedical, and with the two Integrated Resorts, we are now even slated to have a gaming industry that will rival Las Vegas within two years. Not bad considering we just started it this year.

But having mentioned all that, the Singapore market earnings growth, at  is actually lower compared to many other Asian countries, and our valuations are higher as well. So, while the growth remains there, and I am confident it can continue, Singapore is not as good a bargain as other Asian countries. Other countries also have more upside compared to Singapore. Singapore’s forecast earnings growth for 2010 and 2011 is 9.8% and 9.7% respectively. This compared to just about every other country’s earnings growth which are in the double digits. Singapore’s forward PE for 2011 is now 14.2X. This is now no means expensive, but when compared to many of the other market’s valuations like South Korea, at 9.7X, Taiwan at 12.2X, and even Hong Kong at 12.9X, then you can see why our research has decided to downgrade Singapore slightly recently. Will it still reach 4000 points by 2012? Yes, I believe it will, but other Asian markets may do even better than that.

When I assess own portfolio, I note that my Aberdeen Singapore equity fund only forms 6.67% of my portfolio. This is of course in addition to the Singapore holdings that my other Asian equity funds will hold. Am I too heavily weighted in Singapore? I don’t think so. Most Singaporeans have a fair amount of investments in Singapore. I believe its called Home Country bias. So, I won’t cut any of my Singapore equity fund holdings as of now, despite the nice profits it is currently making.

Remember in the earlier part of the year when I called for patience as markets went sideways? The market often moves sideways for a while, even correcting a little before moving up again, even when it is on a general uptrend. When we see the market doing this, we either pick up some bargains while it dips, or be patient and wait. 2 years is not such a long time. I believe that as early as next year, we will see a lot of the current concerns clear, and the overall outlook get much brighter. Of course by then, markets are gong to be higher too. So, I will pick up bargains every now and then while I can.

I am still trying to save up for some big expenses like renovation, a car, next year too. Hard to do that when I am tempted to put as much as I can into equity funds right now. In any case, next week (1st week of November), I am taking a vacation with my wife in Bali. All work and no play is ultimately not healthy. So, I am taking a much needed break. We are even leaving the kids at home! So, until the week after, signing off for now!

More on Currency (22 Oct 2010)

More on this whole currency war issue. I still don’t understand the strong desire by the US to devalue its currency, and force the China Renminbi’s rise. While some quarters in the US think this is going to magically create hundreds of thousands of jobs, my view is very different. I think it won’t. And in fact, the devaluing of the USD will only hasten US’s economic decline relative to China, and relative to Asia as well. Just look at the United Kingdom. The British pound was at its strongest when UK ruled the commonwealth and over half the world. Today, the pound is a shadow of its former glory, and the same can be said for the importance of UK in the world.

In today’s inter connected world, no man is an island, and that goes for nations as well. If US thinks that it can somehow only export stuff, and stop importing stuff because it devalues its currency, it is badly mistaken. People buy your stuff if they want them, price is only one of the factors that come into it. The German pound ( and the Euro) was very strong right up to the Euro financial crisis, but that didn’t stop German car makers from competing right at the very top with Japanese and Korean car makers even as US car markers continued to lose market share. Look in Singapore, where cars from all countries are being sold. (We have no national car company of our own). The Mercedes and BMWs are the most popular cars right after Toyota. Even Hyundai and Kia cars are now becoming more popular as well, and its not just because the Korean won is cheap, its also because Hyundai and Kia now make good cars.

Ultimately, because of the flow of goods and services all over the world, countries which are gaining in economic power will still see it happen regardless of what happens to their currency. The average Chinese worker in China is still going to be cheaper than the average worker in the US even if the USD gets devalued another 20% against the Renminbi. And the US imports a ton of stuff too. So, if it gets its wish, then it is going to see the things it imports get a lot more expensive. Not everything can possibly be made in US, and some things will see demand regardless. The end result is that they will see US standard of living fall simply because the purchasing power of the US dollar becomes that much lower as the USD devalues. We are already seeing commodity prices resume their rise with the weakening of the USD. How much less commodities can the US possibly consume?

Another thing US perhaps did not consider is a reverse brain drain. US has benefited in the last few decades from a lot of talented scientists, professionals going to US to work and live there. The strength of strong purchasing power of the USD also had a part to play in this. It made it so attractive to live in the US that people were willing to leave behind family, friends, etc to travel thousands of miles to a foreign land to make their living. If this trend of the USD devaluing continues, there will be a reverse brain drain, and this will include skilled and talented Americans as well. In the end, if we look into history, I have rarely seen a situation where a country that finds its currency devaluing significantly over the years actually finds itself better off because of it.

On another note, this has been a flat week, but this doesn’t change my bullish view on equities. It is very common for stock markets to go through such smaller cycles even within the midst of a medium term uptrend. I would see any potential correction or dips in markets at this point in time as opportunities to buy. As always though, be careful not to get too greedy, so if you find that rising stock markets have caused your equity holdings to rise above what you are comfortable with, then take profit now and then so that you have the confidence to stay in the market in spite of its volatile cycles.

The next Bull Run is here, and Currency Wars (15 Oct 2010)

The STI index looks likely to finish today at over 3,200 points. Given that the Singapore market ended last year at 2,897 points, we are now 10% higher than what we started the year with and we are not quite at the end of the year yet. These last two and a half months before the year ends might actually see the Singapore market, and Asian markets move even higher, so despite everything which has happened to derail markets this year, I am confident that we should see some decent gains from markets this year.

The earnings season in the US has just started, but when it is over, I do expect good news from most of the companies. Spending is starting to come back in the US, and if anything, the weak US dollar has made its exports look even more attractively priced. So, US based companies with a global business will be seeing higher earnings just from the conversion back to the USD even if their business and sales haven’t improved at all, and with Asia continuing to grow strongly, I would be surprised if that is the case.

Even back in the US, the high unemployment rate means that companies in the US have been reluctant to hire, and why it has made the unemployment numbers look bad, and prompted the US central bank to consider further stimulus, what this means also is that the companies are keeping themselves very lean, and when sales improve, their earnings numbers will look very good indeed. This is why shockingly, when we look at overall earnings, we see that overall earnings will surpass 2007 record highs by next year. So, despite everyone worrying so much about the US economy, US corporations actually have a lot to smile about right now.

I believe the current strong earnings trend by many companies, including those in Asia, and the low valuations will see us enter the next bull run phase. It looks like it has already started already. October has been a very strong month so far. I suggest checking out your holdings if you haven’t in a long time. You might be surprised how much they have moved up. My 2 kids had their holdings shoot up strongly, and the same goes for mine own as well. My holdings were at $343,397 back in April this year, six month on, they are now currently at $419,587. According to our database, 62.4% out of all of the total number of Fundsupermart accounts are all in the black too, and I fully expect this percentage to rise over the next two years.

Just a bit on currency wars though. It has only been in the last 3 weeks that this term has now suddenly started to appear in the media all over the place. Basically, the western nations, especially the US, are firmly on a road towards weakening their currency, and they are not happy with nations like China because China, by keeping its Renminbi pegged within a trading band to the USD, is seen as profiting at the expense of the US. US firmly believes that the renminbi is undervalued by a significant amount and along with other western nations, are pressuring China to allow the Renminbi to appreciate. China’s resistance to this, and the failure of the recent IMF talks to get all the major nations to agree to a sort of “global” direction towards the currencies has led many to now worry that the major nations are now all about to engage in a “currency” war where each major nation will compete with each other to see who can devalue their currency faster than the other.

My view on all this? A lot of it is political posturing. Countries have little control over what other nations wish to do with their own currency. I am not even sure why US is quite so upset about given the fact that the USD has already been falling quite hard the last few weeks. So, their exports are already cheaper for most countries. Even against the renminbi, the USD has weakened, because it is no longer a hard peg, there is some room, within limits for the renminbi to trade.

I will write more on this in my coming blog entry. But my quick take on it is that there will be a few things that might happen as a result of concerns on currency wars. The USD will continue to fall, though I don’t expect a freefall. Commodities will continue to see their prices go up, because just about every major commodity including oil, and gold is all priced in USD. And equities will also see an uptrend from this as well. Because what a company produces will always have a value to it. So, a car produced by a car maker is always going to be worth something. So, regardless of how a country’s currency move, its companies will still retain their value over time. Google isn’t going to worth any less as a good company just because the USD weakens. So, buying into equities (companies) will be a good choice too when there is a lot of uncertainty over currencies. So, look out for more on currency wars and such in my next blog entry and have a good week!

My kids’ portfolio outperformed their Dad’s (8 Oct 2010)

My kids’ accounts are doing pretty well right now. Both are now well in the black when they were in the red last year. Funny, how a strategy of not looking at an account at all also helps investment decisions. In fact, I am not sure if I should be ashamed or not, but their portfolios are doing better than my own! They are up 13% over 3 months, and 24.3% over 1 year. My own portfolio, which I manage more actively, is up 11.5% over 3 months, and 17.8% over 1 year.

To be fair though, I must defend that my own portfolio has bond funds, while theirs is 100% into equity funds, and all of it into just two funds, one Asia equity, the other, Singapore equity. But, the good thing about managing a portfolio where your kids couldn’t care less how you manage it, is that I adopted a much more passive strategy. No active management, just add on some money into the same two funds maybe once or twice a year (usually around Chinese New Year Time or their birthdays).

This means that despite all the volatility this year, they didn’t try and time the market in any way, they didn’t go in or out, and they didn’t have any hot picks or such. (Unless Asia is considered a hot pick). Maybe because it was meant to be truly long-term investment, their Dad (me), also resisted trying to do any of the kind of fancy portfolio allocation, market timing, favorite research picks either. But because it was meant to be a really long-term investment, I could afford to go 100% into equities, confident that any market cycle correction would even itself out.

To be fair also, it would have been hard to pick the best-performing market and funds each quarter. Let’s take a look at the 3rd quarter which has passed. It was an excellent quarter for most markets in general. The five best performing markets (all in Singapore dollar terms) within this quarter (based on the 22 markets we track) were as follows:

Thailand          +23.2%
Indonesia        +15.0%
Australia          +14.5%
Brazil               +13.8%
Korea              +11.8%.

So, if you had a single country fund investing into any one of these markets, you would be very happy. Investors placing money into Japan on the other hand, would have been sad, despite the strength in the Japanese yen. The Japan market, based on the Nikkei 225 index, was the only negative market in 3Q, down 0.1%, in Singapore dollar terms.

Ultimately though, have a diversified portfolio, have a good investment strategy, and be disciplined. Even though we have had everything from a Euro financial crisis, China tightening, to the shadow of a US double dip recession (which didn’t) scaring investors, most markets are in fact up for the year. Earnings will carry us into the next phase, but don’t get too greedy. I am bullish and wish I had more money to invest into markets, but despite that, I will still strive to maintain a balance between my bond funds and my equity funds. So, if as we predict, equity funds go into a big bull run, then at some stage, I will still be disciplined and take some profit out from my equity funds, and place them into my bond funds. (And I will probably end up underperforming my two kids’ portfolios over the next two years!)