Spotting the Bottom - Look at the Fear Index!

The Fear Index has shot up again wildly! At a high of 76.94!.(See our previous article on The "Fear" Index)

Some of our readers have asked me, what the heck is this?SGdividends will explain it as simplified as possible and just state the things you need to know.

The "Fear Index" is a guage of investor's confidence. The lower it is in value, the more complacent people are. Notice how the boom years of 2005-2007 are marked by low values.The higher it goes, the more panic there is. Notice it again?

Investing Idea: SGdividends believe that the market cycle bottom will be reached when there starts to be a reversal of this index. Clearly, as of now, its not reached! (See our article on Sectoral Investing).

But, don't wait for the bottom. (See Chua Soon Hock's take on catching the bottom)

It's your money - invest it wisely. Learn, understand and execute.

Similarity between 1929 and now!

See the similarities? " Bankers begin to collect loans....unable to collect these loans made banks go bankrupt...causing banks to die off by the hundreds!"However, SGDividends do not believe that this current crisis will be as severe as 1929. Why? Cos people are more educated now, simply.

SGDividends came across this interesting article which we think makes sense. This is written by Chua Soon Hock, who in 1999, participated in an international stock picking competition and beating analysts around the world.

This is what he says. Read, digest and internalise it. It makes perfect sense!

Q: what is the appropriate strategy for retail investors?

A: As a general rule, there are two points to consider. Firstly, the strategy must not rely on having an edge in resources of time, knowledge and finance, as retail investors are weakest in these areas when compared to all other players. Secondly, such a strategy must necessarily be based on the patience to buy shares at basement prices on a non-leveraged basis with minimal transactions over an extended period.

Q: How can retail investors know when shares are at basement prices?

A: Shares will be at basement prices when bearish psychology is extreme and liquidity is tight in the following situations: (SGDividends: See our "Fear Index" below, posted on 09 Oct 2008)

-The asset bubble bursts and strong economy tailspins into a recession like the recent Asian crisis

-The economy goes into a period of stagflation

-The economy in a depression with prevailing banking crisis.

-The market crashes due to special events eg Gulf War, 19 Oct 87 (program trading), LTCM debacle, etc

Q: How do I improve my timing in order to buy shares at basement prices?

A: For situations where share prices are low due to a weaker economic cycle it is best to invest over a six to 12 month period. The initial investment should be 50% of capital, with 10% each subsequently over the intended period for the last 50%. The timing of the initial investment of 50% is crucial.Based on my experience it is best to buy on the day following the national government''s admission that the economy is in a recession and gives a negative GDP forecast for the rest of the year. When this announcement is one that makes the front page of the national daily, then almost all the bad news has been discounted by the market.

For a market crash due to a special event it is normally right to commit 50% of capital on the same day of the event and the rest of the 50% within a week. Special event crash tends to be immediate and furious as institutional and retail investors all unload holdings aggressively yet simultaneously, thereby prices reach bottom very quickly.In the case of a banking crisis, the time to buy is when the government''s plan to use public money to re-capitalize the banks, whether directly or indirectly through tax incentives aimed at the disposal of bad loans, is at the final stage.

Q: What type of shares should one buy?

A: Buy the top two of the best-managed institutions from each of the key sectors of banking, media, telecommunications, healthcare and computer software. These sectors tend to be essential and also have inherent oligopoly power.

Q: Is the investing going to be smooth sailing?

A: Absolutely not, especially at the initial phase of your buying spree. All your good friends including your dear spouse will think that you are crazy. They will say, "The market is getting lower, this is too dangerous, you can wait". And likely, in the next few days or weeks after buying, the market may indeed go lower, and you will look like a fool.But to want to buy at the absolute bottom is not possible. But to buy near the bottom is possible and can be made highly probable by this approach. Be prepared for some short-term psychological torture. But you need to buy. If not, you will watch and miss the opportunity altogether. Somehow in most cases, you will later look like the wisest man in town for having the courage to buy those shares. View it as short term pain, long term gain.

Q: When then should one take profits?

A: For shares bought resulting from a market crash due to special events (ie it is a one-off situation), one can take profits when profits are between 30% to 70% within a six months period.However, for shares bought as a result of an economic crisis or economic downturn one should keep them for years. Liquidation should only begin when the bull market is so obvious and in such a great rage that it sucks in all kinds of new retail players. The greater fool theory, unfortunately, always comes into play near the end of a new bull market cycle. Shares should be disposed gradually over a 24-month period as bull markets normally last much longer than expected.

Q: After taking profits, what should the investor do with the money?

A: Stay in cash until shares are at basement prices again. This strategy implies that when not invested one must hold cash and be patient even if the waiting period is long. In fact, one of the unprofitable "myths" that is frequently encouraged and practiced is that of continued deployment of capital to enhance returns.This approach usually means that when the opportunity comes for acquiring bargain basement shares you will not have the money. Instead you will be among those hurt by lower share prices. Rather, you should build up liquidity for deployment when market liquidity is tightest in order to make big money.

Q: How often can a retail investor reasonably be expected to participate in such an investment strategy?

A: Assuming a 35-year investment life, one can expect to participate in three to four complete economic cycles, with each cycle of about eight to 10 years, yielding returns of at least 100% over capital. With this approach, transaction costs will be at the barest minimum and any disruption to one''s job will be almost non-existent, as the investor will be doing nothing most of the time.

During this period of 35 years, one who is patient and courageous will in addition be rewarded with about five event market crashes, which should yield at least 30% for each event. Therefore this strategy though on a day to day basis does not seem to bear anything, can be very profitable and consistent over the 35 years horizon.Be patient and be prepared, and you will come out tops in the investment arena. If you are not patient and prepared, the stock market will be an expensive place to find out who you are.

Spot any opportunities lately?

Investing idea: If you believe in the article above, your investment of your 50% should be around this time!

Utilities/Infrastructure - Cityspring (In The Spot Light)

Why the drastic drop in price, up to -20% within the first 2 hours of trading on 10 Oct 2008?
SGdividends believe it is the result of someone shorting it. Why? Cos our shares have been borrowed through the Share Borrowing and Lending Program by a brokerage firm custodising it. ( To those who dont understand what shorting means, heres a primer. People can short the stock naked or covered. Naked short means selling first without owning a stock or having borrowed it. It is currently penalised by SGX. Covered short means selling first without owning it but having borrowed it and this will not be penalised by SGX. The purpose of shorting is to depress the prices, and then buying it back at a cheaper price to earn a profit.)

Cityspring holds utilities or infrastructure assets and demand for such services are generally recession-proof as electricity, water, e.t.c are a necessity. The only reason for such a decline we feel, is that they have large debts to repay (normal for such asset centric businesses) and people are afraid that they cannot repay their loans at this time when banks are unwilling to lend. But, Cityspring is backed by Temasek so this reason may not be valid, in our humble opinion. Basically, we believe that the fundamentals for this company is unchanged. In fact, a recent Business Times article featured their CEO hinting of acquisitions at a later date as valuations for such assets are still quite high. Therefore, we believe this drop is due to some manipulation taking advantage of this crisis situation and those who have bought it during this drop have made a good decision. (See the article on sectoral investingbelow)

A stable company with a strong backing with a consistent ( increasing actually from 0.78DPU to 1.75DPU ) dividends payout...yummy. Lets say you buy at the low of 0.52, your dividend yield is around 13%!.
High was 0.675. Low was 0.52 .Closing price is 0.6. That short seller sure made some money!

Sectoral Investing

Sector Investing philosophy is that different sectors are stronger at different points in the economic cycle. The Market Cycle preceeds the Economic Cycle.
(What this means is that, the local Singapore Property Market is going to slump next. The local stock market is the precursor)

Based on the current economic climate, SGDividends see we are 1/2 - 3/4 way towards the bottom (trough) of the market cycle (Red). Utilities counters should fair the best now.

Investing Idea:
Based on this philosophy, the following should be the way one invests in this climate:

Now - Mar 09 - Buy Utilities/Infrastructure counters. Eg, CitySpring, Macquarie IIF, SP Ausnet, Singtel,SMRT, Reits

Feb 09 - June 09 - Buy Financial Stocks. Eg, DBS, OCBC, UOB, SGX

June 09 - Sep 09 - Buy Cyclical Stocks . Eg, like SIA, NOL

Sep 09 - Dec 09 - Technology Stocks . Eg, Venture

Dec 09 - Feb 10 - Industrials Stocks . Eg Keppel Corp, Semb Corp, Tat Hong

Feb 10 - June 10 - Basic Industry Stocks. Eg Golden Agri, Wilmar, Indo Agri, Straits Asia

Mar 10 - July 10 - Energy Stock . Eg KS Energy, Keppel Corp, Semb Corp

July 10 - and Beyond - Staples. Eg Sing Food, Raffles Medical

And the cycle goes on again. The dates are based on pure GUT feeling and i have no empirical data to support it. Stocks given are not recommendations but mentioned as they fall within the Sector category. Please take note though that this is an unprecedented crisis and not just a pure play recession and therefore the above might not work. Research smart and hard before investing!

Banking Crisis

February 2, 2007: Metropolitan Savings Bank Taken over by: FDIC
September 28, 2007 :Netbank Taken over by: FDIC
October 4, 2007 : Miami Valley Bank Taken over by: FDIC
January 25, 2008: Taken over by: FDIC
February 22, 2008 : Northern Rock Acquired by:British Goverment
March 7, 2008: Hume Bank Taken over by:FDIC
April 01, 2008: Bear Stearns Acquired by: JPMorgan Chase
May 9, 2008: ANB Financial Taken over by: FDIC
May 30, 2008: First Integrity Bank Taken over by:FDIC
July 1, 2008: Countrywide Financial Acquired by: Bank of America
July 11, 2008: IndyMac Bank Taken over by: FDIC
July 14, 2008: Alliance & Leicester Acquired by:Banco Santander SA
July 25, 2008: First National Bank of Nevada Taken over by: FDIC
August 1, 2008: First Priority Bank Taken over by : FDIC
August 22, 2008: The Columbian Bank and Trust Company Taken over by: FDIC
August 26, 2008: Roskilde Bank Acquired by: Danish Central Bank
August 29, 2008: Integrity Bank Taken over by: FDIC
September 5, 2008: Silver State Bank Taken over by: FDIC
September 8, 2008 Derbyshire Building Acquired by: Nationwide Building Society
September 8, 2008 Cheshire Building Society Acquired by: Nationwide Building Society
September 14, 2008 Merril Lynch Acquired by: Bank of America
September 16, 2008 American International Group Acquired by: United States Gov
September 17, 2008 Lehman Bros Acquired by: Barclays Plc
September 18, 2008 HBOs Acquired by: Lloyds TSB
September 19, 2008 AmeriBank Taken over by: FDIC
September 26, 2008 Washington Mutual Acquired by: JPMorgan Chase
September 28, 2008 Bradford & Bingley Acquired by: Banco Santander and British Gov
September 28, 2008 Fortis Acquired by: Netherlands Gov and BNP Paribas
September 29, 2008 Wachovia Acquired by: Citigroup or Wells Fargo
September 30, 2008 Dexia Acquired by: Belgian, French and Luxembourg Gov
October 7, 2008 Landsbanki Acquired by: Iceland Gov
October 8, 2008 Glitnir Acquired by: Iceland Gov
October 9, 2008 Kaupthing Bank Acquired by: Iceland Gov
Who's NEXT?

Investing Idea: Buy The Banks who Acquired Other Banks! ( Like JP Morgan, Wells Fargo, BOA)

These Banks will only emerge stronger after this crisis due to lesser competition. Furthermore, if they can afford to buy, they should be safer to buy, isn't it?

Volatility Index ( Also Called Fear Index)

The "Fear" Index is at an all time high now. At 57.53. Do you notice that the peaks of this index are around crisis periods? Remember the Asian Financial Crisis, The Sar Period e.t.c.

The "Fear" Index is now the highest ever! It's unprecedented.

Nevertheless, "Be greedy when others are fearful, and be fearful when others are greedy".

- Sage of Omaha ( Warren Buffet)

SGDividends recommend investors to BUY now. Lots of it. Go underweight on CASH!

Yesterday, central banks around the world did a coordinated interest rate cut, another unprecedented event!
Based on the hypothetical stock portfolios on the right hand side ( created on 08 Oct 2008), the portfolios that reacted well or not so well to this piece of news:

1)Portfolio consisting of the Highest Market Capitalisation made (Net gain of $12870 (+ 3.22%))

2)Next, portfolio consisting of the highest number of analyst buy calls. (Net gain of $2375 (+0.59%))

3)Next, portfolio consisting of the lowest price to book ratio counters ( Net loss of $2677 ( - 0.69%))

4)Last, portfolio consisting of the lowest price to earning ratio counters. (Net loss of $2314.11 (-0.58%))

Investing Idea:During times of crisis, counters with large market capitalisation reacts most to "good" news. Therefore, buy Big Caps in anticipation of Good News in times of crisis.

Lets wait and see in the long run, which strategy wins!