Sent this email to ST Forum on 23rd Dec, which was unfortunately not published:

Investments by Town Councils Must Not Become Core Objective

I disagree with Mr Ho's 'Investments by Town Councils and other bodies: A mistake to overact' (13th Dec) and Mr Kong's Higher-yield investments by town councils can pay off (22nd Dec). Town councils need to recognize that their first and foremost role is not in "beating inflation" with the investments of reserves. Their financial competency is irrelevant and should not form a key part of their work. Rather, they have to continue to focus on delivering cost-effective solutions to maintain the housing estates' facilities and equipments.

The need to embark upon major projects with high costs is an oft-cited reason for maintaining a high level of reserves. Unfortunately, this argument does not stand up to close scrutiny. A better solution would be for funds to be generated through community fund-raising projects, on an adhoc basis. This serves dual benefits: One, citizens can vote with their pockets whether they would like to see and pay for the change. Two, this adds to the transparency of and accountability towards the use of town councils' funds.

Also, investing of reserves need to be prudent and non-speculative. These tend to be long term in nature. However, if the reserves were truly intended for long-term, a question arises as to whether they should have waited until the need is nearer before collecting or accumulating them.

Finally, plenty of research has proved that fund managers who consistently "beat the market" is near impossible to identify without aid of hindsight. This naturally implies most professional fund managers are not worth the fees they earn. A recent article "When the Golden Eggs Run Out" in The Economist (4th Dec) pointed out that if an American placed $100 monthly in the average equity fund or balanced fund (i.e., mixture of government bonds and equities) over the last ten years (Nov '98 to Nov '08), he would have ended up with less money than if he had placed them under the mattress. Statistics like these reveal that portfolio management and risk management is more complex than most people assume them to be, including the so-called experts.

I hope that town councils do not steer away from their main purpose to its residents, which is to deliver cost-effective solutions in managing the estates' facilities and equipments. Having lower reserves to manage is a first step to help them refocus on their core purpose.

Value Investing using Residual Income Method

My investment philosophy has always been Value Investing, much like the one recommended by Benjamin Graham, the famous investor and mentor of Warren Buffet. One of the key tools which I relied on previously was P/E multiplier, which really helps to identify the undervalued stocks.

Lately, I have been reading a bit on this equity valuation methodology called Residual Income due to my studying for CFA. In summary, Residual Income method purports the following:

Share Price = NBV + NBV * (ROE - r)/(r - g)

where

NBV = Net book value
ROE = Return on Equity
r = Required Return on Equity
g = Expected Growth Rate

In my opinion, assuming that most of the information are captured in the financials already, then this method really comes closest to identifying undervalued stocks. It not only captures the future earnings prospects for the same stock, much like what P/E multiplier does, but also captures the NBV effect, an important and not to be neglected aspect.

Previously, I merely relied on P/E and separately reviewed stocks with decent NBV, but it was not "scientific" enough, in the sense that I could not properly apportion the weights between the two components. Residual Income simplifies that for me. Importantly, it is also empirically shown that the method itself is rather reliable at predicting share prices.

Based on this, I compiled the following list of undervalued stocks. I also read up on each of these companies to be certain that there were no good reason behind their undervaluation, or at least not that I know of.


In 6 months' time, I will review this list to confirm empirically if indeed this has been an efficient way of identifying undervalued stocks.

Singapore Budget 2008: A Budget for the Rich and Wealthy

Singapore Budget for 2008 contained nothing out of the ordinary. But I felt the need to write about the decision to remove Estate Duty. For those unfamiliar with the concept, it is like a tax that dead people have to pay before their beneficiaries can receive their inheritance.

2 main arguments were being used to support the decision:

1) Wealth is also being managed today on a global basis. Proponents of removing estate duty have therefore argued that removing it would encourage wealthy individuals from all over Asia to bring their assets into Singapore, thus supporting the growth of the wealth management industry. 2) Ordinary Singaporeans have also argued that having worked, paid taxes on their income and property, and built up their savings, they want to be able to pass it on to their families. Some are in fact liable for Estate Duty when their estates receive large life insurance payouts.

Unfortunately, both are not strong arguments for the complete removal of estate duty. I am a proponent of a progressive tax system. I feel that it is only right for the rich and wealthy to return to society what they had benefited from. Our society is already moving from an income tax system towards a consumption tax system. This effectively taxes the poor more heavily in percentage terms (the poor tend to spend more of their income). Estate duty is a tax source that helps to maintain a progressive tax system. Removing it certainly makes it less attractive to the majority of the population who do not pay estate tax because they are not sufficiently rich to be taxed.

Our government claims that we are a meritocracy, but the set of opportunities available to the haves and have-nots are not the same. While that is not entirely their fault, the removal of estate duty will clearly widen this opportunity gap. Singaporeans more likely to be born with a silver spoon in their mouth is not a healthy sign of things to come.

Simple Investment Strategies

Recently, some friends approached me for financial advise. In laymen terms, they are asking me what is the best thing to do with their savings in the current climate. I must add that they are not familiar with investing in general, and have mostly placed their monies in banks for a safe, steady and definitely slow return.

Well, I admit to being no expert, but I shared with them a simple investing philosophy that should reap considerable benefits over the long term.

1) Apart from your immediate commitments, one should allocate the remaining monies across various financial assets. But I do not recommend unit trusts or mutual trust fund. If one must, choose only those with the lowest management and transaction fees.

2) Investments in equities can be quite risky now, with the possibility of a global recession increasingly likely. However, as history showed, attempts to time a market can cause one to miss out on market rebounds. (Recall how the 2002-2003 period was filled with great uncertainty but the market had a quick recovery) 40%-50% in equities can be quite safe. But remember, only place monies that you can afford to lose (even the safest market can sometimes behave crazy).

3) Indices of various stock exchanges can now be bought online. This helps to diversify risks, and will be extremely important, especially to Singaporeans. Our export-driven economy will suffer more in a global recession.

4) Always take note to minimise transaction costs by purchasing in bulk. These can be done by accumulating savings before making any purchase. My rule is approximately $3,000 for every purchase. This can be significant in the long run. As an example, a $1,000 purchase with $25 commission translates into a 5% fee when you eventually make a sale. This means that the stock has to rise at least 5% before one breaks even. A $3,000 purchase translates into a much lower fee of less than 1%. That is why day traders almost never succeeds (they enrich the brokers at their own expense).

I hope that someone out there will also find this useful.

Look out for Cold IPOs

In the February issue of Pulses, there is a very insightful article on SGX-listed IPOs. Based on the first-year performance of IPOs over the last decade, the article concludes that oversubscribed shares (i.e., those share prices which usually increase significantly on first trading day) tend to perform more badly at the end of the first year, as compared to an undersubscribed share (i.e., share price dropped on first trading day).

Two points are useful for the investor:

1) The result is so significant that there is an almost 30% price difference between oversubscribed (read: popular) stocks and undersubscribed stocks after 1 year.

2) The undersubscribed stocks tend achieve price gains during the third to ninth month after the IPO.

This is a clear case of market inefficiency, and the shrewd investor will maximise this to his/her fullest advantage.

Good night, and good luck!

SP Chemicals Ltd

Note: SP Chemicals (SP) is a China-based chemicals producer and distributor. Listed on SGX in 2003, it currently has market capitalisation of $315m at a price of $0.86 per share.

The financial performance of SP since listing has been phenomenoal from day one. ROE for their 1st year was 17%, rising to 37.5% for FY2006. Based on latest 3Q results, the performance for FY2007 is set to surpass that of last year's. Other exciting facts about SP Chemicals include the following:

1) Price/NAV = 1.45: an attractive and relatively low-risk stock.

2) P/E = 5.9: an underpriced stock. Considering that FY2007 is set to be better, this is significant.

3) 52-Week Low = .825: the current pricing of SP at 0.86 is not shored up during 2007's bull run. Hence, SP is likely to be an unpopular stock and underpricing is likely.

SP Chemicals appears to be severly undervalued, even in light of the current bearish market sentiments. Indeed, because SP Chemicals' clientel base is increasingly global, while the cost base is in low-cost Jiangsu region in China, it is in a good position to ride out any economic downturn. Also, as a preferred lowest-cost chemical producer, it will be less affected in a downturn.

My target 6-month price for SP Chemicals is between $1.05-$1.25, which will translate to a potential 20% - 50% gain.

Goodnight, and good luck!