• 3Q20 was a tough quarter. The market was down 4.7%, chalking up a 23.4% loss for the year.
• The Singapore economy has bottomed as its lockdown eases. However, after the initial lift-off, recovery has been on an upward grind.
• We expect uneven sector performances until borders are reopened or a vaccine is found. Sectors we favour are land transportation, property, electronics and REITs.
Review: 3Q20 was a tough quarter. The market was down 4.7%, chalking up a 23.4% loss for the year. STI has again underperformed most of its regional peers. Only a third of its component stocks made gains this quarter. The pandemic continued to weigh on the earnings of multiple sectors except consumer staples, healthcare (gloves) and electronics. Banks gained some price momentum for their attractive yields, but share prices were later kneecapped (Figure 1) by limitation of their dividends this year to 60% of last year’s level.
Outlook: The Singapore economy has bottomed as its lockdown eases. However, after the initial lift-off, recovery has been on an upward grind (Figures 7-8). Restrictions in international travel are expected to impede the recovery (Figure 9). Earnings for multiple sectors are expected to remain depressed without tourism. These include aviation, hospitality, healthcare, gaming, telecommunications and retail. The combined exposure of stocks to these sectors on the STI is around 20%. An added headwind for the STI could come from banks. This segment is facing a triple whammy of low interest margins, spikes in credit provisioning and restrained dividends. Banks account for 40% of the STI. Thus, at least two-thirds of STI’s component stocks will struggle with earnings this year.
But let us not despair. There are bright spots for the market. Community cases in Singapore have collapsed to a weekly average of one. We can expect further relenting of the lockdown through green lanes and larger group gatherings. Record-low interest rates have also made the dividend yields of the Singapore market stand out in this yield-starved environment. While U.S. elections may produce some near-term jitters, especially with a contested election, current betting odds – and yes, polls – favour a Biden win. A Biden win will be positive for Asian assets and currencies. It will likely mean less belligerent foreign and trade policies.
There will always be something to worry investors. But with interest rates so depressed, equities are the most viable investment option. Rates for 12-month Singapore dollar time deposits hover at 0.15% – 0.25%. In comparison, forecast dividend yields for the STI stand at 4%. This difference between deposit rates and dividend yields reveals one of the cheapest equity markets since the GFC (Figure 10). Furthermore, depositors will be stuck on these measly rates for some time (Figure 12). In contrast, corporate dividends can grow. Only 45% of corporate earnings are paid as dividends. The remaining 55% is retained for growth, historically at 8% which is the STI’s ROE. Another margin of safety available for investors is the STI’s 23.4% retreat this year. To our minds, dividends can only recover after this nasty recession.
Recommendation: We expect uneven sector performances until borders are reopened or a vaccine is found (Figure 14). In all likelihood, businesses reliant on cross-border travel will remain moribund and we are underweight. Sectors we favour are land transportation, property, electronics and REITs. As the economy reopens in Singapore, the immediate beneficiary should be land transport. More group gatherings are expected to lead to more travel for business, classes, work, leisure and worship. The property sector has been surprisingly resilient with new units sales rising modestly this year. Developers have been more sanguine on product pricing. Electronics has been a growth sector even in these recessionary conditions. The work-at-home economy has boosted demand for cloud, edge and mobile computing. Other structural drivers that remain for electronics are a ramp-up in 5G infrastructure, the further electrification and automation of cars and accelerated migration of the supply chain from China to SE Asia. On REITs, the 8% yields offered by Singapore-listed US REITs look the most compelling. These REITs enjoy long leases, quality tenants and Class A buildings. So far, office tenants are the least exposed to the current spate of job losses in the U.S.
Phillip Absolute 10
Our Phillip Absolute 10 outperformed the STI in 3Q20 (Figure 16) with a decline of 1.4% against the STI’s 4.7% loss. However, outperforming STI with capital losses “does not pay the bills”. We will look for more alpha with the following changes in 4Q20:
1Q20 – Add: Venture Corp., PropNex; Delete: ComfortDelGro, APAC Realty
2Q20 – Add: Thai Beverage; Delete: SingTel
3Q20 – Add: Yoma Strategic, Asian PayTV, DBS; Delete: Starhub, Sheng Siong, UOB
4Q20 – Add: ComfortDelGro, Manulife US REIT, SGX; Delete: Ascott REIT, DBS, Venture Corp.
Strategy commentary: Economic weakness is expected to persist in the medium term. Border closures likely mean tepid and uneven growth. This implies there is no beta trade and just bottom-up alpha stock picks. Our portfolio is centred on high and sustainable dividend-yielding stocks. A tactical trade for increased travel from lockdown relaxation is the inclusion of ComfortDelgro. For high yields, we have added Manulife US REIT and SGX to provide a balance of growth and yields.
Deletions from our model: We removed Ascott REIT, as the second wave of the pandemic in Europe could further delay any recovery in the hospitality industry. DBS has also been taken out due to multiple headwinds for its earnings this year. The outlook for Venture Corp is positive but the share price has already breached our target price.