By Janice Chua (65) 6398 7954
The current bear market rally is being driven by a normalization of the equity risk premium as global risk aversion subsides. This presents investors with a near term trading opportunity. However, until there is a convincing turn in the fundamentals, the risks remain that the re-emergence of systemic risk factors could curtail the nascent rebound.
Equity risk premium in normalization mode as sentiment improves and economy show signs of bottoming. Sentiment seems to be improving with bad news well absorbed by the market as the market searches for signs of stability in the financial market. Initial signs of the economy bottoming out in US and Singapore will raise investors’ risk appetite. Equity risk premium for the Singapore market was close to its peak last quarter at 5.5%. A normalizing of ERP closer to 3% could trigger the bear market rally, even as we wait for confirmation of an eventual recovery in the economy.
Market bottoms when GDP bottoms – 2Q09 the inflexion point?
Based on DBS Economist forecasts, Singapore’s GDP will hit two more extreme negative quarters – the weakest quarter is in 1Q09 -7.8%, –6.9% (2Q09) and –5.2% in 3Q09. We think 2Q09 holds a key inflexion point for a market bottom, and volatility will persist – we expect a trading range of 1200 to 2000, providing investors opportunity to accumulate as the market weakens.
Narrowing the valuation gap to 2100 assuming PE normalizes. At 1585, the STI’s PE rises to 10.2x (09F) on earnings decline of 19%. Assuming PE rating normalizes back to 1 standard deviation of 13.5x, the target STI will be 2100. Our stock picks this quarter are early cyclicals trading on low cycle PE : SembCorp Marine, City Developments, Venture Manufacturing,
OCBC or stocks trading on bombed out valuation SPH and A REIT.
(Document link: Singapore Research)
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