Saturday, July 11, 2020

The other crucial ingredient in investing

Have you ever harboured the dream of going full-time into investing?

Imagine:

No more mad rush on the trains. None of the drudgery of pushing paperwork and clearing project deadlines. Not having to be at the beck and call of your boss or suffer the wrath of angry customers.

Instead, you get to wake up later each morning, spend a little time catching up on news and overnight markets, decide on your playbook, key in the orders and then head off to enjoy what life has to offer.

At the end of each quarter, you rake in the dividends, take profit on a few winners, cut loss on others as you contemplate the next vacation destination.


Image by Photo Mix from Pixabay

A wonderful lifestyle, right? So what is stopping people from pursuing it?

If you are like me (and the average Joe on the street), it is because we are short of one crucial ingredient:

Capital.

Investing is a catch-22 situation - You need money to make more money.

And if you want sufficient profits to cover your expenses, you will need a pile of moolah big enough to trade significant positions in the markets.

Invest peanuts and we can only expect grain sized returns.

Accumulating capital for investment is never an easy task, even for the professionals. A large part of a startup hedge fund manager's time is spent meeting potential investors and marketing his or her strategy. The entire process can take 6 to 7 meetings and 12 to 18 months before the investor says "yes" [article].

Outside the financial industry, only a select few do not have a problem with capital shortfall.

There are those born with a silver spoon in their mouths. The fortune is already made by their forefathers, and all that is needed is to manage it. This is the secretive domain of family offices. There are between 250 and 300 family offices based in Singapore and Hong Kong, as estimated by UBS [news].

Then, there are the entrepreneurs who have built a successful empire of their own. Think of the Mark Zuckerbergs and Pony Mas of the 21st century. Their hard work and streak of luck manifested into a lifetime free from financial worry. According to a 2018 study by HSBC, nearly half of Singapore's millennial millionaire entrepreneurs are self-made [news].

Finally, there is the C-suite. The CEOs and Chief-insert-alphabet-here-Officers with million dollar pay packages and stock options deep in the money. A golden retirement is almost guaranteed. This is the sort of clientele favoured by private bankers. There is even a private gym in Singapore specially catered to these senior executives [news].

For the rest of us - freelancers, small business owners, civil servants and ordinary wage slaves of the corporate world, raising capital will likely be a challenge. There is only one route to accomplish this feat:

To earn more than we spend, and to spend less than we earn.

In other words, make sure what comes into your pocket is always more than what goes out.

Simple arithmetic, yet it is surprising to see how many people fail to obey this principle.

Now I am not advocating to pinch money on every expenditure, or be a scrooge when it comes to important expenses such as health insurance.

But I do believe having the proper money habits is every bit as important as picking the right stocks.

A good investor ought to be a good money manager.

For a role model, look no further than Warren Buffett. Buffett still stays in the same house in his hometown of Omaha, Nebraska that he bought in 1958. The house is worth 0.001% of his total wealth [article].

"If you buy things you do not need,
soon you will have to sell things you need."

- Warren Buffett

If superstar investors are out of your league, take inspiration instead from Ronald Read, a Vermont-based janitor and gas station attendant. At the time of his death in 2014, Read had quietly amassed an US$8 million fortune based on nothing more than frugal spending habits and smart investing [news].

Granted, socking away savings to invest is a dreary process. Some enterprising peeps swing for the other extreme - they max out personal credit lines and unlock equity in their properties [news]. They borrow to the hilt to get a headstart.

In the current environment of ultra low interest rates and beaten down stock prices, this sounds like a winning strategy.

Do be warned however, leverage is a double edged sword. Amplified bets mean you can lose more than the shirt on your back. Just ask the holders of SocGen 5x Short SIA DLC (daily leveraged certificate). Their entire wager was wiped out when SIA stock price plummeted 20% post ex-right pricing [news].

Plus, there is nothing worse than debt collectors knocking on your door as the market gets stuck at rock bottom. And you do not know WHEN it will happen.

Be it inherited, saved or borrowed money, it is an undeniable fact that without adequate capital, any meaningful form of investing will always be an illusion.

So take time to ponder on your war chest.

When the reminder pops up to renew your non-C-suite, run-of-the-mill gym membership, consider shifting your exercise routine to the park instead.

While the dollars saved may not seem much, they can become valuable bullets in your arsenal for lifelong investing.

Who knows, that dream of being a full-time investor may be achievable after all.

Saturday, July 4, 2020

Homework (not hard work) is the hallmark of a good investor

My CFA ("Chartered Financial Analyst") membership fee came due last month.

It is pretty depressing to see US$300 whisked away in an instant. They could have liven up the transaction with a grand display of flying dollars.

Icon credit: Dryicons and IMGBIN

Heck, even a prerecorded "Thank you for your support" would have sounded uplifting.

Fortunately, my company reimburses the fee. So I do not burn a hole in my pocket carrying the three expensive alphabets on my namecard.

Unless you are a hardcore FA fanatic or for work reasons, I wouldn't recommend anyone to join the CFA Program. This is because of the rigour of the curriculum, and the sheer amount of time and effort required. (The CFA Institute recommends 300 hours of study.)

I am puzzled why people would sign up for the CFA examinations every year, but do not make a serious stab at beating them. 250,000 candidates enrolled for the three levels of exams in 2019, but only 41%, 44% and 56% managed to pass them respectively [data].

It costs anywhere between US$2,100 and US$4,350 to take all three exams.

And that's passing them on your first try.

Yet, six out of ten candidates failed to make the grade. That is a serious waste of money.

If you are simply looking to build a skill set in fundamental analysis, I'd be happy to point you to the numerous FREE resources, both online and in our public libraries. The materials are as vast as the sands on the beach, from reading a basic financial statement to building your own discounted cashflow calculator via MS Excel.

You'd have no excuse that you don't know where to start. All it takes is a little Goggling.

And if you are those who prefer a guiding hand, distilled lessons or a classroom setting, there are investing workshops available.

In fact, judging from the numerous advertisements on the Web, there is no lack of 'gurus' willing to coach new students through the analytical process of picking stocks.

For a fee, of course. Anywhere from several hundred dollars to a few grand.

But before you sign up, I would advise to ask these gurus for their 'two lists'.

The first list should contain all of their past successful stock investments, independently verified by a third party. The kind that they will gladly put up on a beauty parade.

The second list is the more interesting, and the more important - It should contain all of their past abysmal investment failures, and the extent of loss in each case.

I'm willing to bet my lunch that few investment coaches out there can produce the latter list. Either they are geniuses (even Warren Buffett has a few regrets), or they haven't had much time and exposure cutting their teeth in the market.

At the worst, they could be charlatans wilfully hiding skeletons in their investment closets. To these teachers, I recommend to keep a fair distance. Say, as far as possible.

Be it taking the CFA exam, learning through a book or emulating a trainer, my message to the aspiring stock picker is the same:

There is no free lunch in investing. You need time and effort to do your homework.

Time to read up on company reports.

Effort to compare financial statements historically and against peers.

Finally, a set of well-defined rules to judge a stock.

Investing is not tough. Not when you have the willingness to do the above.

Ultimately, it is the homework done, not hard work, that is the hallmark of a good investor.

"Never lose money. Stay rational and stick to your homework when researching businesses in which to invest."

- Warren Buffett

It is okay to browse through forums and blogs for stock ideas. But if you hadn't done the homework to convince yourself the company is a buy, you will NOT have the conviction to stay through the ups and downs of the market swings.

You may be spooked by the ever switching news headlines and sell out at the wrong time.

If your analysis is flawed and the stock turns out to be a lemon, at least you would have learnt of your shortcoming and became a better investor, not to repeat the same mistake.

And the loss will well be worth every cent of the education gained.

Wednesday, July 1, 2020

Portfolio Summary for June 2020

As of 30 June 2020

CDP

Security# sharesPrice S$%
DBS40020.805.82
OCBC Bank1,5009.009.44
SGX1,2008.347.00
SATS3,9002.867.80
ST Engineering4,1003.309.46
CapitaLand3,5002.927.15
Singtel4,0002.466.88
Powermatic Data2,8002.484.86
Micro-Mechanics1,3001.751.59
ComfortDelGro7,9001.458.01
Genting Singapore11,7000.766.22
Old Chang Kee4,7000.7252.38
TheHourGlass3,0000.691.45
HRnetGroup11,6000.4954.02
HC Surgical19,1000.314.14
Nam Lee Metal28,2000.316.11
Silverlake Axis20,8000.2353.42
Kimly27,0000.2254.25
Portfolio Value = $142,984

Trade Actions
- Added 1,200 shares of Singapore Exchange.
- Added 1,300 shares of Micro-Mechanics Holdings.
- Added 1,800 shares of CapitaLand.
- Added 3,000 shares of The Hour Glass Ltd.
- Added 20,800 shares of Silverlake Axis.
- Sold 300 shares of Old Chang Kee.

SRS

Security# sharesPrice S$%
OCBC Bank9009.0012.54
SGX1,3008.3416.78
SATS2,2002.869.74
ST Engineering1,7003.308.68
Singtel2,0002.467.61
CapitaCommercial Trust5,0001.6913.08
Sheng Siong8,7001.6522.22
HC Surgical19,5000.319.36
Portfolio Value = $64,614

Trade Actions
- None

Commentary:


I used the recent market pullbacks to add some stocks to my CDP portfolio.

SGX - The selling abated around $8, which is a 23% drop from its high. I feel SGX still has the potential to earn a decent, albeit lower revenue. (It's a duopoly with HKSE in derivative trading within the Asian region.) SGX initiated stock buyback during end June, which could lend some near-term support. The exchange had taken its first baby step to replenish its derivatives offering, with the introduction of the SGX FTSE Taiwan Index Future [announcement]. SGX had also announced acquisition of the remaining 80% ownership in BidFX, a cloud-based FX trading platform for institutional investors [announcement]. This will become another revenue source over the long term. SGX is set to report its FY2020 results on 30 July.

Micro-Mechanics Holdings - This company popped up on my screener some months back. Its fortune is tied to the notoriously cyclical semiconductor industry, similar to other broker recommended stocks like AEM, Frencken and UMS. Balance sheet and margins look healthy, even though revenue and profit is seasonal. In 2019, the semiconductor industry suffered its worst year in almost two decades [article]. (I know it personally because my wife was forced to clear leave.) But if the predictions of the World Semiconductor Trade Statistics organization were to come true, annual global chip sales should increase 5.9% in 2020 and 6.3% in 2021. This bodes well for Micro-Mechanics.

CapitaLand - I'd be the first to admit: this company has a poor ROE (10%), although management is working to improve it. I like the diversity in its revenue, both in geography and sector. (CapitaLand sells properties, leases them and manages private equity funds & REITs to own them.) Dividend yield (above 4%) is attractive at current price. The company has offered scrip election for its latest dividend [announcement], but I won't be going for it because I dislike holding odd number of shares in my portfolio.

The Hour Glass - THG turned in a pretty good set of FY2020 results [announcement]. Total revenue was $754.6m (up 4% y/y). Net profit was $77.5m (up 9% y/y). Only disappointment is the 2 cents annual dividend (Ex Date TBA), compared to 3 cents last year. The luxury industry had been hammered by the Circuit Breaker, but given THG's sizeable cash hoard of $183.1m (which covers its debt and payables comfortably), it should be able to weather through. Gross margin is an admirable 28.8%, and I believe their affluent customers' disposable income is hardly impacted by COVID-19. As The Business Times columnist Ben Paul remarked, "What better way to spend money earmarked for a cancelled trip to Europe than by picking up another luxury timepiece?" [article]

Silverlake Axis - Brian from 3foreverfinancialfreedom.com wrote a detailed article [here] on this company. The stock suffered from a short seller's report in Aug 2015 and it has been on a downtrend since. Nonetheless, the company is looking attractive at current price, with a FY2019 ROE of 41% and margins above 30%. Software is indeed a lucrative business (just ask my boss). Barring any adverse development, this company should be able to sustain its dividend.

Old Chang Kee - I've put up my position for sale, but the liquidity is pathetic. I was initially attracted to its high GPM and inflation-resistant pricing power. But increasingly, I'm getting bearish as the Circuit Breaker shut their eateries, even though the company commented offsite bento meal deliveries should help to minimize the loss in revenue [announcement]. Regardless, I expect their 1H 2020 result to be devastated and it may take some time for the revenue to recover. Will offload into the rally.

Saturday, June 27, 2020

In love with the shape of you (my economic recovery)

Lately, the stock market has been rather listless. Like dancing a slow waltz - two steps forward, one step back.

Image by Markus Winkler from Pixabay

Speculators hoping for some quick trade action must have been disappointed.

The wind of the bull rally a few weeks back has been taken out of the investors' sails.

The lack of direction feels as if we have entered the eerie eye of a storm. The unnerving lull before all hell breaks loose.

While most people are still worried about the virus and the economy, dissenting voices have started to pop up, arguing for the case that the worst is over.

Take Morgan Stanley. The investment firm proclaimed "greater confidence in a 'V-shaped recovery', citing positive economic data and policy action from health authorities, governments and central banks." [news]

Throwing his weight behind this idea is private equity juggernaut Blackstone Group CEO Stephen Schwarzman. He believes the economic reopening will spark a rapid rebound from the bottom set in the second quarter. [news]

Also joining the chorus are Stephen Innes, Chief Global Market Strategist at Axicorp [news], and former Goldman Sachs chief economist Jim O’Neill [news].

But clearly not everybody is as optimistic as these folks.

Certainly not the U.S. Federal Reserve ("Fed").

In its latest economic forecasts, the Fed projects a 6.5% contraction in U.S. GDP for 2020. [news] This is worse than the median 5.7% decline predicted by private economists, according to Bloomberg.

In other words, the Fed is warning investors not to bring out the champagne just yet.

Pundits expect Singapore to do no better. According to the latest poll by the Monetary Authority of Singapore, the local economy is forecasted to suffer a 5.8% contraction - huge contrast against the 0.6% growth projected in the March survey [news].

The Ministry of Trade and Industry had downgraded Singapore's 2020 GDP growth forecast to the range of -7% to -4%, from -4% to -1% earlier. [link] Should the 2Q20 QoQ GDP growth turns out negative, Singapore would have officially entered a technical recession.

Well, a terrible 2Q20 result is already priced in. It is water under the bridge. Experts are now looking ahead to the rest of the year for green shoots.

In its 3Q20 Quarterly Global Outlook, UOB sees "higher odds" of a V-shaped global recovery. [link] In fact, they see a "lower base case of a 45% chance of a U-shaped recovery, followed by a larger 30% chance of a V-shaped recovery and a similar 25% chance of a weak L-shaped recovery."

(I'm amazed how some economists can put a probability number to a guessing game.)

And the debate rages on.

On one end, we have the bulls who see the sunshine after the rain, and are willing to bet copious amounts of money in the stock market. On the other, we have the naysayers who think the collateral damage is done from the lockdown, and it will be quite a while before the economy gets its mojo back.

Who is right?

Are we going to have a V-shaped recovery? Or will it be a U-, W-, L- or geometrically complex shape of economic rebound?

The better question is: Who cares?

Unless you're a policy maker, or a central bank governor with a magic wand, chances are what you do will have very limited impact on how the economy heals. (You can buy that long-desired Rolex, or dine at your favourite Michelin star restaurant to keep the velocity of money going, but that's about it.)

My take is: don't bother with what the talking heads are spouting on financial media. Their job is to make educated guesses on the overall state of the economy, not on your personal portfolio.

Instead, focus on the one thing you can do, that will have a more lasting impact:

Select the stocks to invest in, WISELY.

Be sure the company which you agreed to be a co-owner of, has a strong balance sheet to survive any crisis, and a good record of earning profit and free cash flow year after year.

Market leadership, high barriers of entry, or a sizeable advantage over competitors are a definite plus.

And not forgetting an honest and capable management team at the helm, who do what they said, and say what they did.

In short, invest in the sort of businesses that will last through your children's generation.

As Warren Buffett quipped,

"Only buy something that you'd be perfectly happy to hold if the market shut down for 10 years."

When your portfolio is made up of these stalwarts, I can guarantee you will have a good night's sleep, even as the economy limps forward.

You can then sing happily to the addictive tune of Ed Sheeran's song, regardless of the shape the economic recovery takes.


Sunday, June 21, 2020

A second look at Sembcorp Industries revenue portfolio

Sembcorp Industries ("SCI") had decided to part ways with its shipbuilding subsidiary, Sembcorp Marine. You can find the official announcement [here].


I used to be a SCI shareholder. I was attracted to the relatively defensive and geographically diversified revenue portfolio.

However, I sold all of my SCI shares in April 2019 after the Board opted to cut the dividend. Back then, the conglomerate was still making a reasonable 17 cents EPS, so I was disappointed with the Board's decision to distribute only 4 cents of annual dividend.

On hindsight, I was lucky to have gotten out at that time. SCI stock price had sunk 25 percent since then.

SCI price since April 2019. Data source: Yahoo! Finance

With the loss-making SCM going out of the picture, I received inquiries coincidentally from both my friend and my spouse on whether SCI is worth investing now.

I hadn't been keeping track of SCI developments, so I decided to take a second look. What I wanted to know is whether SCI's revenue portfolio - excluding SCM's contribution - is still as resilient and positioned for growth.

SCI's businesses can be broadly classified into three categories:

(a) Energy generation and waste management ("Energy");
(b) Shipbuilding and repair ("Marine"); and
(c) Land and infrastructure development ("Urban").

Of the three categories, the main revenue drivers are Energy (64 percent in FY2019) and Marine (30 percent). Urban forms a tiny 0.1 percent of the turnover and the remaining is classified as "Others" (I presume these are revenue from assets held for sale).


(a) Energy

The Energy division is involved in electricity generation from thermal power (both coal and gas-fired stations), import and supply of natural gas in Singapore, industrial wastewater treatment, renewables and retail power sales. SCI's main power assets are distributed across Singapore, China, India, the United Kingdom and the rest of Southeast Asia.

SCI's power station in Myingyan, Myanmar. Photo credit: SCI

With the recent focus on climate action, SCI has repositioned itself as a leading producer of green energy. It owns wind farms in both China and India, solar farms in India and Singapore and a battery storage system in the UK. Renewable energy now forms 22 percent of the total generation capacity. (For context, renewable energy was 14 percent of SCI's total generation capacity five years ago.)

SCI is also involved in industrial wastewater treatment and water reclamation, with facilities situated on Jurong Island, Singapore and in Zhangjiagang, China.

Lastly, SCI operates waste collection service in Singapore via its subsidiary SembWaste (you might have seen a SCI dump truck in your neighbourhood). In February 2020, SembWaste received approval by the Competition and Consumer Commission of Singapore to go ahead with its acquisition of Veolia ES Singapore, another local waste collection company [announcement].

A Veolia dump truck. Photo credit: Veolia

Graph 1 below charts the turnover and operating profit margin of SCI's Energy division over the past five years.

Graph 1. Turnover and OPM of SCI's Energy division. Data source: SCI FY2019 Annual Report

Revenue contribution from Energy has increased significantly over the years. However, the operating profit margin has declined to between 11 and 12 percent. While FY2019 EBITDA was up 17% year-on-year ("y/y") to S$1,309m, net profit dropped 38% y/y to S$195m.

Last year, SCI added new power generation capacity in Sirajganj, Bangladesh and Myingyan, Myammar. These assets should contribute to the turnover in the latest fiscal year.

While the company earned a net asset divestment gain of S$86m in FY2019, it incurred a whopping S$245m in impairment losses. The bulk of it (S$181m) was due to the markdown on SCI's United Kingdom Power Reserve (UKPR) assets. A confluence of reduced consumer demand (due to milder winters) and higher supply (from a delay in retirement of coal-fired power stations) resulted in tighter competition and lower margins, making the investment less valuable than projected.

SCI's United Kingdom Power Reserve (UKPR) system. Photo credit: SCI

Additionally, SCI booked an impairment loss of S$64m on its Chilean water asset, currently on sale to Spanish engineering group SACYR SA. It also recorded a S$23m charge in Jiangsu, China, where the company deemed its current water assets will not be able to meet China's more stringent effluent discharge standards.

While SCI did not provide a breakdown of turnover and profit by country, it explained the revenue decline was attributed to lower gas sales and planned maintenance shutdown of power assets in Singapore. One thermal power unit was also shut down in India in 1Q 2019 due to a stator fault, and there was the absence of contribution from South Africa's municipal water operations post divestment.

Notable local events include SCI joining the foray into Singapore's Open Electricity Market under the Sembcorp Power brand and the acquisition of Veolia ES Singapore. SCI also recently signed an agreement with Singapore's PUB to build Singapore’s largest floating solar farm on the Tengeh Reservoir [announcement].

My observations:

With the demerger of SCM, the Energy division will become the main pillar of SCI's revenue and income. FY2019 EPS from Energy was 10.9 Singapore cents (down 38% y/y). ROA was 1.51% and SCI quoted a ROE of 5.3% (down 36% y/y).

SCI operates in the heavily regulated space of utilities and waste management. These industries require significant capital expenditures upfront and the actual return is only known a few years later. Segmental liabilities form 75 percent of assets. While turnover is consistent and recurring, outsized profits are rare and unlikely.

Pockets of opportunities exist in emerging Asian economies for the company. While SCI is aware of the global trend towards green energy, it stated in its FY2019 Annual Report that "changing our portfolio mix will take time as there is a need to balance the transition with the goals of energy security, environmental sustainability, affordability and accessibility."

SCI's wind farm in India. Photo credit: SCI

SCI continues to build up capabilities in renewables and still believes UKPR holds positive long-term prospects as the UK undergoes decarbonisation. Hopefully, SCI has learnt a lesson or two from managing UKPR, and will be more realistic in making forecasts and bidding for future energy projects.


(b) Marine

The Marine division operates under the subsidiary Sembcorp Marine ("SCM"), and is concerned with specialized shipbuilding, repairs and upgrades, rigs, floaters and offshore platform construction. SCM operates five shipyards in Singapore and has similar facilities located in Indonesia, the UK and Brazil.

Sembcorp Marine Tuas Boulevard Yard. Photo credit: SCM

Back in its heyday (when crude oil was trading above US$100 per barrel), the Marine division was a significant revenue generator for SCI. However, as the oil price crashed from a market supply glut, the Marine division turned into a severe drag on the Group, bleeding cash in recent years.

Graph 2 below charts the turnover and operating profit margin of the Marine division over the past five years.

Graph 2. Turnover and OPM of SCI's Marine division. Data source: SCI FY2019 Annual Report

The Marine division had managed to eke out a profit in only two of the past five years. With the upcoming demerger, the Marine division will become a separate legal entity from SCI and its future profit and loss will no longer have any impact on SCI's books.

Thus, I will not concern myself with developments in this sector.


(c) Urban

The Urban division is involved in master planning and transforming raw land into urban infrastructure. SCI has current projects in Vietnam, China and Indonesia. In FY2019, SCI had a net orderbook of 423 hectares and a land bank of 2,600 hectares, evenly split between land zoned for industrial and commercial/residential development.

Artist's impression of SCI's International Water Hub in Nanjing, China. Photo credit: IWH

The Urban division had a bumper year in 2019, earning an operating profit of S$177m (up 88% y/y) and a net profit of S$117m (up 36% y/y). This comes from the recognition of profit in Riverside Grandeur development in Nanjing, China, and two residential projects BelHomes and Sun Casa in Vietnam.

SCI has long been involved with Vietnam’s Becamex IDC in the master planning of the Vietnam Singapore Industrial Park (VSIP). The company recently saw brisk sales from the market for its industrial land in VSIP Quang Ngai and VSIP Nghe An, and for new mass market homes in VSIP Binh Duong and VSIP Bac Ninh.

In China, SCI continues to work on the Sino-Singapore Nanjing Eco Hi-tech Island (SNEI). The completed Jiangdao Intelligent Cube business park within SNEI will cater to companies specialized in artificial intelligence research and development. Meanwhile at a separate site, the International Water Hub in Nanjing, China will focus on companies researching on handling water pollution and effluent discharge.

The Sino-Singapore Nanjing Hi-tech Island in China. Photo credit: SCI

In India, SCI and the State Government of Andhra Pradesh have mutually agreed to terminate the master development of Amaravati Capital City Start-up Area. (This wraps SCI's first Urban venture into India on a sad note.)

My observations:

The Urban division is turning out to be the spark in SCI's revenue growth, with a FY2019 EPS contribution of 6.5 Singapore cents (up 36% y/y) and quoted ROE of 11.4% (up 28% y/y). Despite the slowdown in China, SCI expects rental demand in their Wuxi-Singapore Industrial Park to remain resilient, as the tenants are in the higher value-added semiconductor sector. SCI continues to see strong market interest in its VSIP and SNEI projects.

Hopefully, this will cement SCI's expertise and reputation in master planning and industrial town development, thereby leading to more opportunities within Vietnam and China. The dissolution of the joint venure in India was a setback, but it should not have any material impact.

Conclusion:

The future of SCI's revenue portfolio depends on opportunities in the utility sector within emerging Asian economies, as well as future industrial and business park development in Vietnam and China. While the COVID-19 situation is a dampener, SCI's Energy and Urban divisions should be able to maintain recurring revenue and income in the near future. The company took a bad hit from impairment charges in 2019. Absent of these one-off items, SCI's bottom line should improve.

SCI's power station in Sirajganj, Bangladesh. Photo credit: World Bank

On the bright side, SCI's Board had reinstated the annual dividend from 4 to 5 Singapore cents. If SCI is able to maintain or even grow this DPS, it should reasonate well with investors.

In the demerger announcement, SCI elaborated on a pro forma basis, its FY2019 ROE will increase from 3.5% to 7.9%, and its ROA will increase 3.5% to 5.6%. Its debt load will fall from S$11.6b to S$8.7b as at 31 Dec 2019. OCBC Credit Research had highlighted that SCI's EBITDA-to-interest ratio should improve from 2.3 times to 3.2 times [news]. A healthier balance sheet is always a good thing. Broker analysts are generally positive on SCI's future post demerger, with some calling for a possible rerating of SCI [news].

If we are to compare SCI to its nearest competitor Keppel Corp, Keppel looks to be the more favourable of the two. This is because Keppel has its toes dipped in more diverse industries, ranging from telco (M1) and data centres (KDC Reit) to fund management. Keppel also has higher margins, ROE and dividend yield.

The silver lining for SCI though, is the headway it has made in Vietnam. The Asian Development Bank has forecasted for the country to achieve the highest GDP growth in 2020 (6.8 percent) among the countries in Southeast Asia [link]. It is also broadly agreed Vietnam has benefited from the ongoing U.S.-China trade war [news].

Artist's impression of the Vietnam Singapore Industrial Park. Photo credit: SCI

For now, I wouldn't hold SCI for the simple fact that I do not want odd lots of SCM after the distribution in-specie. The ROE of a pure utility operator isn't sexy either. But I do think one year down the road, SCI may be worth a review, once the growth path becomes clearer.

Saturday, June 20, 2020

Ignorance is a killer in the stock markets

It has happened.

My investing buddy shared with me the tragic story of a Millennial who recently committed suicide after he thought he had lost more than seven hundred thousand dollars through options trading. You can read the article [here].

20-year-old Alexander E. Kearns was a University of Nebraska student home from college and staying at his parents' place. In the midst of the pandemic, he started to learn stock investing. He had opened an account with the popular brokerage firm Robinhood Markets.

Alexander proceeded on to trade stock options in the market. According to Forbes, Alexander fell into a despair late Thursday night after he looked at his Robinhood app and found he had a negative cash balance of US$730,165.72.

Image by Bill Brewster in Twitter

There was not much details on how the huge deficit came about, but it was suspected that Alexander was trading bull put spreads.

This option strategy means you sell put options at one strike price. You then buy a balanced number of put options at a lower strike price. This is to limit your losses, in the event the underlying stock price drops far below at option expiry. If the stock price remains above the upper strike level, you get to pocket the difference between the option premiums paid and received.

In other words, you're betting on the stock to rally higher in price, and your options expire worthless.

Payoff chart of a bull put spread versus underlying price.

The danger comes when the stock price is directionless and hovers in-between the two strikes. You will have to cough up money and take receipt of the underlying shares (due to the exercise of the put options sold at the upper strike price).

But then, you will NOT suffer an absolute loss, because the underlying shares received will still command SOME value in the market. (That is, provided the company is not a bankrupt entity like Hertz Global Holdings.)

In Alexander's case, the negative cash balance was probably due to the exercise of the higher strike put options, but before the underlying shares were settled into his account.

In his final note, Alexander insisted he never authorized margin trading and was shocked to find his small account could rack up such an apparent loss.

No doubt the crave for excitement during lockdown, rock-bottom commissions and slick interface on Robinhood might have attracted Millennials like Alexander to use the app for investing. (The app was known to pop green confetti whenever users make their first trade [advertisement]. In Reddit, you can find user screenshots of snowflakes falling, which means your account balance is going down.)

Image by MyThrowaway404 in Reddit

Throw in human greed and jealousy into the mix, and this toxic combination can produce youthful speculative fervour with little regard for caution.

So intense that the life of a promising young man was lost.

Much as this was a tragedy for Alexander's family, it would be a stretch to blame Robinhood solely for his death.

Robinhood didn't kill him. Ignorance did.

Ignorance of how option assignment works.

Ignorance of proper risk management.

Ignorance of the fact that the market is chock-full of survivorship bias. (You don't hear pep talk from the millions who lost their fortunes in the crash.)

Ignorance of the reality that most people only share envious stuff on social media. (Few will rant about their embarrassing trading blunders on Facebook.)

Unfortunately, Alexander may not be the last victim in this 'financial pandemic'. My buddy recounted how some of his friends, whom had never touched investing before, recently started asking him for stock recommendations.

And I am seeing the same in my own social circle too.

The appearance of a media mogul-turned-day trader who boasted to be better than Buffett at stock picking doesn't help things either [news].

I sense a stock mania in the making.

I just hope there won't be a similar grievous ending on our shores.

Thursday, June 18, 2020

A layman explanation of the Wyckoff Effect

Recently, an investing buddy introduced me to the Wyckoff Effect. Chartists and technicians may have heard of Richard Wyckoff, but this name is unfamiliar to me.

Image by mohisinabbas from Steemit

Richard Demille Wyckoff (1873 - 1934) was a trader, educator and stock market authority in the early 1900s. He was an astute observer of market action, and had developed his own trading technique based on watching the stock price and volume. Wyckoff emphasized on identifying the accumulation and distribution of stock by "smart money" (i.e. financial institutions) and to ride the trend as it develops.

There are two principles espoused by Wyckoff:

The first principle states every market and security is unique and never behaves in the same way twice. Present price movement bears no resemblance to any pattern in the past;

The second principle states since every price movement is unique, present price action should be studied in context to the price action on the previous day, week, month or year.

To ride a price trend, it is important to understand the forces behind it. Wyckoff had three laws to explain this phenomenon. For novices with a basic knowledge of economics, they are relatively easy to comprehend.

The three laws are as follows:

1. The Law of Supply and Demand - When demand is more than supply, the price rises. When supply is more than demand, the price falls.

2. The Law of Effort versus Result - Any price change is the result of an effort expressed by the security's traded volume. When there is consistency or harmony (i.e. a price change on increasing volume), the price movement will continue; when there is divergence or disharmony (a price change but on decreasing volume), the price movement will experience a reversal in direction.

3. The Law of Cause and Effect - Any price trend is due to the combined effort (or cause) in the market. The bigger the cause, the bigger the effect.

Wyckoff's Price Cycle describes the price movement in four phases: (a) accumulation, (b) markup, (c) distribution and (d) markdown. Any price movement up is preceded by the effort of financial institutions accumulating (buying) the stock. While the accumulation is ongoing, the price may trade sideways. When the supply eventually dwindles relative to the demand, the price will enter a markup phase (uptrend). As the price moves higher, there will come a point when the smart money starts to take profit (distribution). While the distribution is ongoing, the price may trade sideways. When supply eventually outstrips the demand, the price will enter a markdown phase (downtrend).

Image by Every Penny from Pinterest

In a nutshell, to benefit from trading the market, one should always swim with the big fish. Wyckoff provided an analogy of the "Composite Man", as follows:

"…all the fluctuations in the market and in all the various stocks should be studied as if they were the result of one man’s operations. Let us call him the Composite Man, who, in theory, sits behind the scenes and manipulates the stocks to your disadvantage if you do not understand the game as he plays it; and to your great profit if you do understand it."

Wyckoff has a witty example on how the average person ought to react:

"Figuratively speaking, therefore the small trader should imagine himself as a hitch-hiker in the market. For the ordinary hitch-hiker, someone else supplies the car, chauffeur, oil and gas. When he thinks the car is about to go in his direction, he jumps aboard and rides as far as he thinks the car will go."
"When he notices the machine has been stopped by a red light, or is about to turn a corner and go in some other direction, or that the car is running out of gas, or the brakes failing to work properly, he steps off and figures he has secured about as long a ride as he may expect."
"All he has supplied in this transaction is a modest commission and whatever brains were necessary to observe and recognize the opportunity when to get on and off."

There are plenty of websites that provide examples of Wyckoff's Price Cycle in action, and how to trade profitably from it. You can Google for them if you are keen.

To me, Richard Wyckoff's trading strategy makes sense. However, my purpose for investing is to accumulate positions in healthy companies that can provide sustainable dividend income through the years. So I am not really motivated to churn my holdings as they fluctuate between accumulation and distribution. (There is no telling when I can buy them back at the same cost the moment I sold my holdings.)

That said, I do believe studying the stock price movement can help an investor, albeit indirectly. If a downtrend is developing, we can ask ourselves whether to buy at the current price, or wait a bit to acquire the stock at a lower entry level.

While we can never predict accurately the bottom on the right side of the chart, the possibility of saving a few cents can provide a little less angst and a little more return when compounded over the long run.