BT: Overcoming fear conditioning and picking a bottom (24 Mar 2008)

STOCKS

By R SIVANITHY
SENIOR CORRESPONDENT

EXCESSIVE greed and excessive fear usually lead markets to behave excessively in a particular manner that sometimes takes months before normalcy returns.

This kind of conditioning was evident throughout the months of August to October last year when it was already clear that the US sub-prime crisis was much worse than previously thought, yet the major indices continued to set new highs. This was market conditioning of the greedy kind; however, what players today have to grapple with is conditioning of the fearful kind.

Every rally over the past couple of weeks has been capped by afternoon selloffs, none more so than last Wednesday when the Straits Times Index first rose 85 points only to lose all of this by 5 pm. The fear is widespread that despite the US Federal Reserve's desperate moves to prop up Wall Street, more blowouts await, with the result that the current climate is volatile, uncertain, focused on only a few themes and thus mainly for short-term intraday players.

Incidentally, it's worth pointing out that although the Straits Times Index has lost 18.5 per cent since the start of the year in local currency, huge chunks of the market have fallen by much more - the entire penny segment is down by more than half, China stocks by possibly as much, shipping and shipyards by 50-60 per cent and of course, the Singapore Exchange itself, whose shares are down 52 per cent for 2008. In other words, the index doesn't really capture the pain in the broader market.

The problem of course, is trying to pick a bottom, which is a level that only becomes apparent several months after it is reached. Two large houses last week attempted this difficult feat and although their figures differ, the conclusions were the same - Asia, including Singapore, will probably have to encounter more downside before any bottom is found.

Morgan Stanley for example, said in a March 18 study that there are six signposts for a trough, such as valuations, credit spreads and economic lead indicators. 'While the aggressive Fed and depressed sentiment are positive, valuation (for Asia ex-Japan) is still 9-19 per cent above prior lows, our economic lead indicators are not yet at recession lows and credit spreads, while high, are yet to form a peak,' said MS. If their analysis is correct, there could be at best, around 10 per cent more downside.

Credit Suisse however, was more pessimistic. Also on March 18, it said Asian markets have to correct more before things can improve, possibly by 20-35 per cent in order to reach a bottom. It said there are more GDP cuts to come for Asia - especially for China and India - and more earnings downgrades. When will a bottom be reached? Among other indicators, CS said when markets are down by more than 30 per cent and earnings expectations (especially in the US) go into negative territory.

Also, when talk of a recession is replaced by talk of a depression, or the 'R' word is replaced by the 'D' word. CS believes the probability is increasing that this topic will come up for discussion in the next few months.

BCA Research in the meantime, said in its March 20 Global Investment Strategy that the 'end is beginning' that the bottoming-out process is near an end and that its liquidity and various other indicators suggest that although the going will not be smooth from here on, stocks could be close to their lows.

So there you have it - some analysts think that there is possibly as much as 35 per cent more downside (which if it occurs, would take the STI down to 2,000 or about 800 points lower than it is now) while others like BCA prefer to focus on the glass being half full and offer words of encouragement to battered clients who haven't had much to cling on to for the past four to five months.

Our guess is that both schools are right to some extent, though it would probably be premature now to speak of a V-shaped turnaround - it took several years of excesses to inflate the sub-prime bubble, so it's unlikely that all this can be reversed in the space of a few months.

A bottom will eventually be reached though this doesn't necessarily mean the start of a sustained upturn immediately since there's every likelihood that the Fed's actions won't lift the US out of recession for some time yet. All we can say is that now, more than ever, this is a market ruled by the maxim of 'caveat emptor'.



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