BT: Investors should seek value amid volatility - 19 Sep 2008

Investors should seek value amid volatility

By NEIL BEHRMANN
LONDON CORRESPONDENT

A PSYCHIATRIST may well diagnose players in today's turbulent financial markets around the world as suffering from a case of mass schizophrenia.

Just consider the violent price gyrations of stocks, bonds, currencies and commodities, the confusing and often contradictory expert observations and predictions, contracting confidence and scary headlines.

In short, this dizzying behaviour fits the common and ordinary definition of schizophrenia - a mental disease in which the patient struggles to separate reality from unreal experiences and views the world as distorted and changeable without reliable landmarks. By referring to this disease, I do not wish to demean the tragic circumstances of unfortunate people who either end up in mental institutions or suffer at home or on the streets.

In fact, the analogy comes from a late bookmaker friend who described how normal, straightforward individuals became entirely different personalities when they entered his betting shop.

George Christidis, the bookmaker, was originally a dentist, a captain in World War II, a military historian and toastmaster. He ignored market gyrations and sought value. George didn't try and time the market; instead, he spent time in the market, deposited his dividends and died a rich man.

In today's world of instant news on TV, the Internet, radio and print, the individual is bombarded with a surfeit of news that can hinder decisions.

Long-time market veteran, Laszlo Birinyi of Birinyi Associates, the US money managers, longs for the days when decisions were made from one or two wire reports. The credit crunch, debt deflation, depreciating property and investment portfolios, and lower corporate and individual spending will inevitably lead to varying economic slowdowns or recessions around the globe.

With this in mind, are stock markets now offering value? There are signs that they are beginning to do so.

Wall Street will continue to lead the way. US 10-year treasury bonds are yielding only 3.5 per cent compared with consumer price inflation of 5.4 per cent. Even though inflation is beginning to taper off as commodity prices fall, the real long bond yield is negative. So bonds aren't good value, unless you expect a deflationary depression.

In contrast, the current dividend yield of the Dow Jones index is 2.8 per cent, and S&P 500 index, 2.7 per cent. For comparative purposes, price-earnings ratios can be inverted into earnings yields, so the Dow Jones index is currently 7.3 per cent and S&P 500, 6.6 per cent.

Let's take an extreme example. Say, the bears are correct and profits slump by say 30 per cent, the Dow Jones earnings yield would fall to around 5 per cent and the S&P 500 earnings yield, to 4.6 per cent. Despite that decline, their earnings yields would still exceed Treasury bond yields.

Let's take some other markets as examples. Singapore's dividend yield is currently around 3.5 per cent and earnings yield, 13.3 per cent; Hong Kong, 2.4 per cent dividend yield and earnings yield, 8 per cent; Malaysia, 3.3 per cent and 6.5 per cent; and Japan, 1.8 per cent and 6.7 per cent. The UK with a long bond yield of around 4.4 per cent has a dividend yield of 4.9 per cent and earnings yield of 10 per cent; and Germany, with a long bond yield of 4 per cent, has a dividend yield of 3.4 per cent and earnings yield of 7.8 per cent.

In volatile and nervous times, investors are reluctant to close their eyes and buy. They are aware that hedge funds, investment bank proprietary traders and other speculators are dominating the markets. There is thus a danger of buying too soon, just to observe the stock price sliding by 10 per cent to 20 per cent within weeks, if not days. Hedge fund risks have increased considerably as these players are being whipsawed.

There are stars but they are few and far between. Last year's hedge fund geniuses can be this year's fools. So, shrewd investors should be watching and waiting, aiming to choose their stocks during such falls. The proviso is that the business is sound and has a low level of borrowings.

We can't all be George Christidises. But we can all learn to spot value in the market.

Copyright © 2007 Singapore Press Holdings Ltd. All rights reserved.