Monthly Update of Portfolio [September 2015]

Accumulated

Accumulated Silverlake Axis, Penguin and China Fishery (10 lots) to my portfolio. This is because these stocks have fallen to attractive values, especially Silverlake. While the verdict of Silverlake's investigation has not been released, my personal sense is that there will not be much adverse news of contagion liabilities lurking in Silverlake's balance sheet.

Divested

I have divested KSH in the run up of its share price. This is because its MOS became relatively much lower than Silverlake to warrant a switch. In addition, I am not optimistic of its Prudential Tower project (approx 20% of assets post bond redemption) given the poor office outlook and slow strata sales (only 7 floors sold). 

Future

Currently, Silverlake seems to be the most attractive stock. Selling at a forecast 6% dividend yield with little debt, it seems to be better than Vicom (3% Dividend yield). I am also eyeing other stocks such as FCL, Teckwah and BBR; however their prices have not fallen to low levels to be attractive.

Starting work to support my hobby

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As many of you will know, I have a very expensive hobby of growing “money trees”. It takes seed capital, effort to source for fertile soil and time to grow these “trees”. And to add to my frustration, these trees sometimes become diseased and die on me.

While investing has not been easy, it has been a fruitful experience and I have gained much knowledge.

Unfortunately, I am running out of seeds and my planted “trees” have not bore fruits. Hence, I will be working to obtain the seed capital for investing. As such, frequency of my posting will be reduced. 

And if you asked:

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Thoughts on "Diamond are a sham..." and are Diamond Rings a Financial Mistake

Came across an interesting article by Robin Dhar titled "Diamonds are a sham and It's Time We Stop Getting Engaged with Them". It is interesting to learn when we buy a diamond ring; more than 50% of its value is lost as soon as we leave the store. Imagine learning that the $10,000 diamond ring you had bought yesterday is only worth $4,000 in resale value today. That's worse than buying gold or silver which only loses 5-10% of its value.

Hence, the diamond ring is perhaps the biggest financial mistake, ranking higher than owning a car - a depreciating asset but with benefits of convenience.

In addition, it is an eye opener to learn diamonds are not as rare as the price may imply. They are expensive due to the marketing delusion that “diamonds are forever” and the monopolistic nature of the diamond industry where companies work to restrict the supply of diamonds sold to the market. Furthermore, there are synthetic diamonds which cost a fraction of natural diamonds. And is something the common woman on the street is unable to distinguish from natural diamonds (unless she owns a laboratory). You can read here about synthetic diamonds.

Challenging Societal Norms

What mystifies me is how De Beers had marketed diamonds and in the process ingrained into us that the Diamond is a symbol of love and social status:

"It is essential that these pressures be met by the constant publicity to show that only the diamond is everywhere accepted and recognized as the symbol of betrothal."  and

"Promote the diamond as one material object which can reflect, in a very personal way, a man's ... success in life." 

This phenomenon was only a recent campaign in 1938. But with the invention by De Beers that diamond is essential in courtship, males have unwittingly parted ways with a large chunk of their wealth for a ring which loses more than 50% of its value upon leaving the shop. A brilliant marketing gimmick by De Beers.

Similarly in Singapore, it is a norm that we turn to a financial adviser or banker to grow/ protect our wealth. However, if one stops to think, these parties may not be the best. This is because Singapore’s wealth management industry is dominated by commission based agents who rely on the sale of financial products for salary/profits. There are very little fee-based financial advisers. As a result, there is a conflict of interest where the highest commission product for them may turn out to be the worst financial product for you (e.g. ILP). In fact, I have written how even whole life insurance is not optimal. We can create our own product which is likely to provide a better return than whole life but it gives very little commission to agents.

This is probably why many Singaporeans have difficulty saving for retirement. The adherence to societal norms results in financial mistakes that drains our savings that otherwise could be invested in better assets which will compound over time.

My Past Investment Mistake

In recent times, I had purchased a stock called Penguin International. Then it was 20+ cents and had price earnings and free cash flow ratio in the low single digits. It was a value investor's dream reporting strong growth and was priced attractively at its reported numbers. However, the share price has moved south and is now at 12 cents.

What Changed?

I had overlooked the fact Penguin's earning could be affected by a downturn. Penguin’s customers were companies in the oil & gas industry. Unfortunately, a downturn did happen and now deliveries and orders for its vessels has slowed. As a result, lesser revenue was recognized with increasing inventories. Penguin’s profitability only decreased one year after the slump of oil price.

Learning Points

This episode showed how reported numbers are merely the rear view mirror of a car; no matter how good they are, what matters is where the road is heading to. And to learn about the future earnings of a company, it is down to our ability to comprehend the industry's outlook. This is particularly true for cyclical industries such as: Oil gas, Property/REITS, Commodities and Shipping.

For example, while local properties companies have reported slightly increased profits, their share prices have stagnated or declined. This is likely due to their revenue recognition method. Majority of revenue currently recognised are for residential projects which had been sold in 2011/2012. Their Singapore segment will experience a decline later as residential sales had slowed since 2013. This too is applicable for Sembmarine and Keppel, where order books are only starting to decrease only a year after the oil slump.

Hence when investing in cyclical companies, it is always important to understand where the industry is heading before investing. While the financial ratios may look good at the current share price, there may be a reason why Mr. Market is still pricing the company at a low figure.

Save $25 for the first $60 purchase of online groceries [Only for DBS card members]

Came across this coupon on Honestbee which is only applicable for DBS credit/debit card members.

https://www.honestbee.com/promotions/dbs

Sign up before 30th September 2015 to enjoy a one time coupon of $25 discount when you spend a minimum worth of $60 at any single store on Honestbee website. Furthermore, you get free delivery (though you may have to wait 2 weeks or more for your orders)!

Best Way to Utilize

The simplest way is to buy $60 worth of essentials from NTUC Fairprice online via HonestBee. First, draw up a list of essentials your household needs such as 10kg bag of rice, Shampoos, Soaps etc. Then use Honestbee to buy from Fairprice Online to clock $60. It is worth noting a bag of 10kg Rice is $15.50 or $28.50 (Hom Mali Rice grains). So it may be easy to hit $60 if you are stocking on rice or shampoos.

After getting the one time $25 discount, feel free to return to your ordinary grocery shopping habits. In case you are wondering if I benefit from this shout out; I am not receiving any money or "referral credits", just sharing a tip to save some capital to Invest Wisely.

Why the STI ETF is better than most unit trusts

Are you a full time employee who finds it hard to make time to monitor one’s investment due to commitments? Or feel daunted by the market jargon and maze of financial statements when investing in the stock market?

If your answer is yes to either question, it may be good to leave your investment to fund managers. In my opinion, the best way is by investing in an ETF which tracks the Singapore Stock Index.

What is the Straits Time Index fund (STI ETF)?

Alvin from Bigfatpurse has written a comprehensive post about it.

For those who are busy or daunted by the lengthy article. Below are 5 points to know:

1)The Straits Time Index (STI) comprises of 30 companies listed on the SGX and is a net market capitalization weighted index

2) You do not invest directly into the STI index; this is done by investing in either the i) SPDR STI ETF or ii) Nikko AM STI ETF. There are listed on the SGX with stock codes ES3 and G3B respectively

3) While these 2 ETFs attempt to track the STI index, there is a small degree of tracking error

4) Investing in ETF is ideal for individuals who have a small investment capital or has no interest or knowledge to pick stocks

5) ETF are passive management funds while there is an alternative group of funds doing active management of funds called unit trusts

Bigfatpurse did an analysis on the returns of the SPDR STI ETF against unit trusts who possess a long track record investing in Singapore equities. Based on the 10 year performance of these unit trusts, the SPDR was ranked second in his analysis as of Feb 15.

How about at end August 2015? For the past two months, we had witnessed a stock market rout. Perhaps given the top dollars paid for these unit trusts’ managers, their brilliance would have protected our money better than the passive SPDR STI ETF. Here are the 10 year performance:

1 SPDR STI ETF – 5.7%

2 Schroder Singapore Trust – 5.7%

3 Nikko AM HIF Spore Div Equity – 5.5% 

4 Aberdeen Singapore Equity Fund – 5.5%

5 Amundi Spore Dividend Growth – 4.8%

6 Deutsche Singapore Equity – 4.7%

7 Nikko AM Shenton Thrift –3.8%

8 LionGlobal Singapore Trust –3.4%

9 United Singapore Growth – 3.3%

As of end August 2015, the SPDR STI ETF is now tied for first place on a 10 year performance basis. This is despite the higher expense ratios paid to fund managers who supposedly possess a wealth of investing experience or are top graduates. If we were to account sales charge, the STI ETF will lead the unit trusts.

Hence, for the lazy or time strapped individual, passive investing via ETFs may be a simple way to invest wisely. 

Why Keppel REIT and Office REIT are still not attractive

Came across S-REIT Investment blog's write up on Keppel REIT where its price has fallen to "attractive levels". While the financial ratios do look attractive, it is only one side of the story and I do not find Keppel REIT attractive yet.

Poor Office outlook

According to URA, there will be 545,000 square meters of new office space available for 2016. And judging from the office space demand during the past 5 years (2010-2014), the annual net demand is 110,000 square meters. Therefore, it is likely office space vacancy will rise by approximately 400,000 square meter. Currently there is a vacancy rate of 9.8% (746,000 sq m vacant space vs total current supply of 7,583,000 sq m). In 2016, vacancy rates are likely to spike above 11%. The last time Singapore experienced an office vacancy rate above 11% was during the GFC and 2001-2004 period.

Office Space Supply from URA

Furthermore, this oversupply is set to persist because more office spaces will be built from 2017 to 2019 and across each of these years, annual supply is greater than annual demand. Hence, in order to spur more companies to take up office spaces, rental rates are likely to fall by 15-20% from current levels. Lastly, the increase in office spaces are due to completion of new Grades A office buildings such as Guocotower and Duo. Hence the argument that Keppel or Capitacommercial are protected due to their quality grade A assets does not stand.

What does a fall in rental income mean?

Lower Distributable Income

Lower rentals mean less revenue and thus less profit. Hence, the current yield of 7.28% is set to be lower when the full effects of an office supply glut kicks in. It is worth noting majority of Keppel’s REIT tenancy contracts only expires in 2017 and after. Hence there will be a time lag in a profit fall because lower rental rates for Keppel’s office space are likely to happen after 2017 when tenancy contracts are renewed. Hence dividends are likely to be affected in the future.

Lower Valuation of properties

REITS tend to use the capitalisation methodology to value their assets. The formula is simple:

Value of Property= Net Property Income/ Capitalisation Rates (Cap Rate)

Firstly, with property income being lower in the future, Keppel’s property value will fall.

Secondly, cap rates for office spaces are likely to increase. This is because a rise in global interest rates will increase the cap rate. Also, a lack of growth in office space rental prices result in a higher cap rate as well. In short, the impending rise in global interest rates and lack of growth will increase the cap rates of office buildings.

With a fall in property income and rise in cap rates, the value of such REITS office property value are set to tumble. This can be seen in CapitaCommercial Trust’s (CCT) presentation below where the cap rates of its buildings are lower than previous years. Cap rates in some CCT assets are now creeping back to their old levels of 4+%. This phenomenon will apply to Keppel REIT as well because their office properties are similar to CCT.

CCT Capitalization Rates Table

A lower valuation of properties means a higher gearing ratio. This is because of the formula:

Gearing = Total Debt/ Total Asset

Hence for Keppel REIT, with an impending fall in valuation, it means lower value for its assets and hence a gearing ratio higher than its current 38.8%. This is not good because MAS requires all REITS to maintain a gearing level of 45% to its total assets. Should Keppel's gearing exceed 45%, it will have to raise money to pay down its debts by placing out new shares or asking shareholders for money. This will dilute the stakes of current shareholders and reduce dividend yield. The alternative is to sell off its assets which also reduces dividend yield.

Keppel itself does not have much cash in its reserves to pare down debts because it is obligated to pay at least 90% of its cashflow as dividends. Furthermore, many REITS pay only the interest and roll over the principal at the end, commonly known as Bullet Loan.

Conclusion

To conclude, given the impending fall in rental income due to a supply glut, Keppel REIT is likely to be affected and its shareholders will experience lower dividend yields. In addition, its NAV is likely to fall with lower asset prices. Hence Keppel REIT's current price to book ratio is not reflective of the actual situation.

This too may be explain why CCT/OUE Commercial (another office REIT) are trading below its book value and at a high trailing dividend yield. While Mapletree commercial and Suntec have office properties, they have a significant exposure to retail and are not as heavily weighted in office than Keppel and CCT/OUE.