Chess Café Investments

SGD FD Rates as of 26Sep11

2011-09-26T14:01:00.004+08:00

First of all, I want to say a big thank you to all the visitors. I can see from the website traffic that FD rates are of great interest to many, and I would try to post new tables more often. Please continue to give me your feedback.

From your feedback, I have added two more financial institutions (FI), Hong Leong Finance and Singapura Finance. Please let me know if any other FIs with a strong track record of giving high interest rates should be featured.

FD interest rates have generally fallen, since the July reading.

Best in class Maybank and BOC are now offering only 0.35% for 3 months tenure (less than $50k) compared to 0.4% previously. CIMB now has the best rates for deposits of 1 year tenure, drawing with SBI and Maybank for some deposit sizes. 3 year tenures have held its best in class rate, from 1.25% to 1.35%, with Maybank coming in tops (drawing with RHB in the below $50k size). Our new entrants HLF and SF do offer attractive rates though they are not best in class for any tenures or deposit sizes.

You might also notice that some FIs, such as Citi, have a lower interest rate for a longer tenure compared with a shorter one. While this might fly in the face of what seems logical (longer tenures should command higher interest rates since your funds are committed for longer, though in a decreasing rate environment, it might not hold true), it is due to these FIs requiring funds only for that particular period and having too much funds for other periods. Hence it is important to do your homework before selecting an FI to park your fixed deposits at.

My previous general comments still hold so for new visitors, please do take a look.

SGD FD	Below $50,000				$50,000-$99,999				Remarks
	3 months	6 months	1 year	3 years	3 months	6 months	1 year	3 years
Maybank	0.350%	0.500%	0.700%	1.250%	0.350%	0.500%	0.750%	1.300%	iSAVvy FD
SBI	0.300%	0.450%	0.700%	1.100%	0.350%	0.550%	0.800%	1.150%
BOC	0.350%	0.450%	0.600%	0.725%	0.350%	0.450%	0.600%	0.725%
UOB	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
OCBC	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
DBS	0.150%	0.200%	0.350%		0.150%	0.200%	0.350%
Citibank	0.150%	0.200%	0.050%	0.200%	0.150%	0.200%	0.050%	0.200%
CIMB	0.150%	0.250%	0.800%		0.150%	0.250%	0.800%
StanChart	0.100%	0.200%	0.350%	0.420%	0.100%	0.200%	0.350%	0.420%
RHB	0.313%	0.375%	0.625%	1.250%	0.375%	0.438%	0.688%	1.250%
HSBC	0.080%	0.120%	0.260%		0.080%	0.120%	0.260%		HSBC Premier
HongLeong	0.150%	0.250%	0.450%	0.700%	0.180%	0.280%	0.750%	1.000%
Singapura	0.150%	0.200%	0.475%	0.700%	0.180%	0.275%	0.680%	1.000%
	$100,000-$250,000				$250,000-$499,999
Maybank	0.350%	0.500%	0.750%	1.300%	0.350%	0.500%	0.800%	1.350%	iSAVvy FD
SBI	0.350%	0.550%	0.800%	1.150%	0.350%	0.550%	0.800%	1.150%
BOC	0.350%	0.450%	0.600%	0.725%	0.350%	0.450%	0.600%	0.725%
UOB	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
OCBC	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
DBS	0.150%	0.200%	0.350%		0.150%	0.200%	0.350%
Citibank	0.150%	0.200%	0.050%	0.200%	0.150%	0.200%	0.050%	0.200%
CIMB	0.230%	0.400%	0.800%		0.230%	0.400%	0.800%
StanChart	0.100%	0.200%	0.350%	0.420%	0.100%	0.200%	0.350%	0.420%
RHB	0.375%	0.500%	0.750%	1.250%	0.375%	0.500%	0.750%	1.250%
HSBC	0.080%	0.120%	0.260%		0.080%	0.120%	0.260%		HSBC Premier
	$500,000-$999,999
Maybank	0.600%	0.720%	1.000%	1.850%					iSAVvy FD
BOC		0.680%	1.180%
SBI	0.500%	0.600%	0.900%	1.100%
UOB	0.150%	0.250%	0.450%	0.700%
OCBC	0.150%	0.250%	0.450%	0.700%
DBS	0.150%	0.250%	0.450%	NA
Citibank	0.150%	0.250%	0.250%	0.350%
CIMB
StanChart	0.250%	0.250%	0.350%	0.950%
RHB	0.375%	0.500%	0.750%	1.250%
HSBC	0.180%	0.280%	0.510%	NA					HSBC Premier
HongLeong	0.180%	0.280%	0.790%	1.000%	0.180%	0.280%	0.790%	1.000%
Singapura	0.180%	0.275%	0.680%	1.000%	0.180%	0.275%	0.680%	1.000%
Savings a/c	Type	Interest	Remarks
Maybank	Isavvy	0.4484	>$100k. Int over int approximated
StanChart	Esaver	0.3	>$200k

Updated	26-Sep-11

Additional Notes:

I do try my best to get it right, but I do not guarantee that the accuracy of the information nor its validity. Please use the information only as guidance to help you narrow down your options for further research.
If your deposit or time period is not in the table, please check the website of the financial institution (FI) directly.
Each FI specifies its deposit size differently. I have chosen the most popular deposit sizes and time periods, to avoid cluttering the presentation of the information. The information is presented up to 3 decimal places – some FIs may have more than 3 decimal places in their offers.
There are terms and conditions attached to each fixed deposit. Please read these carefully on the respective FI’s website or contact them. Fixed deposits may have penalties for early withdrawals.
Lastly, this is just a simple website. Please do not sue me. Please advise if there are any problems or suggestions at ChessCafeInvestments@gmail.com. I welcome your feedback.

Banks: Is It Time to Play?

2011-07-19T20:30:00.001+08:00

Image: Getty Images @ Forbes

For investors hoping to scoop up European banking assets on the cheap, here's some info gathered from Forbes, who mysteriously presented the same info in a difficult to compare set of pictures. Pretty but not useful. Nonetheless, their article does highlight some important cautions: the report where they gathered the info from only considered sovereign exposures, and neither the corporate debt exposure or derivative positions, nor the knock-on effects of a sovereign default. Value play or value trap, it's hard to decide at this present moment. Nonetheless, here's a better table.

American banking assets are also trading cheaply these days, for its own sets of reasons - changing regulatory rules which would impact the big boys, mortgage issues still bubbling, and economy still reluctant to show signs of a sustained recovery. Do investigate these if you wish to make a play on banking, it might work out to be a better deal.

Rank	Bank	Total Assets ($B)	PIIGS Sovereign Debt ($B)	%debt to assets
1	BNP Paribas	2668	43.1	1.62
2	Deutsche Bank	2545	16.2	0.64
3	HSBC	2468	6.7	0.27
4	Barclays	2328	29.2	1.25
5	RBS	2266	3.5	0.15
6	Credit Agricole	2131	19.1	0.9
7	Banco Santander	1610	69.6	4.32
8	Lloyds	1546	0.1	0.01
9	Societe General	1512	9.7	0.64
10	Unicredit	1232	54.3	4.41
	Sources: Bloomberg; Goldman Sachs' Report "Europe: Banks, July 13"; Worldscope via Factset Research Systems.

On Luck

2011-07-15T12:47:00.001+08:00

Image: wallpaper-s.org

This article from Forbes got me thinking about what luck meant. I, like the author, don't quite believe in luck, or the way luck is usually defined, as a random streak brought about by chance as opposed to as a result of any effort by the protagonist. Sure, random things do occur and some of them do turn out to be good things (just as much as they can be bad things), but for the most part, we make our own luck, or so I would like to believe. Or as some others would say, luck is all about good attitude.

By definition, luck is something that occurs by chance or is random, and hence is not something predictable or within our control. Perhaps another attitude towards luck is just one of ambivalence or even agnosticism, where it doesn't matter if there is or is not such a thing since it is uncontrollable and unpredictable. But while I do think there is such a thing as luck, I like the way Edward Gibbon puts it:

"The winds and waves are always on the side of the ablest navigators.”

On that note, I would be having a hiatus of 2 weeks so good luck to all and happy investing.

Michael Mauboussin on Investment Approach and Philosophy

2011-07-11T17:48:00.003+08:00

This video comes highly recommended by me. Steve Forbes interviews Michael Mauboussin, Adjunct Professor at Columbia Business School and Chief Investment Strategist at Legg Mason and the video is filled with insights on behavioural biases, efficient markets, stock-picking, value investment - watch it and compare that with how you think about investments. Go here for the transcript.

One of my favourite bits is:

"So you go to the horse race and there are odds on the tote board. That is the expectation of the performance of the horse. And then there’s fundamentals: How fast that horse is going to run. Now, if you studied tens of thousands of horse races, it turns out the markets are pretty efficient. The ordinal finishes of the horses, first, second, third, as predicted by the odds, is pretty much what happens. But from time to time, we know, there are mis-pricings. There are odds on the tote board that just don’t well describe how that horse is likely to run. And that’s what the sharp handicappers are after.

Bring that over to the world of investing, and that’s the same thing. We don’t have odds on the tote board, but we have something called the stock price. So we reverse engineer the expectations built into that price. We say, “What has to happen for that to make sense?"

And then we look at how the fundamentals are likely to unfold. It’s a probabilistic exercise. That would be the first piece. The second piece, analytically, is bet size, which is once you have an edge, how much do you bet in your portfolio? That’s a second key component which is often overlooked."

Tiger Airways: Not a Value Candidate

2011-07-11T16:55:00.001+08:00

Image: Tiger Airways

Tiger Airways has been in the news alot lately, due to its planes being grounded by Australian regulators. To add insult to injury, it doesn't even turn a profitable operation there. With its high capex requirements, and the cyclical nature of the industry, throw in a short track record, and the highly competitive (and often unprofitable) nature of the airline industry. Tiger makes for a poor value investment candidate.

Image: Yahoo Charts

Tiger Airways (SGX: J7X.SI)

7Jul11

P=1.04

IPO on 22Jan10.

FY11 ends 31Mar11.

EPS_11=7.4cents

PER_11=14x

Tiger generates negative FCF in 2010, and 2009. In 2010, it is due to the high capex while 2009 was a loss making year. OCI stands for approximately 17% of its total profits in 2010, which can reverse quickly.

ROCE_ttm=10%, EY_ttm=13.8%

ROCE_10=7%, EY=4.5%

TBV_10=0.348

PTB_10=3x

Tiger isn’t an investment candidate for a few reasons. Its track record is short, having IPO only last year and its years of operations is also short, having been incorporated in Feb 2007. It is trading at a high PB even though it doesn't generate any IP or other forms of intangible asset value. Such a company should in fact trade at a discount to TBV (its balance sheet has no intangibles). It faces great competition from other budget carriers, and full service airlines, and high fuel costs is profit debilitating. And we haven’t even got to the regulatory risks it now faces with the Australian aviation authorities. And its fundamentals are bad, it generates negative FCF, and has low ROCE. In short, it is an average business in a highly competitive industry. Tiger doesn’t become interesting to analyse until it is trading about 1x PTB.

Best SGD FD rate

2011-07-11T11:34:00.008+08:00

Saving money is an important way to begin or continue a financial journey. Einstein has reputedly said that compound interest is the most powerful force in the universe. Regardless of whether he actually spouted these words of wisdom, savings lay a foundation for security and investment. While we lament the rock-bottom interest rates, it is also a stimulant for corporates to borrow money and is a boost to corporate profitability.

Currently, it looks like State Bank of India and Maybank offers the best SGD fixed deposit rates. Red indicates best of class. Please contact the bank directly for its latest rate or promotions, and to make any deposits. Also note that bank deposits are only guaranteed up to a maximum of SGD 50,000 per bank (NOT per account), and so there can be tail-risk even in such a plain vanilla deposit.

I have included also some internet-based accounts, which has no lock-in periods to aid comparisons. For short-tenures, it might make absolutely no sense to use an FD.

SGD FD	Below $50,000				$50,000-$99,999
	3 months	6 months	1 year	3 years	3 months	6 months	1 year	3 years
Maybank	0.350%	0.500%	0.700%	1.250%	0.350%	0.500%	0.750%	1.300%
SBI	0.400%	0.450%	0.800%	1.000%	0.450%	0.550%	0.850%	1.050%
BOC		0.480%	0.980%			0.580%	1.080%
UOB	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
OCBC	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
DBS	0.150%	0.200%	0.350%		0.150%	0.250%	0.450%
Citibank	0.150%	0.250%	0.250%	0.350%	0.150%	0.250%	0.250%	0.350%
CIMB	0.150%	0.230%	0.800%		0.150%	0.230%	0.875%
StanChart	0.150%	0.250%	0.350%	0.750%	0.150%	0.250%	0.350%	0.750%
RHB	0.313%	0.375%	0.625%	1.250%	0.375%	0.438%	0.688%	1.250%
HSBC	0.180%	0.260%	0.450%		0.180%	0.260%	0.450%
	$100,000-$250,000				$250,000-$499,999
Maybank	0.350%	0.500%	0.750%	1.300%	0.350%	0.500%	0.800%	1.350%
SBI	0.450%	0.550%	0.850%	1.050%	0.450%	0.550%	0.850%	1.050%
BOC						0.680%	1.180%
UOB	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
OCBC	0.150%	0.250%	0.450%	0.700%	0.150%	0.250%	0.450%	0.700%
DBS	0.150%	0.250%	0.350%		0.150%	0.250%	0.350%
Citibank	0.150%	0.250%	0.250%	0.350%	0.150%	0.250%	0.250%	0.350%
CIMB	0.230%	0.400%	0.800%		0.230%	0.400%	0.800%
StanChart	0.150%	0.250%	0.350%	0.750%	0.150%	0.250%	0.350%	0.750%
RHB	0.375%	0.500%	0.750%	1.250%	0.375%	0.500%	0.750%	1.250%
HSBC	0.180%	0.260%	0.450%		0.180%	0.260%	0.450%
	$500,000-$999,999
Maybank	0.600%	0.720%	1.000%	1.850%
BOC		0.680%	1.180%
SBI	0.500%	0.600%	0.900%	1.100%
UOB	0.150%	0.250%	0.450%	0.700%
OCBC	0.150%	0.250%	0.450%	0.700%
DBS	0.150%	0.250%	0.450%	NA
Citibank	0.150%	0.250%	0.250%	0.350%
CIMB
StanChart	0.250%	0.250%	0.350%	0.950%
RHB	0.375%	0.500%	0.750%	1.250%
HSBC	0.180%	0.280%	0.510%	NA
Savings a/c	Type	Interest	Remarks
Maybank	Isavvy	0.475304	>$50k. Int over int approximated
StanChart	Esaver	0.35	>$200k

Updated	11-Jul-11

Notes:

I do try my best to get it right, but I do not guarantee that the accuracy of the information nor its validity. Please use the above only as guidance to help you narrow down your options for further research.
If your deposit or time period is not in the table, please check the website of the bank directly. Each bank specifies its deposit size differently. I have choosen the most popular deposit sizes and time periods, to avoid cluttering the presentation of the information.
There are terms and conditions attached to each fixed deposit. Please read these carefully on the respective bank's website or contact them. Fixed deposits may have penalties for early withdrawals.
Lastly, this is just a simple website. Please do not sue me. Please advise if there are any problems or suggestions at ChessCafeInvestments@gmail.com. I welcome your feedback.

HP: Has it Become Oversold?

2011-07-09T23:20:00.001+08:00

Image: HP

From HP's website:

"The world’s largest technology company, HP brings together a portfolio that spans printing, personal computing, software, services and IT infrastructure at the convergence of the cloud and connectivity, creating seamless, secure, context-aware experiences for a connected world"

HP has recently tested new 52 week lows, and are now priced at what seems to be a ridiculous 8.5x forecasted (forecasted by HP, that is) 2011 earnings. This is close to its lowest levels in the last 10 years. Generally, "old" tech companies have become rather cheap, with many of the major names like Microsoft, Cisco, and HP becoming unloved, despite their strong and consistent profitability.

Disclosure: I currently have no holdings in HPQ.

9Jul11

P=36.43

HPQ’s FY11 ends Oct31 11.

EPS_ttm=4.07

PER_ttm=8.95x

EPS_11f=4.27 [based on 2q guidance]

PER_11f=8.5x

View the full HPQ chart at Wikinvest

I want to have a brand new look at HPQ. HP has since touched fresh 52 week lows on 15 Jun, with lowest being 33.95. It has since risen 7.3% off these lows indicating a firm rebound. Since then HP has released their new tablet based on WebOS (1Jul) creating this new resistance level around the 36$ level. The reviews have not been overwhelmingly good, reviewers like Cnet and Endgadget like the WebOS, dislike the hardware and lament the current lack of Touchpad-optimised apps. And of course endless comparisons with Android and Apple tablets, which the Touchpad does not beat.

Nonetheless, I want to work through the numbers with fresh eyes, and see if its returns are good, and whether HPQ is a value proposition. It still has market leadership in the PC and printer space, albeit with PC sales being the low margin business. All its other businesses are higher margin, with operating margins exceeding 10% while PC is 5%. While PC is still the biggest part of its revenue earners, at 29% in 2q, enterprise is 17%, services 28% and hence significant, and image and printing 21%. This does seem healthy. In terms of geography, US is 34% of sales, while asia-pac is 19% and EMEA is 37%. This is also well diversified.

HP has been a consistent performer in terms of EPS. It made money all the way through the lehman crisis and had one small –ve year in 2002. QOQ performance is also stable, since 2008, with EPS climbing slowly up, with some fluctuations. I can’t quite state specifically which Q is the strongest, as it does change, so it is likely to fluctuate based on capex demand from enterprises.

Image: HP 2Q slides

An examination of HP’s FCF yields interesting results. Using 2010 data, FV_10=39.64 or a 9% upside, at zero LTEG, while making an estimated 2011 results by linear adjustments yields a 41% upside, with FV=52.04. 2009 data gives FV=47.66 or a 31% upside. This indicates that HP is currently undervalued.

Greenblatt ratios: ROCE_10=15.3%, EY_10=10.6%. On a ttm basis, EY=11.7%, ROCE=16.2%. Leo Apotheker has said during their investor summit in Mar11 that they intend to hit $7 EPS in 2014. Or a 12% EPS/yr to get there.

18Aug is 3q release. Volatility is to be expected upon release, especially if it doesn't meet Street expectations.

Conclusion: BUY, Using 2009 FV as TP=47.66, upside is 31% and it is still trading at PER=11.2x at that price. Which is still cheap historically, and hence is sufficiently conservative.

Forbes Interview with Greenblatt on Value Investing

2011-07-09T12:05:00.001+08:00

Joel Greenblatt appears on Forbes, and discusses his new book, the Big Secret for the Small Investor. He is more commonly known for his Little Book of Investing that Beats the Market, part of the little book series. More on that here.

He explains why, among other things, while the stock market is forward looking, why studying backward looking financials can make sense, and why opportunities can arise such as companies with strong return on capital and earnings yield can be selling cheap. He feels that when such opportunities arise, it is because the market is pricing in low expectations. Hence if there is any neutral to good news coming out of that company, it would be rewarded while since negative expectations are already priced in, it would not have much further downside. Have a watch, he also has some interesting insights into how short-term-inism can sideline one's portfolio.

KLA Tencor: Buy, Hold or Sell?

2011-07-06T22:20:00.004+08:00

Image: KLA Tencor

KLA Tencor (NASDAQ: KLAC) is currently trading at low valuations, on a back of a robust earnings year, and moving to its record, with healthy capex spending from semi-conductor majors like Intel and TSMC.

With a yield management products being an almost must have for its customers, is KLAC currently cheap to buy, or is capex going to slip leading to a deflated stock price for KLAC?

Disclosure: I have no holdings in KLAC currently.

KLA Tencor Corp (NASDAQ: KLAC)

View the full KLAC chart at Wikinvest

2 Jul 11

KLAC’s FY11 ends 30Jun11.

P=41.45

EPS_4qf_adj=1.28-1.44

EPS_ytd=3.23

EPS_11f=4.51-4.67

PER_11f=8.9-9.2x

EPS_ttm=3.89

PER_ttm=10.7x

Div_ttm=1.0

Div yield_ttm=2.4%

KLAC is a supplier to the semi-conductor industry, with yield management and process control solutions. Their revenues are closely related to the capex of the foundries, and its main bulk of revenues come from these, even though they are also involved in other industries creating silicon wafers like solar and tv.

KLAC’s Greenblatt ratios from 2010 is not good, with ROCE=11% and EY=4.4%. But using ttm data, the ratios are now at a solid ROCE=28% and EY=12.9%, which is very respectable. 2011 is working out to be an excellent year for KLAC in earnings, and if their 4q forecasts hold, it would be a record year, and about 4x 2010 earnings.

What differentiates KLAC from other semi-con industry related plays is that it is almost consistently profitable. KLAC has in the last 10 years only 1 unprofitable year, in 2009. In contrast, companies like AMAT rides the economic cycles, leading to losses at the troughs of the cycles (even though AMAT was also unprofitable in 2009 only for the last 10years). KLAC is likewise exposed to these cycles, but its current backlog exceeds 1B. Indeed AMAT is listed as a competitor. KLAC has more than 10% of its revenue coming from Intel and TSMC in 2010. According to S&P, KLAC has market leading position. In terms of its products, the long term story of more as opposed to less chips, and more different types of chips, is set to grow. The continual investments required as technologies improve also would create a recurrent demand for KLAC’s products. And its product range is also growing for the peripheral technologies that require yield control. KLAC’s balance sheet is strong, with about 10$/share worth of marketable assets and cash equivalents. This positions it well for future acquisitions.

In terms of FCF, KLAC’s 2011 extrapolated data indicates it is currently priced for a 4.5% LTEG. The reason why FCF is not favourable is due to its high beta of 1.76 and its 90% weight of equity, leading to a high WACC. If what they categorised as marketable securities is added to the value of the firm (the previous calculation was more conservative, only recognising cash and cash equivalents), it is currently priced for 2.5%. That still leaves FV=32.92 or 21.5% lower than current price.

Ratios: Considering its record year this year, KLAC is currently priced at PERs which is its lowest in the last 10 years. However, this is on the back of records earnings, which the market is interpreting to come to an end, given its current pricing.

The risks that KLAC faces is double dip, whereby capex would be slashed and KLAC’s profits would be badly impacted. This scenario appears unlikely. In fact, it is at the high end of its earnings cycle, with EPS levelling off as opposed to crashing. In terms of price performance, it has just rebounded off its YTD base, and is now 8.8% off its ytd low of 38.1.

KLAC is a GARP stock as opposed to value. It also contains elements of a directional play, since its earnings are not defensive. Indeed the Greenblatt ratios did capture that KLAC is a rather special company, with good ROCE and EY, but FCF shows it is not priced that conservatively, and also that the market is reading that earnings would fall subsequently.

Conclusion: Review at P=33. That would be a safe point to enter something like KLAC.

Effortless Computing by Apple

2011-06-11T15:38:00.003+08:00

Image: Apple

Apple is the best loved technology company today, with its array of sleek design, and cool user interfaces. Its users are rabid defenders of the company, and are in fact their best advertising, while developers can't stop building app after endless app to try to ride the wave. The other tech companies seem to be playing an losing game of catchup, and appear to be at least 1 generation behind every time Apple launches something new.

Its revenues are growing faster than its cost base, and growth investors might find Apple actually cheap, but from a value investing point of view, Apple certainly does not have enough safety margin to embark on a new investment now. Read more below.

Disclosure: I currently have no holdings in APPL, though I do own its competitors such as MSFT, which APPL has played no small part in making them into value-plays by reducing them to what seems like yesterday's technologies. I also am writing this on an iMac.

Apple (NASD: AAPL)

11Jun11

P=325.9

APPL’s FY10 ends 30Sep10.

In a way, this review on AAPL is grossly overdue. Among the most talked about IT company and best reputed, AAPL’s share price has gone astronomic, and might be deservingly so, given its high ROE, market dominance in its new product lines and rabid fan base. And in terms of relative valuation metrics, AAPL isn’t exactly way overpriced, with PERs ranging less than 15x. However, AAPL faces key-man risk, with Jobs ill and hence might have to retire, and with already multiple generations of its products (Iphone 4, Ipad 2, Ipod many), it is hard to see what the next big thing is going to be. Its execution on its current products have been good, and its reputational asset is valuable, where everyone wants one, even though technically it might not be the best product. It also has built a strong ecosystem to support itself, with its app store and itunes, with icloud probably enhancing and entrenching its user experience. Some of its minor projects have not taken off, like mobileme or apple tv, but APPL at least isn’t pouring more money into a bottomless pit and forcing the issue, unlike companies like MSFT who has been losing money on its internet business with no end in sight.

Anyway, a review on AAPL is necessary, even if only to benchmark against my other investments in IT, such as MSFT and peripheral businesses like BBY. AAPL pays no dividend, given its ROE is significantly higher. In a way, the reason why I have put off reviewing AAPL is because of the gambler’s fallacy, which is a behavourial bias that what has already done well for so long is only overdue for a fall, which is a misinterpretation of the regression to the mean. The way to overcome such a bias is a fact based objective evaluation about the investment case, putting aside prejudices and other heuristics that can cloud objectivity. The question remains, is it overpriced? And I mean on a trailing basis with assumptions of decreased growth going ahead (not increased, but decreased).

What better place to start than watch the latest keynote video from Apple’s developer’s conference where they introduced iCloud. What comes to mind as I watch Jobs introduce it is, effortless computing. They have decided to make thumbdrives redundant, or for that matter, filetransfer completely effortless and seamless. And what Jobs has introduced is only scratching the surface of what is possible. Monetisation is only a matter of time. With each upgrade cycle, they are charging. With each cycle, they are gaining market share and getting more people to buy their hardware.

So, we love the story. Let’s see how the financials pan out.

EPS_10=15.15

PER_10=21.5x

BVPS_10=51.68

PB_10=6.3x

BVPS_2q11=65.68

PB_2q11=5x

EPS_1H11=12.83

APPL’s strongest quarter is 1Q which coincides with the Oct-Dec quarter of the calendar year, or Christmas season. If we consider 1h=2h, EPS_11f=12.83*2=25.66. PER_11f=12.7x, which is not expensive for a growth company.

FCFF indicates that APPL is priced to have an LTEG of 6.5%, which indicates it is overpriced. At 0% LTEG, APPL’s FV=155.16 or about half its current price.

The Greenblatt ratios indicate that ROCE=34%, which is high, but the earnings yield is low, EY=6.15% using 2010 data.

Conclusion: APPL is priced too richly for me. While the growth prospects are great, and APPL has built up a strong ecosystem of products surrounding its innovative hardware, APPL is certainly not a value proposition.

Over-reaction - an INefficient Market

2011-06-07T10:54:00.002+08:00

Image: The Economist in 1997

Pheim Asset Management's Chief, Dr Tan Chong Koay, says “I need a crash to do well,”.

At this talk at SMU, he speaks about his brand of value investment, where he believes market timing plays an important role in getting his market beating results, and from my perception, he really is a GARP investor (Growth at a Reasonable Price).

He also does not believe that markets are perfectly efficient, in fact, precisely the lack of efficiency is what allows profits to be made.

"Now, not every stock market player can have the courage to plough in when everybody else is selling. There is always the element of risk but savvy investors will know how to assess their chances. “If you want to make money, you need to take calculated risks, and you do not want the market to function efficiently and perfectly. If you believe the equity market is efficient, you will never be a star,” said Tan. However, attempts to time the market perfectly might be futile too. “Trying to buy the shares at the lowest price and sell at the highest is unrealistic,” he said, and after careful study of the company’s fundamentals and making that crucial ‘buy’ decision, “investors need patience to wait for the companies to prove themselves” – and to allow the price to move up to its fair value."

On a separate note, here's another piece I wrote, for those interested in how re-insurance works.

This Book Claims to STILL be Beating the Market

2011-06-07T10:42:00.000+08:00

A great little book to read, for some laughs, The Little Book that Still Beats The Market has been lauded as a much needed back to basics for me. See my review here.

Lest we state the obvious, the book in one sentence is "Buying good businesses at bargain prices is the secret to making lots of money."

Greenblatt, the author, goes on to explain in about 100 pages what is a good business, and how to recognise what do bargain prices look like, with 2 metrics - earnings yield (trailing EBIT / Enterprise Value) and return on invested capital (trailing EBIT / (Net Working Capital + Net Fixed Assets)).

Will Groupon Ever Be Profitable?

2011-06-06T22:11:00.001+08:00

Image: Getty Images via @daylife

Forbes examines whether Groupon has any merit at all in coming to IPO. It asks whether Groupon meets these 3 criteria:

"Value Creation happens when customers use a product because it meets their needs better than the competition’s. An example is Netscape’s Web browser. For much of the mid-1990s Netscape was the market leader.
Value Capture is when a product’s price exceeds its makers’ costs to design, produce, sell and ship it. Since Netscape gave away its browser for free, it succeeded in creating value but failed at capturing it.
Value Renewal occurs (rarely) when a company adapts to new technology, changing customer needs, and upstart competitors. Steve Jobs renewed Apple’s (AAPL) value brilliantly starting with 2001′s iPod introduction and kept doing so with iTunes, the iPhone and the iPad."

They have a really good point with Value Capture. It seems many internet companies are creating value, but failing to capture or monetise it. Twitter and Facebook comes to mind. In fact, I wonder whether anyone has done a survey to figure out how much money is paid by advertisers to advertise online, and how much revenues those advertisements bring.

Print Your Own Food?

2011-06-06T21:43:00.001+08:00

3D printing, or what is known in the engineering community as rapid prototyping, is according to the video, on the edge of reaching the all important consumer market. These machines used to be so expensive that only engineering production firms own them, and they usually just outsource it as these machines are.... expensive. Well, these guys at 3D Systems are looking to bring them into your homes. And at first, you wonder, what the heck am I going to do with it? Well, same thing you could have said with the IPad, what the heck am I going to do with it? And then you realise what things you can do with it.

Even if it doesn't find its way into every consumer's home, I would believe that schools would find this pretty useful. Or maybe there wouldn't be so much printing required that every home needs one, but printing centres can spring up to cater to those who want to print something, the way we used to bring our film into processing centres to be developed.

Is 3D printing in our future?

Is Money a Lousy Motivator?

2011-05-16T22:06:00.003+08:00

Here's something to think about.

Besides the cute animation, Dan Pink (the originator) says that more money actually decreases performance for cognitive tasks. Essentially, he says that money is the wrong kind of motivator. Instead, people want purpose, self-mastery and autonomy!

Which explains in part why we write these blogs for example, or why people do stuff like learn new languages (which seem to find no immediate usage in their lives). It's for the satisfaction!

Is it true? And can such ideas be profitable for investors?

Of Accounting Fraud and China

2011-05-07T22:07:00.002+08:00

The Great Wall might well symbolise
the accounting veracity barriers
in China
Image: www.crystalinks.com

Those looking to play the China mega trend would do well to read this from Reuters. Singapore-based investors would be familiar with the tale of the remiss S-chips even though Reuter's perspective is of those listed on the American bourses.

It talks about accounting irregularities bordering on outright fraud, and how even international accounting firms have seem to fail to detect these, leaving it to certain smaller research firms to investigate and then short the companies profitably (which also spells another conflict of interest and gives potential room for abuse).

1: For any firms (including those outside of China) where the financial statements cannot be depended upon to be reliable, the only thing for an investor to do is to avoid it like the plague, regardless of how profitable the trade might seem. The reason might be obvious, but let me say it loud and clear: If the financial statements are not reliable, there is no means of knowing what is going on in the business, unless you are an insider.

2: Reputation is actually worth something. This doesn't mean that one should only invest in well-known firms, indeed great opportunity might lie in small unknown firms. But then there might be a need for a larger discount factor to take into account any unknown risks. Or to put it another way, the expected profits from such less known investments should be fairly large, to compensate for the higher "risks".

3: Another point to note from the Reuters' article is, for those Chinese firms that are formed out of reverse mergers, they did not undergo the rigours of the American IPO process, which thus give rise to such abuses.

4: There are other ways to play China than to invest directly in the country's companies. International firms doing business in China, or selling their products in China (or for that matter the other countries in rapidly growing countries), can be a safer way to get the China exposure, without the Chinese accounting issues.

2011's Fortune 500 Companies

2011-05-06T01:12:00.001+08:00

Image: Fortune Magazine

So the Fortune500 list for 2011 is out.

For me, such lists can be useful and interesting, as it can be a good place to start looking for investment ideas, and to stimulate some thoughts on whether there are value investment opportunities among America's largest companies.

Big can be good if it implies a level of safety (as in, it is unlikely to go bust, though that can obviously prove otherwise which explains why further work is needed, think Lehman Bros or Enron) or dominance (e.g. Walmart, or Big Oil). So, happy trawling over the list.

China: A Bundle of Contradictions?

2011-05-04T11:04:00.002+08:00

Image: Knowledge@SMU

Some of you may be wondering why I have been posting all these links to Knowledge@SMU. In addition to there being some gems on the website, I also have been a contributor and the articles I have posted so far have been written by me (though I might post some others in future not written by myself).

Investors in China have rode some fast and furious bull runs and equally heart-stopping falls, and they might wish to pay heed to the huge and potentially devastating effects of the unsustainable amounts of local government debt, which might ultimately require a bailout not unlike that of the bank bailout in the developed world.

Carl E. Walter and Frasier J.T. Howie sound off warning bells in their book entitled Red Capitalism, which talks about the near-incestuous relationship between the mega- State Owned Enterprises (SOEs) and the government, and how China's banks are practically "state utilities" to be turned on and off by the central government.

They warn that "“one cannot simply assume that words such as ‘stocks’ or ‘bonds’ or ‘capital’ or ‘yield curves’ or ‘markets’ have the same meaning in China’s economic and political context” than that understood in international finance. They highlight the need to look beyond the curtain to glimpse the rot beneath and discern the true flows of capital in this so-called economic miracle."

Read the full review here.

Does Diversification and Market-Timing Make Sense?

2011-05-02T16:02:00.004+08:00

It has been a busy week, Singapore is having its General Elections, and given my stake and ownership in this country, I have been focusing on that.

Nonetheless, here's an interesting video from Forbes on a fund manager who talks about diversification and market timing. None of it is original wisdom, but investors might want to take heed on the wisdom of diversification and the folly of timing.

Or not? It's a tough question, almost 2 camps of people with opposing views. My take is, non-professionals should diversify, in fact just use an index fund, and forget about timing, if they have a long horizon (those who don't are best served through just remaining in money market assets). But well, many others would suggest otherwise.

Watch this, for another viewpoint.

Some Thoughts on Foreign Currency Time Deposits

2011-04-30T16:31:00.002+08:00

Image: www.businesscafeonline.com

A friend asked me this question:
What is your view of RMB time deposit offered by bank of china? The offer is found here.

My answer is: Dear Mr. A,

I had a brief look at what the offer is. I can't say I know too much about currencies and of this specific deal. And what I am about to say, might be factors that might be already obvious to you. But here goes:

You are taking on 2 main exposures by doing it.

First, currency exposure, i.e. the fluctuation of the RMB versus your home currency (I presume you are thinking of changing SGD to RMB, but it could also be USD/RMB or some other currency pair).

The appreciation or depreciation of a foreign currency depends on a few factors, which are affected by macro-economic policies which might be unforeseeable, and also the relative strength of the 2 economies, their interest rate differential and their inflation rate differential (this is actually Fisher's interest rate parity theorem). And of course if the current pricing is inefficient, then there are also sentiment driven factors. But let's assume the currency market is efficient (in the parlance, we'd call that the null hypothesis), which it likely is, since the currency market is one of the most liquid, if not the most liquid market in the world.

Where any of these factors are going, and the relative strength of it versus Singapore is hard to predict, and the interaction of the factors are complex. So, you have to ask yourself whether you believe that the RMB is going to appreciate against the SGD. If it depreciates instead, it could offset the yield that you were getting from the RMB time deposit.

Disclosure: My experience in forex is limited, I have used currency swaps structured similar to forex time deposits before, as I was posted aboard for a period, and of course the usual forex transactions when travelling. I currently have no direct or derivative positions on forex but have foreign asset holdings denominated in foreign currencies and some tiny amounts of paper currencies.

Interest rate exposure is the next factor. If the interest rate rises, you would have "paid" opportunity cost in locking in your money. This applies regardless whether it's a foreign currency deposit or a local one.

But the foreign currency element complicates the equation, since we are now talking about the relative interest rates between the 2 countries. Anyway, for this particular case, this factor is not so important for deciding whether to go into the RMB time deposit, but this factor would help you decide the tenure you wish to go for.

If you think that interest rates are going to be remaining stagnant, or decreasing further, then you might wish to go for a longer tenure. However, interest rates are likely to rise, so you might want to choose a shorter tenure, and then rollover your RMB upon expiration of that time deposit. Once again, in this case, the relative interest rates (and not the absolute) must also be considered. You can think of interest payments as the opportunity cost of money.

In my opinion, such plays are great if you have use for the alternate currency. Meaning, if you say go to China alot, or live there also, then this can be good since it gives you a chance to enjoy the higher yield while changing money.

Another thing to watch out for is what rate your SGD is exchanged at to RMB. It is not clear to me whether the rate you get here is the offshore RMB (known as CNH) or the rates they get in China (called CNY). So do ask the banker that, and the difference between the 2 rates. If it is CNH, then you have 1 more factor to consider. CNH trades at a premium to CNY. This premium could shrink or increase base on the demand and supply of the currency, which ultimately is driven by the economic and policy factors. Which are complex and might be impossible to forecast.

My last point is, if the bet you wish to make is on the appreciation of the currency, there are other instruments you can use, such as betting on a currency future, or using options, or just buying it on the spot market. This can offer you a very direct exposure and might be at much better rates and cheaper costs. You may wish to consult a trading house trading currency derivatives for these.

More indirect bets include buying chinese assets instead, such as chinese stocks, or dimsum bonds, etc. These though are governed by other factors such as the valuation of the shares etc and yield curves, which I think is not what you are interested in.

So the deal while appearing vanilla has a certain level of complexity involved, and is not that straight-forward.

Is Microsoft a Good Value Play?

2011-04-29T18:35:00.003+08:00

Image: Microsoft

Microsoft used to be THE company everyone loves to hate (now it's the banks), complaining about its blue screens of "death" and just disliking its dominance of the PC market.

Today, MSFT seems almost like a lost cause, having floundered for 10 years with its share price going nowhere. With its PE ratio this cheap (10.4x trailing twelve months), coupled with strong cashflows, MSFT is a monopoly priced like a sunset industry.

With its products spanning a wide range from the X-box for the gaming crowd, to its ubiquitous Windows OS and Office suite for the business people, and consumers too, MSFT seems extremely cheap for what is among the most universal of all brands and products. And we haven't even factored how it might dominate in cloud, which is lauded as the next big thing. Is MSFT a good value-play?

Microsoft Corporation (NASDAQ: MSFT)

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5 Oct 10

P=23.91

MSFT’s FY10 ends Jun 30 10.

Prima Facie:

MSFT is now trading at close to 52 wk lows (22.73-31.58) and PER_ttm of 11.4x. MSFT has had consistent performance in its EPS, having had steady earnings growth over the last 10 years with pullbacks only in 2004 and 2009. Its PER trades from 9-58x in last 10 years, and in last 3 years from 9-19. So a 15x PER is not ambitious. At 11x PER, it is trading cheap compared to its peer companies.

		Valuation						Dividend	Operating metrics
▲▼	Company name▲▼	Price▲▼	Change▲▼	Chg %▲▼	P/E ratio▲▼	Price-to- book ratio▲▼	Mkt Cap▲▼	Dividend yield▲▼	Return on avg equity▲▼
MSFT	Microsoft Corporation	23.91	-0.47	-1.93%	11.36	4.58	206.91B	2.62	43.76
GOOG	Google Inc.	522.35	-3.27	-0.62%	22.60	4.64	166.48B	0.00	20.30
AAPL	Apple Inc.	278.64	-3.88	-1.37%	20.98	8.03	254.56B	0.00	30.54
ORCL	Oracle Corporation	26.90	-0.28	-1.05%	21.48	4.44	135.23B	0.73	21.95
ADBE	Adobe Systems Incorpor...	25.60	-0.67	-2.55%	28.57	2.81	13.45B	0.00	8.31
IBM	Intl. Business Machine...	135.25	-0.39	-0.29%	12.79	7.82	170.59B	1.92	74.37
NOVL	Novell, Inc.	5.87	-0.11	-1.84%		2.22	2.06B	0.00	-21.23
YHOO	Yahoo! Inc.	14.28	+0.01	0.07%	23.41	1.61	19.25B	0.00	5.03
HPQ	Hewlett-Packard Company	40.64	-0.13	-0.32%	11.36	2.38	92.16B	0.78	19.28
NOK	Nokia Corporation (ADR)	10.05	-0.26	-2.52%	28.40	2.14	37.64B	4.73	6.53
SYMC	Symantec Corporation	15.02	-0.38	-2.47%	15.32	2.70	11.86B	0.00	16.42

Discussion:

Headwinds include slowing economic growth which would slow corporate investment in PCs and hence its software.

MSFT has 90% market share of PC market, even with growing Apple and Linux acceptance. MSFT slow growth in the mobile market also is a drag. A fundamental shift in the computing business can also put MSFT behind in the long run, as it becomes a company of the past, but at the current rate of change, this is something that would happen over the next 10 years, given how entrenched corporates are with MSFT products and OS.

MSFT competes in 5 segments, Windows&Windows Live, Server&Tools,Online Services Div, MS Biz Div, Entertainment&Devices. It might be market leader in OS and even in their office suite, but faces stiff competition on all fronts. While it is entrenched today, its market share would face a slow erosion but ultimately reach a steady state.

Unless it comes up with a new breaking technology, PER will remain limited, and EPS would only a slow growth to finally terminal growth rate.

Nonetheless, at current valuations, it is cheap. The personal computing market has room to grow since the poor world still can buy more computers and its associated softwares.

And the business model is intact, with better features, new releases required due to these enhanced features, and the obsolescence of computers every 5 years, it has moved to be a disposable item.

Core earnings would be there, growth would be a tough fight, but MSFT has the financial wherewithal to invest in R&D and has been spending 14% of sales on it and 40% of the staff, which would give it its next step forward as a technology monolith, generating lots of valuable IP.

While the PB is at 4+x, we must recognise that in such a innovative technology company, the BV is not only in the tangible and intangibles but really lies with its people. In comparison to its peers, 4x is not expensive but is comparable, and is not cheap.

MSFT faces macro forces, which determines PC upgrade rates and consumer discretionary spending. But it is also well positioned for strong earnings when the economic recovery is fully underway. Its growth is still mainly driven organically and hence still has legs to run.

Valuations:

MSFT have begun distributing dividends since 2003. It has become a mature company. MSFT reports 1Q11 earnings 28Oct.

EPS_ttm=EPS_10=2.1 [source SNP]

Using DDM: RR is approximately 75%. ROE=28.5 (average over last 10 years)

g=RR*ROE=0.75*28.5=21.39%. This is clearly too large to use for DDM, and hence 3% terminal growth is approximated.

Beta=1.09 [source: SNP]

RFR using USG 10 yr bond yield=2.44 [source Bloomberg]; MRP=5

R_e=RFR+beta*MRP=2.44+1.09*5=7.89

Div_ttm=0.52

FV=0.52*1.03/(0.0789-0.03)=10.95

Examining its sharebuyback, which amounts to roughly 1.2/share. Hence adding that back to div and then applying DDM, FV=36.2. This is only an approximation since the buyback scheme is only funded up to 40B, and hence might not be continued in future. But it does give a good indication that MSFT share value comes primarily in fact from the buyback scheme and its continuation is a good sign. However, there is only about 9B left.

Div yield_ttm=2.3%

BVPS=5.17

PB=4.6x

I prefer to use scenario analysis for MSFT analysis. A fairly conservative assumption is that EPS remains flat, ie EPS_11=EPS_10=2.1

PER_11f will then remain at 11.4x.

If EPS falls by 10%, i.e. EPS_11f=1.89, PER_11f=12.65. Which still keeps it in range of <15. EPS will have to fall to 1.6, i.e. by 24% to hit PER=15. If that happens, the share price would be impacted considerably. Maintaining current PER of 11.4, P=18.24, which is a 23% drop.

Conclusion: TP=31.5, which is EPS_11f=2.1, at PER of 15. This indicates a 31% gain from current P. It is rated a BUY. Once 1Q results release on 28Oct, we would check if earnings are on track. It should be around 0.53 +_0.1. Otherwise the stock price is derailed and might require a sell. Given the downward pressure on the share recently, there is a resistance at 23.4 from its Aug 10 low, and hence close monitoring should be done at that level.

6 Oct 10: MSFT had a 2% rise yesterday, and the PER is now 11.6, P=24.35. Based on the identified TP=31.5, this implies a 29% upside. I would want to buy on weakness tonight for sure, but if it does rise, I need to cap at 25.2 to still ensure a 25% upside.

Buy done at P=24.39 for 410 shares.

Update 29 Oct10: P=27.18, closing up 3%+ on its 1Q report. MSFT reported 1Q performance, diluted EPS_1Q11=0.62. Hence it is on track for a strong FY11 performance. If 2Q performance and macro factors improve, TP can be raised further. Currently maintain TP=31.5.

The div_1Q11=0.16 which is the same as 4Q10. If the same amount is given for next 3Qs, div_11f=0.64, divyield_11f=2.6% at my buy P, and 2.35% at current P which indicates only fair valued. Hence div is expected to rise in 11. PB=4.95x and has deteriorated. MSFT is not a Graham NCA candidate.

8Nov10: Ballmer sells 12% (49m shares and intends to sell up to 75m, or 18%) of his holdings between 26-28$. And Gates recently sold 0.3% (2m shares) of his holdings at 27.23 on average. Looks like I should look to exit also? It is now trading at 26.85.

8Dec10: Continuation buy is up to 28.41 for 351 shares to still have 20% margin.

10Dec10: Bought 367 shares at 27.2. Average P=25.72 and cutloss is at 23.148.

16Jan11: P=28.3.

A long overdue FCF was done, and it indicates that FV using 2010 full year data is 30.89. 2011 data from 1Q shows that it is likely to be an even better year. What is also interesting is that historical price performance also captures the range of 2009 and 2010 FV has been achieved. What is interesting is that MSFT has a huge amount of short term investments on its balance sheet. If they were considered equal to cash equivalents, FV=34.39. [these short term investments amount to 3.5/share] In all fairness, they should be considered on par with cash equivalents. I recommend a review at RP=31.5 in line with the relative valuation analysis with TP=34.39.

28Jan11:

P=28.73

Doing an approximation for FCF based on 1H11 multiplied by2 for CFO and using current balance sheet numbers, FV=32.97.

Diluted EPS_1H11=1.39.

EPS_ttm=1.39+2.1-1.14=2.35

PER_ttm=12.2x

With a 15x target, TP=35.25

Conclusion: I would stick to a TP=32.97, based on FCF which is 14x PER_ttm and upside of 14.75%.

22Feb11:

I am revising FCF analysis to use 30yr USG bond for conservativeness. Revise FV=29.86.

29Apr11

P=26.33

MSFT reported 3q.

EPS_ytd=2.01

EPS_ttm=2.01+0.51=2.52

PER_ttm=10.45x

FCF using some ttm assumptions for CFO and capex, with g=0, RFR=4.7 and MRP=6.5, FV works out to be 33.08, or an upside of 25% or a 13x PER. MSFT continues to look attractively priced.

In terms of market action, MSFT gave up its gains for the day after market which was when the earnings release was done. This sell trend may continue for the day, but MSFT still looks well positioned for gains.

DR Horton: Buy, Hold or Sell?

2011-04-29T01:24:00.001+08:00

If you want to play the housing recovery theme, first read the post that's just before this one.

If stocks are your favoured instrument, one place to start is to examine the major homebuilders in the USA and examine which among them is best managed and positioned to ride this potential recovery.

Image: Dr Horton

The biggest among them is worth investigating - DR Horton (NYSE: DHI). With its operations spanning the entire continental USA, its use of land parcel options to hedge its purchases for its land portfolio, and its decent financials, DHI is well positioned to benefit from an upturn. The land options are real options, i.e. they are not financial derivatives but ones that involve the receipt of actual plots of land and can be viewed as call options.

However, if the housing market double-dips or crashes, DHI would naturally follow the industry's downturn. So first decide if housing is going to make a comeback (which it has not yet failed to do before since we actually all need housing and not "eyeballs" or tulips), or not.

Disclosure: I have direct holdings in DHI.

I use the term direct holdings because for some companies, I might have indirect holdings for example in an indexed ETF. I do not use derivatives, though I might in future. A direct holding is a very specific investment or "bet" and stockpicking is not for those not versed in financial analysis.

A widely diversified ETF or mutual fund might be a better instrument for those wanting to ride with the market, or even to play specific sector themes. In this case, housing sector ETFs are available, but as with all investments, you should conduct your own research to determine its suitability for your portfolio.

DR Horton (NYSE: DHI)

7 Dec 10

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P=11.33

DHI FY10 ends 30 Sep 10.

Since the collapse in revenue in 2008, whereby losses begun in 2007, a recovery in revenues can be seen in 2010 data. Their darkest hour was in 2008 where they lost 2.6b. but since then, the NI has been improving and has returned to positive in 2010.

Some care has to be taken because a lot of the data have a certain degree of management discretion which while suitable in most situations is especially suspect in a distressed asset.

The investment case here is that homebuilders have fallen a long way and once a recovery in the housing market is underway, the swing back for them will be tremendous. However, the investment method here would be to examine its performance assuming NO swingback but not deepening of the housing fallout, and evaluate it on that basis. Any topside would then be a fortunate but non-contingent thing.

EPS_10=0.77

PER_10=14.7x

Div_10=0.15

Divyield_10=1.32%

Stock repurchase authourisation left=100m

Num shares outstanding=318.6m

They have $4.03 of cash and cash equivalents unencumbered.

On a PB basis, they are not that cheap. However, their current assets can cover all liabilities, suggesting that their financial position is strong.

PB=1.38x

PTBVPS=1.42x

FCF: The FCF analysis indicates a FV=37.59 or upside of 232%. Yes, that was the case I was looking for, which indicates that the upside should be tremendous once the housing market stabilises on a fundamental basis. And this is based on zero growth, ie g=0. For it to be at its current P, CFO needs to fall 3.5x, to 200 from 709.4m. This implies that the market is pricing it for a long term decline of 9%. However, even a 5% decline still gives FV=18.

But it must be noted that CFO was from reducing inventory (6% decrease from 2009), which means less available land going forward. Hence CFO might be impaired in future. But the generation of liquidity from the raising of cash would give DHI a strong position to benefit from upswing. The problem is, upswing is not imminent or foreseeable in the near future. DHI becomes a strong buy once the unemployment figures improve. It is currently standing at 9.8% though 9.6% has been the figure for some time.

From a historical relative valuation point of view, DHI had low PERs even before unprofitability set in. From 2001-2006, the average PER=7.75. This implies that even the current price is way too high, it should be half of it.

Debt: It is noteworthy that DHI’s credit rating is junk, BB- on S&P. However, their capacity for their debt is high, since they have recently repaid loans expiring, and have a strong balance sheet. So this figures low on concerns in comparison to macro growth factors. They have reduced their debt to 16.1% from 32.5%. But their 3-5year debt is about 1b that they would require financing. Especially in 2014 where they have to repay 794.5m due to their recent issuance of notes. This issuance is at their highest interest rate, 8.2% despite the benign wider interest rate environment. This indicates that their debt is considered of higher risk as viewed by the investment bankers advising them then. If the housing market has by then not picked up, which is a low-medium risk scenario, they are in danger of insolvency, depending on their current asset position then.

While DHI is diversified over the US, it is not internationally diversified and hence is completely dependent on the fortunes of the US housing market. This is a negative point for the company, which will not enjoy the rising demand arising from emerging markets etc.

Its net profit margin is real low. In 2010, it is 1.8% and it was a loss for 2009. Inventory was impaired only 1.8% in 2010 while it was 11.1% in 2009. They managed their land inventories also by securing options for parcels of land. The writeoff here is more severe, 31.5% in 2010 and 440% in 2009. This actually reflects the soundness of the options policy.

Of all the homes in inventory, 12.6% are model homes. 54.7% are unsold (speculative), more than the 50% in 2009. 33.7% of the inventory are completed homes and 25% of completed homes have been unsold for more than 6 months. This is more than 18.9% in 2009 but the 6month ratio had improved, it was 36.4% in 2009.

Conclusion: It would seem a good tactical position is to buy in when it appreciates and tests new highs. The idea here would be to capture the market reading of an improvement in the position of the housing market. Or when the statistics indicate that employment has stabilized and improved. This requires a very careful reading of the market. A review should be initiated once a substantial upmove is detected, since the stock has been treading in the 9.50 to 11.5 range. A review should be initiated at 11.5, or 4.5% above current price.

20Dec10: Initiated buy at P=11.67. Next buy to be done after new year in Jan. TP=37.59. Initial cutloss=0.9*11.67=10.50.

13Jan11: Second buy at P=12.95. Average price is now P=12.277, cutloss=11.05.

24Jan11: I checked through the FCF again, and revised to account for M&A and increased MRP to 6.5%. The revised FV=31.1.

27Jan11: DHI reported 1q, and it had a EPS_1Q11=-0.06, a loss of 6cents. DHI faces headwinds from the poor housing market. If CFO is half of last year’s, DHI is still valued about $15. If however, 1Q CFO is reflective of all remaining quarters, FV=8.75. But that would be crazily pessimistic. The swing down today of about 4% is more than normal, but the volatility had been high, with DHI swinging up 3%, down 3%, regularly. This is not unusual given the state of the industry. The projection for a reversion once US employment data improves is intact, I retain previous recommendations.

22Feb11: I raised RFR to 4.7 inline with 30yr USG bond. This lower FV based on 2010 to 27.96. I revise TP=27.96.

Contrarian on Housing?

2011-04-28T12:58:00.004+08:00

For those considering a contrarian play on housing in the US market, you might do well to read this on Seekingalpha.com. It discusses whether you should use physical real estate or homebuilder stocks as your instrument and its pros and cons.

Mean Reversion?
Source: Seekingalpha

The real difficulty of being contrarian is that while it might seem obvious as a "fantastic" opportunity on hindsight if homebuilder stocks see a strong recovery on the back of an improving housing market, there are also 1001 reasons why there might not be such a great recovery, all seemingly very logical.

It never is easy being contrarian, which is why while everyone knows the dictum to buy low and sell high, or Warren Buffet's famous phrase, "be fearful when others are greedy and be greedy when others are fearful" seems like a truism, it is actually extremely difficult to execute.

It might be wise when considering a contrarian position, to focus not on the upside rewards, but on the downside risk, and then decide whether you can stick with it. Hence, an important question is, what level of rewards do you expect if your contrarian play proves to be right, and what is your downside if you are wrong? It seems that for homebuilders stocks now, the downside is more or less already in the share price, while the upside can be tremendous but it might require

1) great patience as time is needed for the housing market to unwind the foreclosure cliff,

2) a strong stomach as huge volatility can cause huge swings in the market value of your investment instrument.

Nasdaq Composite (.IXIC). Chart by Google Finance

Housing, and other types of similar contrarian plays, might (once again, on hindsight) be the investment opportunity of a lifetime, or the investment dud of a lifetime. Those needing some restraint to curb their enthusiasm need look no further than the 2000 dot-com bubble. The NASDAQ composite, despite the massive recent runs in the wider stock market, still sits more than 40% from its peak, 11 years later.

Anyway, the next post would be about DR Horton (NYSE: DHI), the biggest homebuilder in the US. Watch out for it.

Disclosure: I have direct holdings in DHI but no direct holdings in physical property in the US.

IBM: Buy, Hold or Sell?

2011-04-26T09:49:00.004+08:00

Since IBM sold off its PC business, moving away from the "commoditised" consumer computing sector into the more high end consulting and analytics business to serve the enterprise customer, its growth rate is nothing short of startling.

IBM might not be as hot as Google or Apple, but with a CAGR since 2006 greater than 17% and pre-tax income margins at 19.7% in 2010, IBM's modest PER of 14.6x might seem like a bargain.

Here's what they have been up to recently:

After Deep Blue vs Kasparov, IBM's engineers have been looking for the next challenge and found it in this supercomputing powering natural language processing Jeopardy showdown. But it isn't all fun and games at work. They believe that this technology can help businesses work better and they want to create a "smarter planet". They also have an ambitious plan to execute with their 5 year roadmap (to 2015). With a track record to boot, is IBM a growth company priced like a mature one?

Disclosure: At the time of post, I did not have open positions in IBM. Since then, I now have direct holdings in IBM.

IBM (NYSE: IBM)

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22Apr11

P=168.28

This will be the first growth company I would be examining. Its products are what seems to me to be highly intangible, things like business analytics which is a growth area but hard to understand. IBM is a mega company, which would seem like a huge ship to steer, but its transformation, marked by the sale of the PC business (which it practically invented) in 2005 to China, has driven its share price to all time highs, for a company that has been around for 100 years.

Since it sold the PC business, its offerings are now completely enterprise driven. IBM’s position while not unique, for example, they are only one of several cloud providers, one of several mainframe providers, they do provide a unique value proposition in the sense of their integrated and adjacent offerings to businesses, and these adjacencies can provide a lot of cross-selling of related services and products.

In my analysis, as much as possible, I would try to analyse it without “paying for growth”. Meaning, let’s just look at it without making any assumptions that it is going to continue its trajectory of growth, despite evidence that it is well positioned to do so from its 10 year data, which shows all profit performance metrics practically in a straight line upwards.

EPS_10=11.52

PER_10=14.6x

EPS_ttm=11.52-1.97+2.31=11.86

PER_ttm=14.2x

EPS_11f=12.73 (source: 1q presser. This is a 10.5% increase from 2010, high but IBM recent CAGR is actually more than that.)

PER_11f=13.2x

EPS_2015f=20 (IBM’s 2015 5 year roadmap has that for the operating profit target, which is non-GAAP. Or 11.7% CAGR yearly).

PER_15f=8.4x

The FCF based on 2010 data gives FV=216.55 or a 29% margin (or 17x EPS_11f). This is attributable to IBM’s high use of cheap debt, where their total debt to cap = 56%. Its debt is rated AA3. IBM also has a strong trend of generating strong cash flows, which bodes well for them. Its growth is from organic investments, acquisitions and the divestment of commoditised products and services. FCF implies that IBM is currently priced for -1.5% growth.

Its ROE (calculated by EBIT/equity) is very high, 89% in 2010 (IBM’s AR reports ROE (using NI/equity)=66.9%), but its earnings yield is 8.42% which while respectable is on the not extremely high side. To bring it to 10%, RP=138 or it needs to fall by 22%. At FV, earnings yield would be 6.7% based on 2010 data.

Ultimately, the question is, do we buy the growth story here? IBM’s business is complex and its offerings are analytics and services alongside mainframes and software’s, mainly used by businesses and governments. While these are analytics is a high growth area, the sustainability of retaining consultancy services will likely be hit in the face of a downturn. Their outsourcing activities however would likely not be too badly affected, since outsourcing is a cost-reducing activity. Besides, much of such revenues are on a continuing and contracted basis, hence giving stability to the revenues. IBM says that for its biggest segment of Global Services, that the contributions of such revenues are 60-70%.

International revenues contribute >50% of their business, EMEA+Asia= 56% with Americas taking up the rest. I am unable to find a breakdown by their customer types in the 2010AR, even though it did state what are the industries that use them (e.g. financial, public service etc), and it states that no 1 customer forms more than 10% of its revenues in the last 3 years. While public services in USA might see a slowdown in the use of IBM’s services, other sectors would remain resilient, since the business cycle is going to now have an upturn. Less a major crisis, we are at the start of the mid-cycle, which means there is room to run yet for IBM’s growth.

In the last 10 years, it has gone through 3 PER regimes, the >20 phase from 2000-2005, the 12-16x phase from 2006-8 and since the 8-13x phase. It has now broken through 13, so it is in the 12-16x phase. So, IBM is by no means in cheap valuations territory from its historical valuations. What I do find odd is that a growth company (albeit in disguise) has such a low PER.

Another way of looking at it is that if it does hit its EPS of 20 in 2015, and at a 13x PER, TP_15=260. This is an 11% CAGR growth in share price. However, there is only the management guidance to bring the EPS to 20 in 4 years time, though it has had some track record for successfully executing its roadmap.

I think that as a growth company, IBM is underpriced. However, even without factoring any growth in the FCF computations, but implicitly assuming that FCF can be maintained, IBM is still undervalued. However, for it to reach the FV imputed at 216.55, this would only happen in mid-2013 at a 13xPER, even with a CAGR of 11% for its EPS, or at 15xPER, in 2012. This suggests that for IBM to reach its FV, 2 things need to happen. A PER expansion, and it needs to be able to sustain its growth rate which would drive the PER expansion. The thesis for IBM is that it is a growth company priced as a value company.

Conclusion: FV=216.55, or a 29% upside.

Preferred Shares: The Worst of Both Worlds?

2011-04-17T22:56:00.003+08:00

Is this worth the paper
it's printed on?
Image: www.greekshares.com

In light of a slew of offerings for preferred or preference shares on the Singapore bourse, and after a few enquiries from friends, I thought it might be good to touch on what this class of securities represent and how a prospective investor should look at it.

I have heard several people compare preferreds to bonds or to even fixed deposits, but that is a gravely mistaken way of looking at it, since the risks are higher (in some cases, much higher).

Disclosure: I do not hold any preferred stock of any firm.

Introduction

At launch, preferreds typically promises a particular yield in relation to its offer price. For example, Brown Company might offer a preferred at a price of 100 with a yield of 6% during the IPO of this preferred shares. This simply means that a dividend of $6 would be paid out per year in total, if all remains well at the company. These payments might happen at specific intervals like quarterly or annually. The intended use of the funds raised from the offerings of the preferred are usually described in its prospectus during the IPO stage, and preferreds then trade on the open market. The funds can be used for its operations or expansions and in this respect is not unlike any other securities offering of the company. Other types of securities offerings by a listed company can be a shares offering, or a debt offering. A shares offering involves releasing more shares of the firm (leading to a dilution of existing shareholders), while a debt offering involves selling a bond to the public, where the bondholders are essentially creditors of the firm.

Seniority

A preferred ranks above common shares, but below bonds, or we can say that preferred are senior to shares, in terms of its rights and claims, but junior to bonds. What this means is, in the case that the company goes bankrupt, bondholders get the first claim to the assets, or the proceeds from the sales of these assets, of the firm. Once all bondholders are paid, then comes the holders of preferred stock, and after all claims from the preferred holders are met, the shareholders can lay a claim on the remaining assets, if there are any left.

However, the dividend while reasonably secure is NOT guaranteed. If the company’s operations encounter difficulties or if there is say, an economic downturn, they could, to conserve their capital, not pay out the dividend due that year.

Not all preferreds are the same: Privileges

While preferreds tend to be referred to as if the entire class was homogenous, they are in fact not. Some preferreds have certain privileges such as

Cumulative: if the dividends for the year are not paid, then it accumulates and would be paid subsequently when the dividends are resumed.

Convertibility: some preferreds can be converted to common stock at a specified conversion rate. This then to lead to dilution of existing shareholders.

Voting: some preferreds give voting rights, which means that preferred holders could vote out the current management, or against certain actions that they deem detrimental to holders of this class of securities. This could be important since shareholders might for example want the firm to expand rapidly, while bondholders might rather the firm not expand at all since expansion comes with risks. Different class of security holders for the same firm might have different and at times, conflicting, interests.

Some preferreds do not have any of these privileges. The value of such privileges needs to be factored into the price of the offering. Some of the value of these privileges are debatable while some can indeed be valuable, depending on the market situation during the life of the security. Some preferreds are perpetual (meaning they are meant remain in the market forever) while some can be called or bought back after a pre-defined time.

A Hybrid (and I don't mean a car that runs on electricity)

An important aspect for a prospective investor to consider is as usual, what is his investment objective. A preferred is a hybrid security – it has the cash flows of a bond, with its regular promised payouts, but unlike the bond, the firm could withhold these payments, and it could take this decision unilaterally, without consulting the preferred holders.

For a bond, the firm would have to negotiate with its bondholders if it wanted to not pay or delay a particular coupon. In fact, the premise of bonds is that coupons MUST be paid at its specified time, regardless of how well or badly the company’s operations are doing. Hence bonds have the highest level of assurance of any of the firm’s classes of securities. (Do note that within the bonds class, there are also senior and junior debt tranches.)

If the company does well, the preferred holder enjoys his regular dividends, which will NOT increase. Say an investor had purchased Brown’s preferred at its IPO, at a price of 100 and yielding 6%. If the company thrives, and becomes the best company in the world, the investor enjoys his 6% but NOTHING more. (To be exact, the price of the preferred might also rise, but this tends more to do with the interest rate environment than the company’s performance. Why? Because no matter how well the company does, the yield remains $6 per preferred while the dividends on the common stock might increase to whatever heights).

Let’s contrast this to the holder of common shares of Brown. If the company thrives and does exceptionally well, the common shares of Brown would likewise do well, and the shareholders might enjoy great profits from the rising price of Brown’s shares.

If the company does badly, it would first cut the dividends of its shareholders. If it decides it needs to further conserve capital, the next to go would be the preferred’s dividend. At no point does it go and cut the coupons of the bondholders, since that constitutes a default and the bondholders typically have certain protections, for example they can then force the company to repay the entire debt straight away, or sell its assets to make good the amount owed.

Naturally, once the company cuts the dividends of the shareholders, the common stock’s value would be impacted. It would then call into question how assured is the preferred holder’s dividends, which is next to be cut. This could cause the preferred share price to also fall, since there is now doubt over the continuance of the dividend.

What I am pointing out is, preferred enjoys none of the upside of a company’s success. What they do get from a successful company is the continuance of their dividends but nothing more. They also do not enjoy the assurance of the bond holders, who regardless of whether the company is doing well or not, gets their coupons and return of principal upon expiration of the bond.

The downside: they face the risks of the shareholders when the company does badly, while they do not enjoy the protection of the bondholders. The upside: They get their fixed dividends while the shareholders enjoy both the dividends (which could be increased) and the rise in share prices. The bondholders still get their coupons.

So during good times for the company, the preferred is like a bond, but during bad times, the preferred is like a share. Or the worst of both worlds.

Valuing a preferred

The value of a preferred depends on the costs of financing in the market. It can be thought of as the current yield of its bond plus a spread to compensate for the abovementioned risks. What this spread should be is to compare with other preferreds of other firms of comparable risks, to determine if this spread is fairly priced. However, the corporate securities market is shallow in Singapore, and there might be insufficient information to make these calculations.

The risk factors that affect bonds would also affect the preferred. One important factor is the interest rate environment. If interest rates rise, bond prices fall. Why? Consider a 10 year Brown Company’s bond (let’s call it BrownBond) currently priced at 100 with a yield of 4%. Say the yield of a government bond (or GBondA) (with 10 years left to maturity) to be 2%. There is a 2% or 200 basis point spread, which covers the extra risks of the firm versus the government’s bond. (Spread = yield of company’s bond – risk free rate)

If a new government 10 year bond (GBondB) is now launched at 3%, why would anyone buy GBondA with its poorer yield when they can take on the same risks and get GBondB and earn 1% more? Hence the price of GBondA would have to fall, until the yield of GBondA and GBondB becomes the same.

To help the reader, yield = dividends and other cashflows each year / amount invested. For investors in Brown Preferred, yield = $6 of dividends / $100 which is the cost of 1 share of the preferred = 6%.

If the spread of Brown’s bond remains constant (there are factors affecting spreads, for example if Brown’s credit worthiness deteriorates, but let’s assume those to be constant), then Brown’s bond value also must fall.

And remember how the bond value and the preferred value are related? The yield on the preferred also now seem less attractive since interest rates have risen and newly launched preferreds or other fixed income instruments now appear more attractive. Hence the value of the preferred could fall, to compensate. Likewise in a decreasing interest rate environment, the value of preferred would rise. (So, considering that interest rates in Singapore are approximating zero, how much more do you think it would go down?)

This short piece on preferreds is just meant to give you some points to think about if you are considering such an investment. It is certainly not comprehensive, but I wanted to dispel some notions on the safety of preferreds and also list some points that you should consider. Do find out more. Just like in any investments, not all are good, BUT not all are bad either. Investing in the right preferreds at the right time can be highly profitable. The wrong preferred at the wrong time can be disastrous. You have to consider what your objectives are, and whether the instrument you choose helps you meet that objective BOTH in terms of its returns and its risks, on a portfolio basis.