Published January 14, 2009

Bad news is no news? Think again

By WONG WEI KONG

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WITH Singapore share prices trading at their lowest levels in years, the temptation is to think that the market has priced in all the bad news. But has it really?

This is a source of contention among market watchers. It is an important question too, as the fourth-quarter reporting season kicks off.

On the face of it, there appears limited downside for stocks. A recent DBS analysis pointed out that markets have been sold down to 2002 levels. Banks are trading at an average 1.1 times trailing price-to-book (P/B), broadly in line with the P/B troughs seen in the 2001/03 downturns, as noted by Citigroup in another report.

Indeed, how often do we see a defensive stock like Singapore Press Holdings (SPH) struggling to cling to the $3.00 mark and a market heavyweight like Keppel Corp under $4.50?

Against this, however, is a torrent of bad news that has to be accounted for. The economy is in trouble, and economists say the Singapore economy could be headed for its worst quarterly contraction on record in the first quarter of 2009, and experience its most severe recession this year. After worse-than-expected 2008 GDP growth of 1.5 per cent, the government has lowered its forecast for Singapore's 2009 growth to range between a 2 per cent contraction and one per cent growth.

Corporate earnings will be horrible. Citi expects earnings per share or EPS to contract 9.3 per cent for FY2008 for the Singapore stocks it covers, and sees a further EPS drop of 10.4 per cent for FY09. Macquarie Research say EPS are expected to fall 12.9 per cent in FY09, or 27 per cent in the worst-case forecast.

It has already revised its FY08 EPS expectation for Singapore companies downwards from a growth of 8 per cent to a fall of 9.5 per cent. Merrill Lynch, arguing that the market's EPS estimates are still 'lofty', reminded investors that EPS practically vanished during the Asian crisis.

This is not all. While the broad strokes are known, many factors remain unclear. How deep and long the recession will prove, how many jobs will be lost, and how many companies will fold, are still questions hanging in the air.

Even the upcoming Budget on Jan 22 - which many expect will give the stock market a boost - could be a surprise factor. With such high expectations riding on it, the Budget could end up disappointing and deal another grave blow to market sentiment.

It's the same with corporate earnings. Of course, everyone is now generally expecting profit falls or even losses as companies report their Q4 and FY08 results.

But the details could still shock: there will likely be unexpected or bigger-than-expected provisions or write-offs, trading or hedging losses, and cancelled or delayed contracts. Loan covenants being breached, credit lines being pulled, cashflow running dry - the whole gamut of bad news is possible.

The slew of profit warnings being issued by companies in the run-up to the reporting season - from big companies like Cosco Corp Singapore to small caps - are a stark reminder to expect the worst in corporate earnings.

The banking sector is a case in point. It is one of the best researched and covered sectors in the market, and the three local banks are some of the most-held stocks among investors.

Yet, there are still big question marks over how the banks are holding up in the crisis. When DBS Bank made a rights issue in December to recapitalise, it was doing what the market had expected it to do. Still, the market was taken aback by the steep discount and the size of the $4 billion issue - and DBS shares dived sharply.

Ahead of the banks' results, slower loan and fee growth, higher non-performing loans and specific provisions have all been penned in by analysts. But the impact of low interest rates and flat yield curves on net interest margins, as well as one-time hits to earnings such as impairment charges, could still surprise the market.

Given all this, it'll take a brave man to really argue that stock prices have fully priced in the bad news. Stocks are cheap, but they can be cheaper. Think about it this way: there could be a whole year's worth of bad news waiting for stocks - and there really is no need for any hurry to jump back into the market.