STI: Sprinting Towards The 3,000-point Mark

Back in August 2004, we predicted that the STI would hit 3,000 points by this year's end. Now, it looks increasingly likely that this would happen.

The Straits Times Index (STI) closed at 2,901.8 points on 7 th December 2006. It has now risen 23.6% year-to-date. Has it risen too much? Will it continue its upward momentum? Can it break through the 3,000–point mark?

With the market going above 2,900 points, some investors may be worrying about whether the local bourse can continue on its uptrend, but in percentage terms, the local market is hardly the best performing so far this year. Its year-to-date return of 23.6% can hardly compare with India's SENSEX Index (which is up 48.7% year-to-date), Indonesia's Jakarta Composite index (which has risen 53.3% year-to-date), or Hong Kong's Hang Seng index (which has dipped around 300 points in just a single day recently, but is currently up 26.7%). Chart 1 illustrates that the performance of the STI index is not as strong as the other featured indices.

Chart 1: Strong Performance from Asian Markets (local currency terms)

Source: Bloomberg

When I made the prediction that the Singapore market would hit 3,000 points in the article "Are We Too Pessimistic About Own Backyard?" back in August 2004, one of the substantiating reasons was the attractive valuation of the Singapore market back then. The STI was trading at a Forward Price Earnings (PE) ratio of 13.8X in 2005, with a projected earnings growth of 14.4% in 2005. At that time, the global markets were just coming off from a three-year slump and there were many concerns over high oil prices, China's overheating economy, and terrorist attacks. But based on Singapore's strong economic expansion in the year 2004, with more new jobs being created, coupled with the market's attractive earnings growth and valuations, I believed that the Singapore market could hit 3,000 points by the end of 2006. At that point in time, the STI was merely at 1,900 points, and to many investors, 3,000 points must have seemed like a pipe dream.

However, we are now within a stone's throw away from that mark with about three weeks left to go before the year ends. Suddenly, it seems much more likely that a 3,000 point STI index is within reach. So, can it go up further? Again, I would look at the fundamentals of the Singapore economy, its forward earnings growth and valuation, as well as the global situation we are in today.

Economic Growth Still Going Strong, Valuation Still Attractive

Economically, Singapore is growing at a very fast pace that belies its developed nation status. Official government estimates put growth at 8% for this year. Chart 2 shows that Singapore's economic growth is expected to continue its reasonably strong trend (especially for a developed Asian economy) at 4.5% in 2007. This growth is not driven by just one major driver, but is instead a broad-based growth. Sectors such as banks, property, tourism and retail are all experiencing strong growth. Furthermore, while some other economies might have faced certain obstacles due to political uncertainties, Singapore has instead forged ahead with major changes in its economy over the past few years.

Chart 2: Strong Economic Growth in Singapore

Source: IMF World Economic Outlook September 2006

With the help from the government's push and the private sector's efforts, the Singapore economy has diversified. Today, we have sectors including biotechnology, electronics, exports, tourism, property, among others, contributing to Singapore's economic growth. Very soon, with the new IR projects going at full steam, Singapore will be venturing into yet another new area, which brings on many exciting possibilities, including a boost to the property market.

Singapore has also benefited from the recovery in its export markets such as the US, Europe and Japan. In addition, trade with the Asian giants, namely China and India, has also benefited Singapore enormously. As a result, today's Singapore economy is multi-faceted and relies on many drivers, instead of just one. Ten years ago, events in the US economy would have likely thrown the Singaporean economy and its bourse into turmoil. Today, with its diversified economy, Singapore is definitely much better poised to thrive in the global economy.

Too much positive news of course, can lead to over-speculation in markets. So, are the markets overvalued? As at 30 th November 2006, the Singapore market traded at a forward PE ratio of 14.3X in 2007, and 13.2X in 2008. This is only marginally higher than the forward PE ratio back in 2004. Table 1 shows the estimated PE and earnings growth figures.

This shows that earnings growth has kept in pace with the market's rise, meaning that the market is not overvalued. In fact, historically, the Singapore market has traded at an average of 16X to 18X. In bullish times, the Singapore market could have easily risen to above 20X. Thus, the current valuation of the market is by no means too high.

Table 1: Estimated PE & Earnings Growth of the STI (as at end-November 2006)

Source: Fundsupermart.com Compilations

Furthermore, with the economy growing so fast, it is likely that the strong economic growth will also filter down to the company level and hence, earnings growth for companies is likely to be robust as well. We are currently looking at an average earnings growth of 9.5% for 2007. As the effects of the strong economic growth filters through the economy, the earnings growth estimate could very well rise.

Concerns & Risks

As always, there could be concerns that some unforeseen events could still rock the market or the Singapore economy. Let us examine some of these possible issues. Some of the biggest concerns include a possible slowdown in the US economy, as well as the ever-present concern over high oil prices. While it is true that a major US recession might throw a wet blanket over Singapore's economic outlook, few economists or analysts see that the scenario is occurring, at the moment. The US economy might slow somewhat, but it is not going to tank.

Given the many growth drivers that Singapore now possesses and its well-diversified economy, even if the US economy underperforms next year, Singapore's economy would likely continue to do well. In any case, with US interest rates at 5.25% currently, the US Federal Reserve has a lot of leeway to cut interest rates to stimulate the economy if it does experience a major slowdown.

The other major concern would be the ever-present fear of high oil prices. This will not go away any time soon. However, one word of comfort to investors is that if high oil prices could have brought down the global economy, then it should have already done so one year ago. Today, we are looking at oil prices at a relatively high level for the second year running already, and the fact is, the global economy is still chugging along healthily. Another positive seen in the recent weeks is that oil prices have dropped, so we are actually seeing a trend of falling oil prices now instead of a rising one.

Uncharted Territory, But Bright Prospects

With strong economic fundamentals, attractive valuations and earnings growth, and no immediate concerns in the horizon that should threaten the Singapore economy, we are positive that the current uptrend in the STI will continue. As with any market, the Singapore market can be volatile and may experience short-term ups and downs, but fundamentals and the global situation have actually improved for the Singapore economy since 2004 when I made the prediction that the index would break through the 3,000-point mark. Hence, we believe that the Singapore market can and will break the 3,000-point mark, and it would continue its uptrend even past that. The STI is in new uncharted territory, but the future for the market looks bright.