Market under-estimates war risk premium

business-times.asia1.com.sg By R SIVANITHY

SINGAPORE - ASKED why she was so wrong about equities in 2002, Goldman Sachs strategist Abby Joseph Cohen said in a Barron's Jan 13 report: 'I misjudged two things. One concerned the extent of the malfeasance on corporate data. Our valuation models are driven by earnings and cash flow. In 2002, we learned that previous earnings had been dramatically overstated.'

'Secondly, we did not properly gauge the extent of the geopolitical situation in Iraq, North Korea and Venezuela, which feeds into the risk premium for stocks.'

It appears that even today, analysts are still over-optimistic about earnings - particularly in the patchy technology sector - and have under-estimated the impact that war fears can have on weak, illiquid and jittery equity markets everywhere.

In the case of Wall Street, stocks may have risen slightly on Tuesday, but a rapid slide thereafter in the futures market meant that sellers were out in force in the local market today.

'Short-sellers' would perhaps be a more accurate description than mere 'sellers'. As OCBC Securities said on its website today: 'Without some shorts in your portfolio you cannot insulate yourself in a structural bear market. The bottom line is that you cannot just buy equities and hope for the best. The degree of uncertainty affecting company business prospects and business models is as challenging as trying to predict a terrorist attack, or waging a war without sending the US Budget deficit to unsustainable levels.'

In line with pressure throughout the region - and in response to a 100-point collapse in the Dow Jones Industrial Average futures contract - the Straits Times Index plunged 30 points by lunchtime and spent the rest of the day bobbing around, supported mainly by the shorts covering themselves.

Pressure intensified when Europe opened in the late afternoon, and the end-result was a net loss of 36.84 points or 2.7 per cent at 1,302.85.

It was lowest close so far this year, surpassing the previous level of 1,318 reached on Jan 7. Perhaps disconcertingly, today's fall was on elevated volume. Excluding foreign currency issues, 249 million units worth $342 million were traded - 61 per cent more than Tuesday's $212 million.

As always, banks provided the biggest drag. The combined losses posted by UOB, DBS and OCBC sliced 23 points off the index, while SPH's 50-cent slide to $18.40 accounted for another 2.7 points.

Tech stocks continued to suffer a torrid time, Venture Corp being the best relative performer with only a 10-cent drop to $13. Datacraft Asia suffered most, losing six US cents to 68.5 US cents on volume of 14.4 million units.

Creative Technology, meanwhile, dropped 40 cents to $12 with 466 lots traded after it announced a net profit of US$18.9 million for its second quarter and dropped a bombshell by saying it is delisting from Nasdaq.

In a 'sell' call, Kim Eng-Ong Asia described Creative's results as better than expected, since the market consensus had been a figure of US$13.9 million. But the local broker said it finds it hard to get excited about the counter because revenue continues to decline with no sight of a turnaround.

'Although it has done a good job in controlling cost, there is a limit as to how much more savings it can extract,' Kim Eng-Ong Asia said. 'Gross profit is already at record levels and is unlikely to rise significantly. We have cut our full-year sales and profit forecasts by 4 and 6 per cent respectively ... At current levels, the stock is trading at 24 times FY03 earnings and is not cheap.'

Similarly, GK Goh called a 'market perform' on Creative, recommending clients 'short on strength' as there is 'no catalyst for performance'.

Elsewhere, Keppel Corp dropped 10 cents to $3.74 after it announced a 33 per cent increase in earnings to $356 million for last year.

OCBC Securities rated the counter a 'market perform', saying that although profit was within expectations, momentum is likely to slow for FY03 and earnings will probably only rise a modest 6 per cent.

'Downside will be limited by its attractive dividend policy, relatively inexpensive valuations, 20 per cent discount to revalued net asset value as well as the anticipation of further capital payments on the successful disposal of a non-core asset,' OCBC Securities said.

On the outlook for equities, BCA Research said: 'The worsening global energy crunch, rising anxiety about war and the halting nature of the business cycle recovery are spawning a renewed sense of pessimism. Market psychology has become fragile and sentimental. Fear is the dominant emotion and additional losses in global share prices are possible.'