January 21st, 2014
by Elliott Morss, Morss Global Finance
Author's Note: This piece continues my review of Asian investment opportunities. Information for this piece comes from two special sources: FocusEconomics and Renzie Doem Agutaya, details at end of article.
The Philippines and Other Southeast Asian Countries
To gain some perspective on The Philippines, Table 1 provides socio-economic data on selected Southeast Asian nations. China and India are by far the largest countries in the region while South Korea and Malaysia have the highest per capita income. Only Vietnam has a smaller GDP than The Philippines while Vietnam and India have lower per capita incomes.
Note that the FocusEconomics Consensus Forecast for GDP growth puts The Philippines (6.7%) second only to China (7.6%).
Table 1. - GDP, Population, and Area, Selected SE Asian Nations
The Philippines - Current Economic Situation
Trends in forecasts are interesting. So Table 2 gives the Consensus forecasts on key economic indicators along with what was being forecast 90 days ago (before Typhoon Haiyan hit on November 8th). In the typhoon, more than 1.1 million houses were damaged, with about half completely destroyed.
It is notable that the Consensus GDP growth rate for 2014 has actually increased since Haiyan. This suggests the forecasters believe the GDP generated by reconstruction will outweigh the production losses caused by the typhoon. That is different than the Fukushima nuclear disaster where production losses in Japan slowed assembly of products worldwide.
Table 2 - The Philippines - Key Economic Indicators
The government deficit and government debt (41% GDP) are both low enough to be manageable. The trade deficit is more than compensated for by the income remittances of more than $21 billion annually.
In my prior Philippine posting, the country's energy problems were covered in detail. The Philippines imports 50% of its energy fuels, with coal and oil dominant. Coal consumption in the Philippines has steadily been rising with not enough local production to meet its demand. In addition, according to the country's power development plan, there are regions of the country (Luzon, Visayas, and Mindanao) where large new energy investments will have to be made to keep energy demand from exceeding supply in the next 15 years.
I asked Renzie what he saw as the most serious economic problems facing the nation.
Renzie: Here is my list:
- Delays in the public private partnership (PPP) initiative. PPP is a scheme to leverage infrastructure financing via government and private sector projects;
- Climate change which may make typhoons with similar strength as Haiyan the new normal in the Philippines (Renzie's city - Bacolod - is located only 240 miles from where Haiyan hit with greatest force);
- Lack of infrastructure to support tourism.
- Lack of power supply to meet demand.
The Philippine Stock Markets
Table 3 provides comparative data on the capitalization of SE Asian stock markets in 2013. Renzie reports that the PSE now has a $260 billion capitalization with 260 publicly listed companies.
The performance of the Philippine stock market is measured through the changes of the Philippine Stock Exchange Index (PSEi). The PSEi is the Philippine equivalent of the S&P 500 and Dow Jones Industrial Index in the US. The PSEi is a fixed basket of thirty (30) common stocks of listed companies selected based on a specific set of criteria.
Elliott: In my earlier article on Asia, I reported that iShares MSCI Philippines (EPHE), a US exchange traded fund (ETF) for The Philippines had a high P/E ratio. So I figure the PSEi also has a high P/E ratio.
Renzie: "I agree that the PSEi is expensive in terms of PE ratio. But as Table 3 suggests, the PSEi has had pretty high P/E ratios since the 2008 collapse."
Table 3. - Price/Earnings Ratio, (PSEi)
Elliott: EPHE lost 10% in 2013 after growing 47% in 2012. What happened to the PSEi?
Renzie: The Philippine Stock Exchange Index (PSEi) began the year 2011 at 4,215 and closed in January 3, 2014 at 5,948 or an increase of 41%. In 2013, the stock market started at 5,861 and ended the year at 5,890 or an increase of 0.49% despite the PSEi hitting an all-time high of 7,300+ in May. The following graph highlights the major movements in the market.
The reasons for these moves are as follows:
- The early year rally was in anticipation of the Philippines being upgraded to investment grade by US rating services. And on March 27, Fitch upgraded the Philippines to investment grade. On May 2, Standard and Poor's upgraded the Philippines to investment grade, causing the PSEi to hit all-time high.
- By the end of May, Bernanke's comments of Fed tapering caused the PSEi to crash.
- Lastly, Typhoon Haiyain hit in November. And fears that with global warming, the future holds more severe typhoons caused investors to sell.
Elliott: I recently wrote about the effects of the Fed's tapering. I suggested that non-US securities (especially fixed income), would be hit hardest by actual Fed tapering. And how Bernanke's comments impacted the PSEi suggests that more tapering will cause more downward pressure on the PSEi. And there is definitely more tapering coming.
What Philippine Stocks Look Good
Elliott: Renzie, let's start with industries you like going forward.
Renzie: In my opinion, the sectors that will do well in 2014 are:
- Business Process Outsourcing;
- Consumer Products;
Elliott: What is Business Process Outsourcing?
Renzie: Business process outsourcing is the contracting of a specific business function to a third-party service provider. The Philippines is a preferred BPO destination because of low labor costs, highly skilled and educated work force and high proficiency in spoken English. The growth of the BPO industry fuels demand for office space rentals. The BPO sector is expected to grow and employ 120,000 jobs annually in the next three years. Since there is no publicly listed company that source their revenues primarily from the BPO industry, the best way to participate in the growing industry is to buy real estate companies that have office space rented out to companies providing BPO services.
A selection of leading consumer and BPO-related real estate companies is presented in Table 4. More information on these and other listed PSE companies can be found at the official website of the Philippine Stock Exchange, the only stock exchange in the Philippines. This site provides data on individual stocks that is similar to what Yahoo Finance and Bloomberg provide in the US.
Table 4. - Leading Consumer and BPO Companies
Elliott: You do not sound too enthusiastic about investing in these companies.
Renzie: I am not. I think they are priced appropriately. I am more interested in the cement and energy sectors. Consider first cement. There is a lot of rebuilding to be done resulting from 2013 events. Everyone knows about the Haiyan Typhoon destruction. But the country also had a serious earthquake and 10,000 houses were destroyed by fires during the 20 days of fighting between government and Moro National Liberation Front forces in Zamboanga City.
There are 2 publicly listed cement companies in The Philippines: Holcim Philippines (PSE: HLCM), and Lafarge Republic, Inc. (PSE: LRI). LRI estimates its market share at 33%. Both see a favorable demand for cement products in the future. As Table 5 indicates, the profit margins of both companies are growing. I favour LRI because of a much lower P/E ratio. LRI's earnings per share are projected to grow by almost 50% in 2013 and by another 20% in 2014. It also has a 5% dividend yield.
Table 5. - Cement Company Financial Data
**Information on P/E ratios for 2011 & 2012 from technistock.net; estimated 2013 PE ratios by Renzie.
Elliott: How about construction companies. Aren't there some likely to benefit from all the reconstruction work needed?
Renzie: There are too many construction firms in the country and the chance of selecting the right construction company that will participate in the reconstruction efforts is small. Focusing on cement narrows the selection process since there are only three major cement players in the Philippines of which only two are publicly traded.
I believe the best way to participate in the electricity industry is through First Gen Corporation (PSE: FGEN). FGEN currently trades at 6x P/E ratio based on 2012 earnings. Why? Because FGEN has experienced four significant negative events this year:
- Commercial operations of Bacman Geothermal Project of FGEN's subsidiary, EDC, were delayed due to technical problems;
- A fire at its San Lorenzo Power Plant which destroyed a 250MW transformer;
- A maintenance shutdown on one of its largest generators that forced FGEN to minimize electricity sales for a month, and lastly
- Significant damage from Typhoon Haiyan.
More on FGEN can be found on my blog post. I currently own FGEN shares and view it as an interesting turnaround opportunity.
I expect FGEN to report earnings of $114 million or a decline of 39% from 2012 earnings. Earnings per share in 2013 should result in a P/E ratio of just over 11. To provide perspective on FGEN, its financials are presented in Table 6 along with the other leading companies in the electricity sector.
Table 6. - Financial Data on Firms in Philippine Electricity Sector
Elliott: An overseas investor wants to know he can get his money in and out of your country at reasonable cost with no restrictions. What do you suggest?
Renzie: The best way to for a foreigner to by Philippine stocks is to open an account with a reputable online brokerage. These are: Citiseconline, BPItrade, and FirstMetroSec. Citiseconline is the market leader in online stock trading. To open an account with Citiseconline, follow their instructions available here.
Elliott: What are the fees and charges for buying and selling stocks in your country?
Renzie: Table 7 provides a concrete example of what it would cost to buy or sell stocks worth PHP20,000.
Table 7. - Costs of Buying/Selling Equities in The Philippines
Elliott: Are there any exchange restrictions? Does the government place and limits on the purchase or sale of US dollars?
Renzie: No. You will have to deal with buying and selling exchange rates and you will have to pay a wiring fee if you don't collect the funds yourself.
The Philippines is a rapidly growing country. It has problems as all countries do. But the cement and electricity companies mentioned above are worth considering. Choosing the right stocks "will pay dividends".
Author's notes on sources:
- FocusEconomics collects data that cover 70 countries in Asia, Europe and the Americas. What makes the company's reports unique are their consensus forecasts providing economic estimates from a wide range of leading financial institutions. For the Philippines, their forecasts include estimates from 23 private institutions plus its government, the Asian Development Bank and the international Monetary Fund. They also include information on whether the estimates are going up or down from previous months.
- Renzie is a stockbroker working for Summit Securities in Bacolod, a city of 500,000 in the middle of the Philippine Archipelago (7,107 islands). Renzie is a CPA getting his MBA at the University of Negros Occidental-Recoletos. In 2011, I interviewed him about making investments in the Philippines. Since then, the Philippine Stock Market (PSEi) is up 39% (the S&P 500 is up 63%). He made two investment recommendations: Semirara Mining Corporation (PSE: SCC) and the Aboitiz Power Corporation (PSE: AP). The returns (capital appreciation plus dividend) are: SCC - 49%; AP - 15%.