Ambitions Coming to Fruition and Stock Market Predicitons

Stock Market Outlook

As I ran through my spreadsheets, I noticed some issues with my old model. The EBITDA / EV model is not sensitive enough to the recent pull back of equities. For example, the HSCEI fell by 11% from the peak in May, yet the changes in projected returns has not changed.

I readjusted my mobile and came up with several findings:

1. Global Technology is now the best bet, with projected returns of 28% pa.
2. Russian stocks is 25%. Russia's problem is the fall in projected earnings due to the recession. However, valuation wise, it appears top.
3. Japanese equities is third with 24%. Japan does not score well in valuations but it scores extremely high in earnings momentum due to the QE.

Many countries belong to the NEUTRAL zone where returns are likely to be below 15% p.a. Just to give a few examples,
5. Asia x Japan up 9.6% Low valuations but weak earnings momentum.
6. HSCEI up 9.0% Very low valuations, but declining earnings.
7. MSCI World up 7.2%. High valuations due to the dominance of developed countries, average earnings momentum.
8. Europe up 6.9%. Poor earnings momentum, but very low CAPE ratios.
9. Korea up 6.8%
10. Indonesia up 6.3%. High valuations, average earnings momentum.
11. US up 5.9%.. High valuations, very high earnings momentum.

In the SELL zone are countries that are in trouble.
1. India. Up 3.4%. Very high valuations. Average earnings momentum.
2. Emerging Markets. Down 29%. Low valuations but declining earnings.
3. Shanghai A shares. High valuations and declining earnings.
4. Brazil down 17%.
5. Thailand up 1.6%.

With only three sectors / countries in the BUY zone, I will still be very cautious and not BUY too much on dips. This correction is likely to be deeper than most. We've already seen the Eurostoxx index fall by around 8 - 10%, HSCEI by 11 - 13%. We are likely to see further downside before we can deploy funds to buy again. Meanwhile, for aggressive investors, I'd keep my asset allocation at 60% equities, 30% bonds and 10% alternatives.

Acquisition

I've completed one more acquisition and another will be due next month. Both acquisitions will probably give me around SGD10k in free cashflow and around 50k of capital appreciation a year. My property assets would have reached SGD4.6m and in terms of net equity, I'd probably have around 1.6m. In terms of rental income, I'd be generating 143k with around 35 - 40k of net cashflow a year.

If I assume a conservative capital appreciation of 5% per year, I'd have around 200k per year. I could extract around 100k of equity a year.

In terms of value, I'd be getting close to 350k of incremental value per year. In terms of cashflow, I'd probably get around 140k pa. It's not enough to retire on. I still have to plod on for another 4 years at least.

I'm making plans to venture into commercial assets and forming companies to do it. I'd probably have a private equity arm, and eventually try to publicly list some of my assets in about five years' time.

Problems of Owning Apartments

Most Asians, especially Singaporeans think that living in condos is a fantastic thing. But one must remember that condos tend to decay faster than houses. Here are the reasons why:

1. Once a condo reaches over 10 years old, the proportion of owner occupiers declines.

2. Once owner occupiers fall below 50%, the willingness to spend money to refurbish the apartment falls. If you especially look at apartments that are over 20 years, only 30 - 40% of residents are owner occupiers. If apartments are over 30 years, only 20 - 30% are owner occupiers. You only need to look at old projects in Geylang, Telok Kurau and orchard to see how run down they are. Apart from maintaining lifts and painting the façade, nothing else gets renewed.

3. Value of the projects fall over time. The good news is conservancy fees fall over time as owners are unwilling to invest more. However, the bad news is it appeals to fewer tenants. Rental demand drops and hence value eventually stagnate. Look at The Pearl and Landmark Tower. They are leasehold apartments and find it difficult to en bloc. The Pearl is around 1000 psf while Landmark transacted for around 1,100 - 1200 psf. Mind you, they are in District 1 or nearby! They are cheaper than condos in Tampines.

4. The type of resident mix changes from mainly family units to all sorts of blue collared workers / night club girls. You may suffer from noise pollution, littering etc.

5. Once the project reaches over 50 years' old, most of the time they are either demolished or become extremely run down. I've never seen a 100-year old apartment but I presume they would have fully depreciated in value and become very valuable for their central locations!

6. Houses have an advantage because as an owner, you can make extensions, add rooms and swimming pools. Every 30 years, you may wish to refurbish the building, thereby increasing its value. The construction is up to date and appeal to owner occupiers forever attractive.

Appetite for construction!

Approvals figures released

The ABS released its Building Approvals data yesterday which captured some attention for all of a few seconds before the media moved on.

What of use can we learn from yesterday's figures, if anything?

Let's take a look...

Appetite for construction

2015 kicked off with the highest number of building approvals we have ever seen in Australia.

Since the beginning of the year, things have pulled back a little, with the headline result declining twice in the past three months,

Nevertheless, on a rolling annual basis building approvals are as high as has ever been recorded in this country at more than 214,000.

Units and apartments account for more than 98,000 approvals, also comfortably a record high.

The most heartening part of this release was that although the number of detached house approvals appears to be rolling over in the above chart, the 10,264 houses approved in April was the strongest result in well over five years since February 2010.

Summarily then, April saw a five year high for house approvals, offset by a 15 per cent decline in units and apartments.

With just a smattering of luck this may be the beginning of a rebalancing towards detached housing approvals.

Multiplier

Some rare bright news for the economy is that the value of residential building jobs approved has surged across all sectors.

There is finally some compelling evidence that low interest rates are encouraging renovations work outside Sydney, with $7 billion of building jobs approved in that sector over the past year.

The value of detached housing jobs has picked up strongly, while the attached dwelling sector is firing on every cylinder it has, with the industry probably now approaching somewhere close to full capacity (skill shortages have already been noted in some areas).

On a rolling annual basis the value of residential building jobs has surged to $63 billion, more than 14 per cent higher than a year ago, and the highest level on record.

This will provide a strong employment uplift and associated multiplier effect to the four most populous capital cities.

Unfortunately, the gloomy predictions of building activity decline in South Australia have proven to be on the money to date.

In chain volume measures terms building activity actually softened in South Australia in the first quarter, and there was scant evidence in yesterday's data series of any improvement in that regard.

Approvals by capital city

Of course, what most property owners and prospective buyers want to know is where the new supply of dwelling stock will actually be constructed.

The trend in detached house approvals in Perth has lagged behind the commodity cycle somewhat, but is now clearly in decline and sits well below the July 2014 peak. 

This is welcome news for the local housing market since net interstate migration to Western Australia has evaporated and the previously very rapid rate population growth in the state has pulled back sharply.

Greater Sydney has seen a much-needed pick-up in the number of detached houses approved, while Melbourne continues to be the undisputed king of detached housing construction.

Adelaide...? Well, Adelaide is kind of on life support.

A level of common sense may or may not be prevailing now from developers with regards to apartment approvals.

Over the past year, as the above charts show Australia has already seen apartment approvals aplenty, so it has been good to see attached dwelling approvals wound back steadily from 10,122 in January 2015 to a more sustainable 8,451 in April.

Greater Sydney saw a very significant decline from 3,250 unit approvals in March to just 1,289 in April, which takes rolling annual unit approvals back down to 27,332.

Brisbane - which has also seen a surfeit of unit approvals over the past year - saw unit approvals decline from 1,784 in March to just 862 in April.

On a rolling annual basis Brisbane has seen 14,335 unit approvals, which is comfortably greater than underlying demand.

In plain English, there will be more units built in Brisbane in the next few years than people who want to rent them, which will see rents decline in some inner suburban areas in particular.

In turn this implies that on average townhouses and houses will likely see stronger capital growth than generic apartments.

Ultimately property prices are a derivative of the underlying land value, and thus it will be the properties with high and rising land value content which perform better through this cycle in Brisbane.

While Sydney, Brisbane and Perth each pulled back on apartment approvals in April, Melbourne continued to smash out another 2,937 approvals in the month taking the rolling annual total to an astonishing 30,243.

Woosah.

More concerning, in the six months since November 2014 Melbourne unit approvals have accelerated to be tracking at an annualised pace of more than 35,000.

Woosah!

A clear oversupply of apartments will eventuate in Melbourne.

Look out...

Rise of the high rise...or pie in the sky

While yesterday's data was overwhelmingly positive, I still believe that the sector is quite unbalanced, with far too many high rise style apartments being approved for construction.

Developers unwittingly stumbled upon a "perfect storm" environment, encompassing supply shortages in certain capital cities (both perceived and otherwise) encouraging development approvals to be passed more easily, record low financing costs and a ready and willing market of offshore buyers.

The number of approvals of high rise apartments is at levels which would have been considered unthinkable only two decades ago.

Interestingly, this is now not only a capital city phenomenon.

On my travels I have seen signboards sprouting up for "skyhomes" in the most unlikely of secondary and regional locations.

One can only wonder what the brochures say.

Those like me grew up in UK cities which experimented with new high rise communities - whereby very few of the component units were held by owner-occupiers - will know that history has generally not been kind to such largesse.

More questions are raised than will be answered in this blog post.

How many Australians will actually want to live in these new shoebox apartments? 

What will these "investor blocks" look like 20 years from now? 

Who will attend the strata meetings in unit developments which are predominantly foreign owned?

These questions and others to be answered in a follow up blog post later in the week...

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Reserve Bank to hold interest rates with an easing bias today.