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Scattered Thoughts on Valuations
By Musicwhiz  •  January 9, 2009
[caption id="attachment_1474" align="alignright" width="162" caption="Valuation"]Valuation[/caption] With the current bear market entering its 16th month (most generally acknowledge that the bear market began in October 2007 when the STI peaked back then at the 3,800+ level), it is interesting for me to note that valuations between bull and bear markets can have such a significant gap. I have put a lot of thought into this matter over the last few days and admit that the following post is merely the result of a thought process which had culminated into ramblings of a somewhat academic nature, and thus may not have practical value in determining valuations for subsequent bull and bear markets and how these may have an impact on margin of safety and one's investment decision. Still, I will provide some insights into the qualitative (and not just quantitative) process of selecting companies for the long-term and also how to be mindful of possible "value traps" while doing so. With the benefit of hindsight (to be touched on in a future post under "Behavioural Finance"), we can all now look back at the roaring and overly-exuberant year of 2007 when the bull market was still charging ahead. It is with a somewhat reflective tone that I can state that valuations at the time did NOT seem excessive, purely because at the time the future seemed clear and prospects looked good for the companies I owned. Therein lies the basis for the higher valuations, due to increased visibility of earnings and clear growth prospects (due to stable economies and markets), higher valuations of price-earnings were assigned to many companies in general. A reasonable person would not consider such valuations excessive in light of developments which were going on at the time (before the eruption of the sub-prime crisis in the USA), and thus could not rationally and knowingly have argued that companies were over-valued based on future earnings. One must also be aware that future earnings are never clear and most of the time, higher PER valuations are accorded to companies with expectations of higher earnings and higher growth; notwithstanding the fact that this MAY NOT materialize even under the best-case scenarios. I recall the valuations of the companies which I had purchased in my current portfolio (excluding FSL Trust and Tat Hong) back then in 2007: a) Ezra - About 12-14x historical PER b) Swiber - About 11-12x historical PER c) China Fishery - About 8-9x PER d) Pacific Andes - About 7-8x PER e) Boustead - About 8-10x PER These would not have seemed excessive as valuations then had incorporated all known information on proposed future growth potential as well as events which would play out as Management had expected, to give rise to the anticipation of higher earnings. Of course, when the crisis broke out, suddenly the future became much less clear and the original growth prospects were not as clear or obvious as before. The credit crisis had degenerated into a full-blown economic crisis and was creating uncertainty for every company. Read more...
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By Musicwhiz
Musicwhiz who is in his 30s is educated in accounting and works in the investment line (but not in a bank, financial institution, brokerage or fund house). He has a have a full-time job and investing is his side-line as well as passion. Musicwhiz is a value investor and his technique is derived from the teachings of Warren Buffett, Benjamin Graham and Phil Fisher. He incorporate all aspects of their investing style, and modify his value investing style to the Singapore market.
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