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If you based your investment decisions solely on recent news headlines and stock market performance, Singapore does not look like a great place to invest.
The economy is not growing – economic growth was zero percent for the first three months of the year. Deflation is a concern, with prices falling for a record 17 months in a row. Real estate prices are falling. Global trade is slowing. China, Singapore’s largest import and export market, is a big source of uncertainty.
Singapore’s stock market has not been a world-beater for a long time either. Including dividends earned, the STI is down 4 percent so far in 2016. It’s fallen 20 percent over the past year, and it’s down 11 percent over the past five years. Over the past 25 years, the STI has only returned 2.4 percent per year on average, including dividends.
That pales next to the Shanghai Composite, with a 25-year average annual return of nearly 13 percent. The S&P 500 and the Hang Seng have both risen around 7 percent per year.
But, despite all the gloom, this might be a great time to invest in the Singapore stock market. Based on two parameters, Singapore’s stock market is looking cheap. And in the past, shares have performed strongly when Singapore’s shares have been at these prices.
First, the Singapore stock market is cheap on the basis of the cyclically adjusted price-earnings ratio, or CAPE. The CAPE is based on the well-known price-earnings ratio (P/E), which takes a company’s share price and divides it by its earnings per share. So, if a company had a share price of $50 and its earnings per share were $5, the P/E would be 10 ($50/$5.) To find the P/E for an entire market, like the STI, you just calculate the average P/E ratio for every stock on the index.
The CAPE uses the same concept but adjusts the P/E for inflation and for the ups and downs of the business cycle. To calculate it, the annual earnings per share for an entire index for the past ten years are adjusted for inflation. (That’s because the average business cycle lasts for about ten years.) The current value of the market index, like the STI, is then divided by the 10-year average inflation-adjusted earnings per share for the index. The result is the CAPE. (You can read more about the CAPE ratio here.)
Based on CAPE ratios as of the end of March, Singapore is one of the cheapest markets in the world with a CAPE ratio of 11.5. That makes is one of the cheapest developed markets (after Spain, Portugal, Norway and Italy). It’s also cheaper than Korea (12.7), Hong Kong (14.3) and Taiwan (18.2). Singapore’s shares are only slightly higher than China’s, which trades at a CAPE of 11.3.
The CAPE is a long-term valuation measure. It doesn’t suggest that shares are going to bounce sharply in coming weeks. But a low CAPE represents good value if you have a long-term perspective, and markets with low CAPEs tend to outperform over time.
Another way to value a stock index is to look at its dividend yield. That takes all the dividends of the companies listed on the index and divides it by all their share prices. So, if say, all the companies on the Singapore Exchange pay a $1 dividend, and the shares were all trading at $20, the market’s dividend yield would be 5 percent ($1/ $20.)
The dividend yield for the Singapore stock market is at about 3.5 percent right now (based on data from DataStream, as explained below.) The average dividend yield for the market has historically been 2.7 percent.
This means the dividend yield is now higher than normal. In fact, it’s the third highest it’s been in the past 30 years. As the chart below shows, every time the dividend yield for the Singapore market has been above 3 percent (the solid horizontal red line in the graph below), the market has on average climbed more than 100 percent over the following 17 months.
Based on the CAPE ratio and the current dividend yield, investors are looking at a historic opportunity to invest in Singapore. To take advantage of this opportunity, look at a STI ETF. The SPDR Straits Times Index ETF trades on the Singapore Exchange (code: ES3.) For investors that can trade on the New York Stock Exchange, try the iShares MSCI Singapore fund (ticker: EWS.)