The Business Times, Wednesday 13 Feb, 2008

MONEY MATTERS

Riches through both global and local toil

While our SWFs take care of things abroad, property beckons smart investors at home

By JOSEPH CHONG

IF SOMEONE had predicted 40 years ago that Singapore would one day be the biggest shareholder in some of the largest financial institutions in the US, Europe and Switzerland, you'd probably have thought he was loony. Back then, any of these institutions, given our dismal situation then, probably had the wherewithal to buy all of Singapore!

This is the quirk of the fallout from the US residential property market decline. Without the need to repair badly impaired bank balance sheets quickly, we would not have had this chance to put $30 billion to work quickly.

Interestingly, while all this was going on, there have been calls for more transparency on sovereign wealth funds (SWFs). I wonder whether, as part of the greater transparency process, GIC will publish the market value of its portfolio. BT was the first ever to publish an analytical estimate of the size of this portfolio in 2006 ('Money Matters - A closer look at Singapore's reserves', Aug 30, 2006). It came to a figure of $468 billion then. It is probably around $550 billion today. Together with Temasek's portfolio, that would be roughly $750 billion (or about $750,000 per resident household!).

Therefore, $30 billion is a small slice. Should the stakes in UBS, Citigroup and Merrill Lynch double in value in three years - which is very possible - this would add only 4 per cent to the overall portfolio. Fairly routine, indeed. Unfortunately, this is the burden of managing such huge portfolios; one needs to find elephantine targets continuously to make a meaningful impact.

Why am I confident that the $30 billion could double in three years? First, GIC is an old hand at this game and is no stranger to banking crises. As a portfolio manager investing in financial institutions in Europe in 1996-98, I was always amazed at how well the senior managers at the Scandinavian banks knew Singapore (there was a Scandinavian banking crisis in the early 1990s). Scandinavian bank stocks have done very well post-crisis.

Second, I believe GIC understands that this is a fiat money system. By cutting interest rates aggressively, the US Federal Reserve reduces the 'raw material' costs of bank loans, thus creating (more) profits for banks. This stealth recapitalisation eventually drives the credit cycle further which promotes the economic recovery and higher stock prices. Indeed, the global financials ETF outperformed the broad S&P Global 100 ETF in January despite all the extreme negativity surrounding financial institutions!

Although we have been lumped together with other SWFs, most of these other SWFs have been created from oil. Unlike them, ours is from toil. For this we should be very proud.

Toiling through the latest URA Q4 2007 real estate statistics, the hiatus in the residential property market in the past months is appearing to be the pause that refreshes as I have argued ('Correction, what correction?', BT, Dec 5, 2007).

Notwithstanding a dramatic but temporary drop in sales volume because of the US sub-prime contagion, rentals and capital values have continued to edge upwards. The fall-off in demand is temporary as underlying economic growth will be very firm in the next few years. Just look at the $16 billion projected by EDB in inward investments. Looks like no sabbatical for the boys and girls at EDB.

Rentals and capital values have continued to climb because supply has been in check. The URA data shows that the vacancy rate appears to be steadying at a low level of around 5.5 per cent in Q3 and Q4 2007 (compared with 8.5 per cent five years ago). In fact, 5.5 per cent tells us that the current supply is not plentiful and that's why rents continue to rise.

'Inventory', which I define as 'unsold homes - completed or under construction', edged up from about 9,000 units to 9,800 units in Q4 2007. This is insignificant compared with the situation five years ago. The rest of the 29,000 'uncompleted' units is potential (uncertain) supply - they have planning approval but construction has not started. This 29,000 figure has actually fallen slightly by about 500 units in the fourth versus third quarter of 2007.

It would appear that developers, whose cash flows are fairly strong, have been deferring projects as predicted. A good example is Leedon Heights, which went en bloc but the developer has chosen to make the units available for rent instead of immediate redevelopment.

The above notwithstanding, the current hiatus is a window of opportunity but it is difficult to knock down prices sharply because of the firm rental market. Remember: a good rental means sellers have the option to wait.

Indeed, I believe that rentals and rental direction are keys to any real estate buying or selling decision. I tell our clients to always ask about rentals as the starting point in their assessment of what price you should pay for your property. Herein I would be prepared to accept a lower rental yield for freehold properties. This is because one needs to be compensated for the ongoing (taxed) depreciation of leasehold land.

Also, within freehold properties, I would be prepared to accept a lower rental yield for prime properties. This is because of (a) higher certainty of rental stream continuity; and (b) lower underlying property depreciation because of higher percentage of land content in overall capital value. Happy toiling at the hunt!

The writer is CEO of financial adviser New Independent. He welcomes feedback at : josephchong@ni.com.sg

This article is for information only. Readers should seek independent advice before making any investment decisions