A swift glance at various investment reports that were released in January 2008 once again demonstrated the futility of predicting the market despite what the experts might profess.

“Our position is that even if there were a recession in the US, it is going to be a short one……. However, what we are sure of is that stocks now present value. The STI is currently trading at 13x forward PER, which is low compared to historical average of 16x,” are some of the words lifted from a local brokerage firm’s report.

Fast forward 9 months later and you will find Singapore equities trading in the single digit forward PER level and a deep global recession on the horizon.

Where It All Started

The current economic malaise traces its origin to the US subprime mortgages segment. Bad debts arising in the subprime mortgages segment began to affect the banking system in late 2007.

Nonetheless, the problem, thought to be contained within a small portion of the home loan market spread to other parts of the mortgage market as foreclosures mounted, forcing financial institutions to write-down billions of dollars of loans and causing the collapse of several American and European financial institutions as confidence dissolved.

Although a coordinated rescue effort by US and European central banks managed to avert a total meltdown of the financial system, the real problem is just beginning.

The US economy is bracing itself for a prolonged slowdown based on recent economic data. With unemployment rising, bankruptcy will increase and more bad debts will occur in the credit card and automobile loan segments. This could easily lead to another round of writedowns and further capital injections into various financial institutions. Banks will become more protective of their balance sheets and curb lending irregardless of the central banks’ attempt to inject liquidity. The era of growth of the US economy built on the foundation of easy credit has ended and 2009 is expected to be mired in volatility.

Stocks that are defensive in nature while yielding a reasonable dividend seem a safe bet in these uncertain times, but companies with good growth prospects and strong cash balance will rebound sharply when recovery kicks in.

China stocks have fallen to attractive valuations owing to current market sentiments as well as corporate governance issues; most S-shares have joined the ranks of the penny stocks with PER below 10. We feel that there are gems among them, considering China’s 8-9% forecasted growth this year and trillion dollar reserves, which should allow it to implement fiscal and monetary stimulus packages. While sales of big-ticket items like automobiles and properties may stumble, demand for other consumer goods should remain robust.

Racing Ahead

China Hongxing Sports (China Hongxing), one of China’s premier sports shoes manufacturer booked a 37.5% surge in 1H08 earnings boosted by higher turnover as a result of an expanded store network to 3,648 retail outlets. Cash balance was maintained at a healthy Rmb2.2b as at 30 June 2008, which is more than sufficient to cover total liabilities by 4.4 times. In fact, cash per share of Rmb0.87 is approximately on par with the current share price. As a plus, China Hongxing has been giving dividends since FY06. FY07 yield and PER are at 4.9% and 4.9 respectively.

Debunking news of a slowdown in the Middle Kingdom, China Hongxing attracted a record number of participants and booked Rmb1.2b in orders during the 2009 Spring Collection Trade Fair held in August. With its efforts to improve sales of higher margins products like apparels and the anticipated completion of its fourth manufacturing plant by the end of 2008, the company should be more than capable of meeting increased demand and maintain growth momentum.

Satisfying Taste Buds

Dumpling manufacturer, Synear Food Holdings (Synear) announced a dip in top and bottom lines for 1H08 owing to the severe snowstorms that swept through Southern China in early 2008. Raw material costs such as pork, flour and packaging material have also ramped up, putting further pressure on margins. Improved economies of scale and future growth will be sustained with the completion of its third manufacturing facility in Guangzhou with a capacity of 100k metric tonnes, thereby increasing production capacity by 20.5%.

Cash balance of Rmb1.3b is 4.7 times total liabilities, which should prevent the company from falling into cashflow difficulty. Although gross profit margin fell to 27.3% from 35.4% year-on-year, we are optimistic that endeavours to automate production processes and a recovery of the Chinese hog industry should put a lid on spiraling costs. Further, the promotion of the sales of more premium products should also yield favourable dividend in the long run, which makes Synear’s PER of 2.1unreasonably cheap.

Clothing The Masses

Plummeting oil prices may have taken the shine off counters in the oil and gas industry, but China Sky Chemical Fibre (China Sky) sure isn’t fretting. The China-based producer of high-end nylon is dependent on polyamide chips, a by-product of crude oil processing, for the manufacture of its product.

Half-year financial figures for the 6 months ended 30 June 2008, was encouraging with growth in top and bottom lines as well as improvement in gross margins, despite record oil prices. China Sky’s quality products and strong brand equity have enabled it to pass increased material costs to consumers. Introduction of new products like super resilient full drawn yarn and high oriented yarn nylon fibre, coupled with robust domestic demand should help to offset slowing global sales of textiles. Moreover, with cash per share of Rmb1.3 and PER of 1.6 China Sky is trading at attractive level.