Vantage Point with Keith Collister
Over the past several months, the local stock market has rebounded quite sharply from its low in the middle of July.
The critical question for local investors is whether this current rally will last for another three months as recently projected by some of our analysts.
One starting point is to look at some of the major reasons for the recent rebound in the stock market.
Over the past couple of quarters, we have seen a mild economic recovery from depressed economic and business conditions, with the World Bank projecting 3.0 per cent economic growth for the calendar year, which would be the highest rate in a very long time.
The stock market is a forward looking indicator, so another one of the critical indicators predicting its performance is the level of business confidence, which is also a business assessment of both current and future business conditions. It is no coincidence that the recovery in the stock market coincided with the recent bottoming of the Jamaica Chamber of Commerce's Business Confidence Indices, which rose 15 per cent in the third quarter.
Rise in business confidence
According to the JCC's survey, the rise in business confidence was driven by increased current profits - which the recent third quarter results of some listed companies appeared to confirm - and a rise in firm's expectations of future profits.
However, it should be noted that the Business Confidence index is still well below its first quarter 2005 high, which coincided with the stock market high, and despite recent gains, appears to have merely recovered some of its losses. Whilst I expect business confidence to rise somewhat further when the business confidence index for the final quarter of this year is reported in early January, I believe that improvement has already largely been reflected in the stock market rally over the past quarter.
Our local market has seen some particularly sharp price gains in September, November and the first week of December.
Some of the recent particularly sharp gains undoubtedly reflected the removal of the policy uncertainty generated by the 'election watch' Jamaica has been on over the past several months.
It is noteworthy that October's performance was a relatively weak point in the rally, possibly reflecting the high degree of political uncertainty at the time. That uncertainty was removed when it became clear there was going to be no election this year, with most pundits now guessing that the election will be after the cricket and budget.
Technical conditions for stocks have also been very positive, with plenty of institutional liquidity and a shortage of stock.
However, the estimated price earnings ratio for the overall market of approximately 12 times is not cheap, and more importantly it is currently very difficult to identify many real growth stocks.
Whilst it is true that we are defining growth stocks using a relatively high benchmark of companies projected to grow earnings at around 15-20 per cent on a consistent basis, with top line revenue growth of around 10-15 per cent, it should be noted that a few years ago it was not uncommon for companies to be growing their profits at multiples of our minimum profit increase, to qualify as a growth stock.
This shortage of growth stocks partly reflects the fact that the extraordinary growth of the financial sector seems to have slowed, particularly, as the Government is finally seeing some success in reducing its domestic interest bill.
One of the successful recent stock themes has been spotting takeover targets, notably DB&G and to a lesser degree Courts.
Possibile mergers
It is likely mergers in the financial sector will continue, with the possibility that other major financial sector players will seek to follow DB&G's example, which may compensate for the flat profit performance likely to be seen from most of these players as they find it difficult to diversify into new areas sufficiently fast to compensate for a reduction in their core net interest income segment.
Some companies such as Cable & Wireless Jamaica or Carreras may potentially be able to increase non-core earnings, for example, through the release of pension surpluses.
One may still see some price appreciation from organic profit growth from the main commercial banks BNSJ (and its new subsidiary DB&G), NCB, Life of Jamaica (although it is already at a premium to the market), its subsidiary Pan Caribbean (whose stock also has the advantage of being relatively scarce).
As I have mentioned before, commercial real estate plays First Jamaica and Pan Jamaica may also be some of the better financial sector bets.
However, I continue to believe the main market opportunity is in real sector companies, particularly those in exports, as I don't see any significant revival in consumer purchasing power in the short run.
Whilst both Jamaica Broilers and Caribbean Cement could be growth stocks in 2007, they are higher risk companies with much of that improved performance already reflected in the current share prices.
DB&G has an attractive dividend, paying investors to wait, but is no longer cheap at $9.25 and its profitability is likely to be under pressure near term reflecting its increased tax charge.
This leaves Lascelles and Jamaica Producers, although I would prefer to buy both a little cheaper than their current price of $279 and $39.50, respectively.
The January effect
Overall, whilst we may see some mild further price appreciation in the market, partly reflecting the traditional January effect - some of this effect now occurs in December instead - without substantially lower interest rates, the local market is currently nearly fairly valued for a relatively high risk emerging market, particularly without stronger signs of improved profitability from listed company bellwethers such as GraceKennedy.
One positive factor that may make this outlook unduly cautious in the short run is what looks like the beginning of the recovery in the Trinidad stock market that we have recently been forecasting.
Apart from continuing to recom-mend that local Jamaican investors consider diversifying their long term portfolios into such regional stocks as Trinidad Cement, Neal and Massey, RBTT (and monitor Guardian for when it finally turns around), local investors should also be paying close attention to the fact that the recent modification of the restriction on the stock purchases of institutional investors in Trinidad should also spillover into our market once institutional investors start buying there again.
Whether this will offset some of the potential risks for next year, including a slowing U.S. economy, higher oil prices and the possibility of financial instability driven by disorderly correction of some of the world's imbalances, remains to be seen.
keithcollister@cwjamaica.com
