TUESDAY, 16 FEBRUARY 2016

Too soon for a turnaround

COLing the Shots is a monthly publication by COL which provides insights on investment opportunities based on global and local developments that could affect the market. COLing the Shots aims
to provide timely and relevant information and analysis as well as a model portfolio for successful
investing.

Key Highlights

The PSEi has rallied by 7.8% since we conducted our first half 2016 market briefing presentation
last January 23. The rally did not come as a surprise since the market was technically oversold
as pointed out by COLs chief market technician Juanis Barredo.

There were also some fundamental factors that acted as catalysts for the rally such as the
statement from the ECB that it might increase in the size of its QE this March, the adoption of
negative interest rates by the BoJ, and the Philippine governments announcement of a better
than expected fourth quarter 2015 GDP growth.

Nevertheless, the markets longer term outlook has not changed. Commodity prices are still
expected to remain weak as Chinas economic growth led by industrial production continues
to slow down. The outlook for the peso also remains negative as the Chinese yuan continues
to devalue. Finally, there is a risk that the strong growth in government spending will not be
sustained in the second half of 2016 as this usually slows down during the first six months of a
new presidents term.

Given our cautious view of the market, investors who have a short term investment time horizon
or who are too heavily invested should take advantage of the ongoing rally to sell or reduce their
positions in the market.

EIP investors though should continue to buy stocks, even if they had bought at the peak. This
is because sticking with a peso cost averaging strategy will allow investors to reduce the size of
their drawdown and to recover faster when the market resumes its uptrend.

The main reason why the EIP strategy works is because investors can buy more shares as
prices go down. Moreover, buying continuously as the market drops will allow investors to
reduce average cost. Since average cost is lower, investors portfolio will turn profitable faster
when the market recovers.
Head of Research
April Lynn Tan, CFA

Analysts
George Ching
Richard Laeda, CFA
Charles William Ang, CFA
Jed Frederick Pilarca
Meredith Hazel Cua
Angelo Lecaros
Michelle Angeline Yu

Just a rally
The PSEi has rallied by 7.8% since we conducted our first half 2016 market briefing presentation last
January 23. It is not surprising then that some investors are wondering whether or not we had been
too pessimistic given our cautious view of the market.
However, the markets rally did not come as a surprise. During his presentation last January, our chief
market technician Juanis Barredo already mentioned the possibility of a rally. At 6,084, the market
was already oversold as it fell by a total of 13% in a span of only 16 trading days! Given the markets
oversold condition, Mr. Barredo mentioned that he expected a B wave rally to materialize soon with
a target of 7,000 to 7,400. We are currently in the middle of the said rally.
There were also some fundamental factors that acted as catalysts for the rally. Last January, the
European Central Bank hinted that it might increase in the size of quantitative easing in March
(leading to even more liquidity and lower interest rates). Also in January, the Bank of Japan surprised
investors by announcing that excess deposits with the central bank would no longer earn interest but
instead be charged 0.1%.
In the Philippines, the government announced better than expected GDP growth of 6.3% for the
fourth quarter of 2015.
Nevertheless, the markets longer term outlook has not changed. Commodity prices are still expected
to remain weak as Chinas economic growth led by industrial production continues to slow down.
Two weeks ago, China announced that Januarys manufacturing purchasing managers index (PMI)
came in at 49.4. This implies contraction in the manufacturing sector for the sixth straight month (any
value below 50.0 implies contraction). Moreover, just this week, China disclosed that exports fell by
11.2% while imports dropped by 18.8% in January. The said numbers are significantly slower than
the median forecast of -2.4% for exports and -4.6% for imports.
The outlook for the peso also remains negative as the Chinese yuan continues to devalue.
One of the main drivers of the Philippines stronger than expected GDP growth was government
spending which jumped 17.4% during the fourth quarter. However, there is a risk that the strong
growth in government spending will not be sustained, at least in 2016. Based on the track record of
the past few administrations, government spending usually slows down during the first six months of
a new presidents term. This could also happen once a new president is elected this May.
Exhibit 1: Government spending growth (first six months of term)

President

1st 6 Mos

Term Ave

Cory Aquino

2.00%

3.50%

FVR

-1.80%

2.80%

Erap/GMA

0.60%

-0.30%

GMA

0.30%

6.40%

Pnoy

-6.50%

4.20%

source: BSP, COL estimates

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Given our cautious view of the market, investors who have a short term investment time horizon or
who are too heavily invested should take advantage of the ongoing rally to sell or reduce their positions
in the market. On the other hand, those who are waiting to come back into the market should wait for
prices to fall to more attractive levels before buying back stocks. We would like to reiterate what we
said during our market briefing last January, that this is a buyers market, and that we should only be
accumulating stocks when the PSEi falls below 6,400. Once the B wave rally is completed, the PSEi
is expected to suffer from another wave down or a C wave. Based on what has taken place so far,
there is still no reason to believe that the said scenario will not materialize.

What should I do if I bought at the peak?

What should I do if I bought at the peak? This was one of the questions asked during our market
briefing in January.
As discussed earlier, assuming that you are too heavily invested in stocks, you should take advantage
of the markets ongoing rally to reduce your position.
Assuming though that you just started with your easy investment program (EIP) which involves peso
cost averaging on a regular basis, sticking with the plan despite the markets weakness will actually
allow you to reduce the size of your drawdown and to recover faster when the market resumes its
uptrend.
The main reason why the EIP strategy works is because you can buy more shares as prices go down.
For example, at MEGs peak price of Php5.88/sh, you could only buy 850 shares with Php5,000.
However, now that MEG is only Php3.40/sh, you can already own 1,470 shares with Php5,000. This is
73% more shares with the same capital!
Buying continuously as the market drops will also allow you to reduce your average cost. Going back to
our previous example, assuming that you were able to buy 1,470 shares of MEG at Php3.40/sh, your
average cost would drop to Php4.30/sh from Php5.88/sh initially.
Since your average cost is lower, your portfolio will turn profitable faster when the market recovers.
Referring again to our example, you would already be breaking even assuming that MEG starts to trade
above Php4.30/sh. You would no longer have to wait for prices to recover all the way back to Php5.88/
sh which would obviously take longer to materialize.
We did a study assuming that an investor was unfortunate enough to have bought the PSEi during the
peaks before the Asian Financial crisis (February 1997) and the Global Financial crisis (October 2007).
We then compared the results of two portfolios using different strategies one portfolio that just bought
and held and another portfolio that adopted the EIP strategy.
During the time of the Asian Financial crisis, the investor who adopted a buy and hold strategy would
have suffered a maximum drawdown of 71.6% and would have taken 127 months or more than 10 and
a half years to break even!
On the other hand, the investor who adopted an EIP strategy would have suffered a maximum drawdown
which is much less at 46.3%. It would have also taken the investor only 88 months to breakeven, or
three years and three months faster.

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During the time of the Global Financial crisis, the investor who adopted a buy and hold strategy would
have suffered a maximum drawdown of 56.0% and would have taken 35 months or almost three years
to break even.
On the other hand, the investor who adopted an EIP strategy would have suffered a maximum drawdown
of only 34.9%. It would have also taken the investor only 21 months to breakeven, which is a year and
two months faster.
Exhibit 2: Scenario analysis of Buy & Hold vs. EIP during bear markets

Maximum Drawdown

Months to Breakeven

Buy & Hold

EIP

Buy & Hold

EIP

Asian Finl Crisis

71.60%

46.30%

127

88

Global Finl Crisis

56.00%

34.90%

35

21

source: Bloomberg, COL estimates

A small caveat though is that adopting the EIP strategy will mean larger absolute losses in the short
term while markets are falling. This is something that we already warned about during our market
briefing. Nevertheless, you need to have a longer term perspective. Although you will suffer from bigger
absolute losses in the short term, you will turn profitable faster once markets recover. The absolute
value of your profits will also be much larger over the longer term than that of an investor who stopped
investing after buying at the peak.

No changes in our COLing the Shots stock picks

There will be no changes in our COLing the Shots stock picks this month.
Among the stocks in our recommended stock list, we recognize that FGEN is one of the most
controversial picks as its share price remains flat despite the 7.8% rally of the PSEi. Nevertheless, we
see no reason why we should remove FGEN from our recommended stock list.
A possible reason why FGEN is not performing well is that profits of its 49% owned subsidiary EDC
(which also accounts for 38% of its NAV) are under threat. In an environment of falling coal and oil
prices, costs of non-renewable power generation companies are on the way down, giving them the
room to cut power prices. This in turn could hurt the profitability of renewable energy producers such as
EDC which dont have the same flexibility in terms of cost.
Nevertheless, EDCs vulnerability to such a threat should be mitigated by the fact that around 88% of its
capacity is already secured by long term contracts, with 69% of the said contracts lasting for more than
six years. Hopefully, coal and oil prices will be higher once EDC is set to renew its contracts.
FGENs depressed valuations are also unwarranted. Even if we assumed that EDCs current market
price of Php5.30/sh is its fair value (vs. our FV estimate of Php8.22/sh), and that FGENs existing
gas plants would be worthless once their contracts finish by 2023, FGENs fair value would still be
Php20.20/sh, a premium relative to its market price of Php18.00/sh.

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Hopefully, the share price of FGEN will recover once its two new plants the San Gabriel and Avion
plants start contributing to profits this year. The first time contribution of the two plans will allow FGENs
profits to jump by 22.3% this year. The said increase is faster than the PSEis 2016E EPS growth of
10%.
Listed companies have started releasing fourth quarter earnings results and we are keeping our
fingers crossed that the fourth quarter earnings season will be much better compared to the past three
quarters. Recall that poor earnings results were one of the catalysts for the PSEis decline from the
peak in April last year.
Among the stocks in our list, only RLC has released earnings so far and results have been better than
expected because of revenues.
Exhibit 3: COLing the Shots stock picks
Sector
Power

Properties

Consumer

Stock

Price

FV

Buy Below

High Conviction
Buy Level

FGEN

18.00

32.70

28.40

16.50

SMPH

21.35

21.70

18.90

12.22
24.00

ALI

31.15

41.67

36.20

MEG

3.33

5.58

4.70

3.05

RLC

25.50

29.60

25.70

19.50

DNL

8.57

8.30

7.20

6.60

CNPF

17.00

21.50

17.20

14.28

Exhibit 4: Index funds

Ticker
PSEi

Current
Level

Buy Below
Price

High Conviction Buy

Level

6,692.58

6,400.00

5,600.00

4.4125

4.2617

3.729

Equity Fund
The Philequity
PSE Index Fund

XPEIF

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Investment Rating Definitions

BUY

HOLD

SELL

Stocks that have a BUY rating have attractive

fundamentals and valuations, based on
our analysis. We expect the share price
to outperform the market in the next six to
twelve months.

Stocks that have a HOLD rating have either

1.) attractive fundamentals but expensive
valuations; 2.) attractive valuations but
near term earnings outlook might be poor
or vulnerable to numerous risks. Given the
said factors, the share price of the stock may
perform merely inline or underperform the
market in the next six to twelve months.

We dislike both the valuations and

fundamentals of stocks with a SELL rating.
We expect the share price to underperform in
the next six to twelve months.

Important Disclaimers
Securities recommended, offered or sold by COL Financial Group, Inc.are subject to investment risks, including the possible loss of the principal amount
invested. Although information has been obtained from and is based upon sources we believe to be reliable, we do not guarantee its accuracy and it may
be incomplete or condensed. All opinions and estimates constitute the judgment of COLs Equity Research Department as of the date of the report and are
subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a
security. COL Financial ans/or its employees not involved in the preparation of this report may have investments in securities or derivatives of securities of
securities of the companies mentioned in this report, and may trade them in ways different from those discussed in this report.

2401-B East Tower, Philippine Stock Exchange Centre, Exchange Road, Ortigas Center, Pasig City, 1605 Philippines
Tel: +632 636-5411

FRIDAY, 29 JANUARY 2016

Fax: +632 635-4632

COLING THE SHOTS

Website: http://www.colfinancial.com

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