I am no political guru and am making no predictions about tomorrow's election outcome, so writing an article based on election results would be like gambling. Therefore, I have decided to try something that has a longer shelf life. It is based on my experience from various investment seminars over the past couple of years, which has shown me that there are at least five concepts about the market that are commonly misunderstood.
1. A "Buy" recommendation means "Buy now": Most "Buy" recommendations in research papers are based on percentage upside from the current market price to the calculated target price as implied by each analyst's financial model. However, a model is just a model. Numbers in, numbers out.
The most important things are the input assumptions, which -- more often than not -- are based mainly on management guidance from the company under review. And since it is management's job to set a stretched target, it is our job as investors to probe the basis underlying these assumptions. Next time you see the "Buy" recommendation, don't forget to ask questions to gauge the likelihood of those assumptions.
2. The market is overvalued once market capitalisation exceeds the country's GDP: This is not true. The ratio derived from market cap vs GDP is almost meaningless. GDP measures the output (or income) of a nation based on the value of final goods and services produced by all entities over a period of time. Market cap measures the market value of the equity of listed companies. There is no link or direct relationship between the two numbers.
GDP is a "flow of income" concept related to the value of economic activities over a period of time. Market cap is a "stock of wealth" concept regarding the value of an asset at a specific point in time. Listed companies do not represent the country's economy. Therefore, dividing the market cap of listed companies by the country's output value makes no sense.
On top of that, any IPO of a spun-off unit of a listed company will lead to double-counting of market cap. For example, when we sum the market capitalisation of PTT and its subsidiaries such as PTTEP, TOP, PTTGC and IRPC, the total market value will have been double-counted and then some, as the value of PTT also reflects the value of its ownership (50-65%) in those subsidiaries.
3. Money flows out of equities to fixed income when interest rates rise: This is also a false concept. Every transaction matches buy orders with sell orders. Therefore, money never flows into or out of the market: it is just flowing from a buyer's bank account to a seller's bank account.
It is the change in cost of funding or change in relative attractiveness that drives decisions by buyers (and sellers) to execute orders at the market price or set their buy/sell orders higher or lower than the market price. The question, therefore, is whether the market price movement makes sense.
If a rising interest rate is based on an improving economic (and earnings) outlook, the share price could even move up against the higher cost of funding. We should not be surprised to see bond yields and equity prices rise simultaneously. The earnings outlook and expected return are more important than the flow.
4. Foreign investor net selling often leads to lower stock prices: This is only true in the short term. If the outflow is too large compared with average daily trading value, the selling force could lead to temporarily lower stock prices.
But since a company's business does not change, revenue and earnings outlooks are not affected by the outflows (especially if the outflow was part of a region-wide sell-off). Therefore, the price should drop only in the short term and then rebound to a level that reflects the true business and earnings condition of the firm.
Lately, local institutions have played a bigger role in market stabilisation. SET index movement has shown a stronger correlation with local fund activities than with foreign flows over the past couple of years, thanks to inflows from LTFs and RMFs, rising domestic savings and improving financial literacy (reflected by an increase in the proportion of equity funds compared with fixed-income funds). As this trend continues, foreign flows will play a smaller role in SET index movement going forward.
5. Buy big stocks near the end of a quarter to enjoy "window dressing" by local funds: This is not true either. First, pushing the index higher near the end of each quarter does not help much, as local funds report performances daily and fund managers' performances are measured against the index.
Second, even if there is "window dressing" activity, it is unlikely that the fund will buy big-cap stocks, as it would require too much capital and funds as a rule don't have much cash on hand. Also, buying big-cap stocks is likely to benefit other funds (including those of competitors), and thus will not boost the relative performance of window-dressers.
Pornthep Jubandhu is senior vice-president for the investment strategy department at SCB Securities Co Ltd.
