The Philippine equity market again may outperform its counterparts in the region, despite the perception that local firms, saddled with slowing profit growth, have become too expensive.
According to a recent report by British financial giant Standard Chartered, several factors are working in favor of local companies, whose share prices are expected to surge, complemented by an expansion of their bottom lines in the coming year.
Standard Chartered said the consensus forecast for annual growth in the earnings per share (EPS) of local companies stood at a modest 7 percent. But the bank said this was not an indication of slowing growth.
“(However), core earnings look better than headline due to one-off gains in 2013, which created a high base,” the bank said.
The obvious drag on earnings was the heavyweight banking sector, which would experience a 6-percent EPS decline in 2014, Standard Chartered said.
“We believe this weakness is primarily a function of the high base effect of 2013, linked to a number of exceptional gains,” the bank said.
It noted Metropolitan Bank & Trust Co.’s second quarter net income, which showed an exceptional trading gain that contributed 90 percent to its bottom line.
“Excluding these and other exceptional gains, we believe the sector should see recurrent EPS growth of 10 percent, and aggregate market EPS growth should also advance to 10 percent.,” the bank said.
It maintained its price-to-equity (PE) ratio recommendation of 19 times for Philippine blue chips.
Meanwhile, Standard Chartered also noted the recent surge of cash coming from the central bank’s special deposit accounts (SDA), which is expected to spur the economy by making available more cash for loans, apart from increasing demand for local asset prices.
“We think this could create a powerful driver for the equity market heading into the end of the year,” Standard Chartered said in the bank’s On The Ground report, released after a staff visit to the country.
The surge in liquidity from SDAs comes following a “refinement” in rules that banned non-pooled, individual investments in the liquidity-controlling window.
“SDAs were originally structured as a way to mop up excess liquidity in the system, offering an attractive interest rate relative to the standard overnight rate,” Standard Chartered pointed out. “The existence of the SDA in the current low interest rate environment has clearly created imbalances, to the extent that it has biased up deposit interest rates at commercial banks and raised their cost of funding.”
These deposits peaked at over P2 trillion in the first half of the year, driven mainly by risk-averse investors funneling their cash into SDAs through trust accounts with local banks. Under the new rules, 30 percent of these covered funds should be withdrawn by the end of July, while the rest have to be removed by the end of this month.
Money in SDAs has fallen to P1.48 trillion at the end of October since the new rules were introduced. The Bangko Sentral ng Pilipinas (BSP) has cut rates for SDAs by 200 basis points across all tenors to a record low of 2 percent, making these accounts less attractive for investors.
At the end of September, the country’s money supply was up 31 percent over year-ago levels. This was the highest growth rate seen in over a decade, with the expansion driven mainly by SDA withdrawals.
Standard Chartered said this should spur “further credit growth … as savings released from these accounts search for a new home.”
The bank said the surge in SDAs should also help lower the cost of deposits for local lenders, boosting their profits.
The bank was also optimistic over the prospects of the country’s business process outsourcing (BPO) sector, an industry that continues to exceed expectations that are already high.
In particular, Standard Chartered said Cebu, the oldest city in the country and the main business center in the Visayas, may emerge as a major hub for the BPO industry, given the abundance of talent and low rental rates for offices.
On average, Philippine software engineers, which are in demand today as the BPO sector shifts from promoting call centers to more complicated subcontracted services, are paid around one-tenth of the rate of their US counterparts per month, Standard Chartered said.
The bank said the average software engineer in the country receives a salary of $680 a month, versus the $6,000 for their American counterparts.
Likewise, prime office rents for BPO companies in Cebu, at $11 a square foot, are just over a tenth of those in Singapore at $75, and less than half of those in Makati at $23.
Standard Chartered noted that despite the devastation caused by Supertyphoon Yolanda earlier this month, the BPO industry in Cebu was unaffected.
The rise of Knowledge Process Outsourcing (KPO)—industry speak for higher-value outsourced services—has positive implications for wage growth, household and consumption, Standard Chartered said.
The Information Technology and Business Process Association of the Philippines (IBPAP) expects the industry to grow by at least 19 percent every year up to 2016.