As central banks tighten, investors should be as selective in Singapore as anywhere else

INFLATION was a big market theme this past week, with global investors and Singapore’s economic policymakers behaving in unexpected ways.

First, there was the strange market reaction to economic data in the United States that suggested inflation is not abating fast enough to forestall a fourth consecutive 75-basis-point hike in the US federal funds rate next month.

The US consumer price index for September showed headline inflation running at 8.2 per cent – versus 8.3 per cent in August, and 8.5 per cent in July. Excluding the volatile energy and food segments, the US CPI for September was up 6.6 per cent over the previous 12 months, compared with 6.3 per cent in August and 5.9 per cent in July.

The S&P 500 index opened more than 1.5 per cent lower on Oct 13 in reaction to these inflation numbers. But within a couple of hours, the benchmark index was rallying strongly. It ended the day at 3,669.91, or some 2.8 per cent higher than the previous close.

The S&P 500 gave back most of those gains the following day. But it still ended the week at 3,583.07, which was nearly 0.2 per cent above where it was before the inflation report.

Then, there was the much-anticipated monetary policy statement in Singapore.

Last Friday (Oct 14), the Monetary Authority of Singapore (MAS) said that it would re-centre the mid-point of its Singapore dollar policy band to contain inflationary pressures. MAS did not, however, steepen the slope or increase the width of the policy band, as some market watchers were anticipating.

This less-hawkish-than-expected stance does not appear to reflect any optimism about inflation abating.

MAS said that “core inflation” – which excludes accommodation and private transport – was running at 4.9 per cent in July and August, up from 3.8 per cent in the second quarter. It expects core inflation to remain elevated over the next few quarters, fuelled by imported inflation and a tight labour market.

MAS is projecting core inflation of 4 per cent for 2022, and headline inflation of 6 per cent. For 2023, taking into account the anticipated GST hike, MAS sees core inflation and headline inflation coming in at 3.5-4.5 per cent and 5.5-6.5 per cent, respectively.

MAS added that these forecasts might prove low in the event of fresh global commodity price shocks or “second-round effects” of prolonged high inflation.

So, why did MAS only re-centre the mid-point of the Singapore dollar policy band? Why did it not also steepen its slope?

Growth, inflation risks

Much like the US, Singapore has enjoyed a strong post-pandemic rebound.

Despite repeated rounds of monetary policy tightening, strong demand for labour has pushed Singapore’s unemployment rate down to six-year lows. Residential property prices and rents have also been surging. And, there is a general sense of exuberance on the ground.

Last week, the Ministry of Trade and Industry said that the Singapore economy expanded 1.5 per cent quarter on quarter in Q3 2022, based on “advance estimates”. This marked a turnaround from the 0.2 per cent contraction recorded in the second quarter of 2022.

On a year-on-year basis, growth in Q3 2022 came in at 4.4 per cent versus 4.5 per cent in Q2 2022.

But the Singapore economy is not firing on all cylinders.

MAS noted in its monetary policy statement that the economic expansion in Q3 2022 was driven by domestic-oriented and travel-related sectors as Covid-19 restrictions were lifted. On the other hand, softening external demand weighed on the manufacturing and financial services sectors.

Looking ahead, slowing global economic activity in the face of a “synchronised tightening” of monetary policy is further clouding the outlook for the Singapore economy – particularly, its manufacturing and trade-related sectors.

This weakness is all the more worrying against the backdrop of elevated inflation in 2023 that MAS is forecasting. While MAS is being careful to not over-tighten monetary policy in case economic growth turns out to be weaker than expected, a surge in inflation might well force its hand.

Be careful with stocks

So, what does all this mean for investors?

With the S&P 500 already down 24.8 per cent this year, some investors might be eager to jump in. My own view is that it is probably too early.

This column has previously noted that bear markets tend to end when central banks begin loosening monetary policy. And, the Fed seems to be a long way from that inflection point at the moment.

The Singapore market has held up relatively well in the face of tightening monetary policy around the world, though. Since the beginning of this year, the Straits Times Index (STI) has declined only 2.7 per cent.

Some analysts also expect rising interest rates to boost the profitability of the three local banks, DBS, OCBC and UOB, which account for nearly half the STI.

So, is the Singapore market a good place to seek refuge? The way I see it, the local market’s recent resilience is less an indication of investor enthusiasm and more a reflection of its long-term underperformance and depressed valuations.

The STI is trading at just 11.4 times earnings and 1.03 times book value, according to Bloomberg data.

While this might put a floor under the Singapore market in the short term, it does not necessarily mean Singapore stocks will outperform when monetary policy is eventually loosened.

As for the banks, the positive impact of rising interest rates on their net interest margins is only half the story. Slowing economic growth could also see these financial institutions turn more prudent in making provisions for bad loans and parsimonious in paying out dividends.

Despite the recent resilience of the STI, investors should probably be just as selective in the Singapore market as they would be in any other equity market.

More to the point, the fight to contain inflation has resulted in returns offered by cash and bonds becoming more attractive in recent months. Investors should realise there is now less reason to venture into the relatively risky stock market except in pursuit of specific, compelling opportunities.