PIFAAP Aug 6, 2010 Quarterly Special Interest Session

"Tracking the Markets"

Resource Speaker: Mr. Henry Herrera

            According to Henry, the changing financial and economic landscape has impacted the role of life insurance agents.  No longer just selling traditional insurance products for protection, life insurance agents have evolved to become Personal Financial Planners and Financial Advisors.  This development has been spurred with the introduction of variable insurance products or VUL. 

             Investment linked insurance products now give the life insurance industry the opportunity to grow and accelerate at a much faster and bigger pace.  Henry cited that the combined assets of all the life insurance companies do not even equal the assets of the 7^th largest bank in the Philippines.  The amount of deposits in the various banks total more than P3Trillion and it is this amount which the insurance industry should set its sight on.

Key Economic Indicators

             In 2009, only Poland and the Philippines posted positive GDP growth.  The US and all other EU economies contracted in 2009.  Economic growth in the Philippines generally outstripped Euroland's Big 15 and the US during the last 5 years.  Henry gave an important observation - the Philippines is on a different cycle from the US.

            Philippine media has the tendency to dwell on the negative and was particularly biased against the GMA administration.  Henry noted that what media says is not necessarily what is actually happening on the ground.  Contrast this to Bloomberg which highlights positive news and developments.

Citing some relevant 2009 statistics:

• RP deficit                   3.9% of GDP
• RP debt                      58.7% of GDP

These figures are better than:

• US deficit                   12.3% of GDP
• US debt                      98.1% of GDP

RP figures better than one of Euroland's Big 15:

• Germany deficit        3.5% of GDP
• Germany debt           73.1% of GDP

            Henry cited the BPO industry which will generate a lot of jobs for Filipinos.(Contrast this to the US which has lost 8,000,000 jobs over the last 2 years.) It is in our nature and our culture to be service-oriented.  This trait is an advantage and a major reason for the BPO expansion in the country.  On the otherhand, the Philippines does not attract capital-intensive manufacturing business largely due to unstable and unpredictable government direction which changes with the change of presidents.

Public Debt as % of GDP (Gross Financial Liabilities)

          Sourced by Henry from the website of OECD, the % of nominal GDP projected for 2011:           

• Japan with 200% debt ratio; followed by Greece and Italy
• US, France, UK and Portugal have debt ratios equalling their GDP

For unemployment rates, it seems that 10% is the threshold, beyond which red flags are raised.

• Greece, Ireland, Portugal and Spain (PIGS) all have unemployment rates of 10% or more.
• Compare this to the Philippines which had an unemployment rate of 7.3% in 2009 and has been on a downward trend since 2000 when it was 11%.

Summary on Fiscal Deficit and Sovereign Debt

              The Philippine fiscal deficit in 2009 stood at only 3.9% of GDP - among the lowest.  The Philippine debt ratio of 58.7% of GDP in 2009 - also among the lowest.

             The US with its massive bail-outs and massive stimulus, posted a fiscal deficit of 12% of GDP.  The US debt ratio stood at 98% of GDP in 2009.

             Fiscal deficits among EU countries ranged from 11% to 13% of GDP last year, except Poland.

             With the new administration of President Benigno Aquino Jr, there is a possibility that the Philippines may be given a ratings upgrade.  Henry mentioned this to highlight its effect on interest rates.  Movements of interest rates have an opposite effect on the stock market.

             To illustrate, the credit rating of the 10 year bond of Greece was downgraded from investment grade to junk.  This downgrade caused a spike in the interest rate from 4.4% in Oct 2009 to 12.4% in May 2010. Inversely, the Greece Equity Index dropped 50% from Oct 2009 to June 2010.

Equity Valuation

              Henry noted that PER of 18x in the US stock market given its conditions seems to be unreasonable.  It is Henry's view that this may go down to 9x.  We were shown a graph that tracked the US and Japanese stock market in the last 19 years, given certain parameters.  It appears that the US stock market is practically tracking the Japanese market in the last 19 years.  Japan stock market down 50% from 2010, moving forward.

             In another chart, Henry pointed out that despite 2009 being a recession year, all equity indices were up.  This was pointed out to highlight the difference between market cycles and economic cycles.  Markets are always forward looking and anticipate/discount future events.  It is ahead of the curve, compared to economic cycles.  The growth of the economy over the long term determines how markets will perform.

             In the local stock market, the current PER of 10.6x is near historic lows and presents a buying opportunity.  Henry shared his own rule -

GDP x 2.5 = growth in listed firms over the long term

           The Phil. Gov't. debt has generally been on a declining trend and much of this is due to the EVAT.  And, consider that the high ratings of our new president will likely have a long-term impact on the level of investment, including foreign direct investment.

           The down cycle of interest rates just started. According to Henry, this may last for the next 10 to 15 years.  Inflation has also remained generally low.  It is helpful to note that 90% of our GDP is consumption.  Local consumption is largely fuelled by OFW remittance.

           The PSEi doubled when  foreign buying came in 2005. Up to Jan 2009, the local equity market was generally dictated by foreign investors.  Since then however, the local equity market has been sustained largely by local investors.  Based on 1^st quarter report, the net earnings of listed firms was reported at 113%, more than double.  With an average growth of 5% over the last 12 years, the equity market has more upside potential as interest rates remain low.

           Henry is cautiously optimistic of the equity market but cites the following key threats:

• Fiscal slippage
• Double dip global recession
• Significant market downturn
• Commodity price spikes
• Impact of major calamity

Note: Before the start of the afternoon session, Henry stated that the presentation is based on his own research (with sources acknowledged) and opinions expressed are his and his alone.  It does not represent the view/s of any organization he is connected with.

Plaque of Appreciation presented to Henry Herrera after his talk last Aug 6, 2010 at the IIAP. PIFAAP Trustees include (from left) Joseph Janer, Joy Flores, Esphie Chong (Immediate Past Chair), Patti Sardalla, Nenette Alano (PIFAAP Chair), Sheila Dinoso and Boojie Lucila.