Stock Review: SIA

It has been a while since I last checked on SIA. This was my last review in Aug 2018 and I assessed that SIA's dividends were funded by debt, i.e. SIA borrows money from the bank to distribute to its shareholders. Another company whose dividends are debt funded is Starhub and their share price has only gone one way down. Side track: A quick way is to look at the metric dividend payout ratio. A ratio that is <100% means that dividends are paid out of profits. If it's >100%, then there are two possibilities, either they are paying the additional dividends from their cash balance, or they are paying from debt. Usually you need to read the financial report, compare the debt and cash balance to know which scenario is it.

SIA has grounded 96% of their flights to date. They need money to operate and I earlier estimated that they will run of cash in 2 months. There are two ways to raise money: borrow or you exchange paper for money aka print money. If you borrow, you have to return what you borrowed with interests. If you print, you don't have to return and you don't have to pay interest. So SIA obviously chose to print money. Who wouldn't right?

Link to the press release. Extracted key points below:

In a late announcement on Thursday, the airline said it is proposing a renounceable rights issue of up to 1.77 billion new shares at S$3 per share, on the basis of three rights shares for every two existing shares held by shareholders, to raise S$5.3 billion. The issue price represents a discount of about 53.8 per cent to the last transacted price of the S$6.50 on March 25. It added that the theoretical ex-rights price will be S$4.40.

SIA is also proposing to raise up to S$3.5 billion via a 10-year mandatory convertible bond (MCB) issue on the basis of 295 Rights MCBs for every 100 existing shares owned. The bonds, which come with zero coupon, will be priced at S$1 each. If not redeemed before the maturity date in 10 years, the MCBs will be converted to new shares based on a conversion price of S$4.84, which is a 10 per cent premium to the ex-rights theoretical price.

In addition, SIA will also be seeking approval to further issue up to S$6.2 billion of additional MCBs on similar terms and to be offered to shareholders via one or more rights issues down the line. This could take place within 15 months of being approved by shareholders.

SIA will be issuing rights (akin to printing money), 3 rights shares for every 2 shares you hold at $3/rights share. This means that the shares will be diluted, the existing shares will form 40% and the new shares from the rights issue will form 60%. Now maybe you receive $0.30 for every 1 share you own, but after the rights issue, because more people are sharing the pie, you will only get to eat $0.30 x 40% = $0.12/share.

What's peculiar about this rights issue is that they also have a convertible bond with no coupon (i.e. no interest). The catch is if SIA does not return the money, SIA will need to issue more shares. Based on SIA's past record, in a good year with $1B profit, they pay you $0.30/share of dividends. Assuming they continue to pay you $0.30/share, they will only have $650M left. They will need to save up $3.5B / 650M = 5.4 good years to return the money to shareholders. Temasek likely negotiated to give them 10 years to save it up. If a recession were to happen and SIA is unable to have a good year, assuming flights are 100% and profits are halved at $500M, SIA will need to presumably halve its dividend ($0.15/share), with $300M left. They will need to save up $3.5B / 300M = 11.7 years to return the money to shareholders. This means that over the next 10 years, SIA needs a few good years and no more flight grounding epidemics to be able to return $3.5B.

SIA is also seeking approval to have another $6.2B MCB on the same terms via one or more rights issues to shareholders within 15 months of approval, which means near term. This is scary. Returning $3.5B sounds like a mean feat. If they were to need $6.2B in the coming 15 months, redeeming $3.5B + $6.2B = $9.7B 10 years from now will be impossible because it means SIA needs 10 good years ($1B/year) and not pay out any dividend and no more similar epidemic (which is practically beyond control).

So the best case scenario is SIA returns all the $3.5B or $9.7B if they were to need the additional $6.2B within the next 15 months.

Current total shares = 1.19B
Total shares after 3-for-2 rights issue = 1.19B x 2.5 = 2.975B
Dilution effect = 1.19B/2.975B = 0.4

If SIA is unable to repay the $3.5B or $9.7B, all share holders who subscribed to the MCB will get more shares in SIA "295 Rights MCBs ($1 each) for every 100 existing shares owned, where rights are converted at $4.84/share".

Then the better case scenario, is where there is only $3.5B MCB.

Conversion of MCB to shares for $3.5B MCB = 3.5B / $4.84 = 0.723B shares
Total shares after $3.5B MCB conversion = 2.975B + 0.723B =  3.698B shares
Dilution effect = 1.19B/3.698B = 0.322

Worse case scenario, $9.7B MCB
Conversion of MCB to shares for $9.7B MCB = 9.7B / $4.84 = 2.004B shares
Total shares after $9.7B MCB conversion = 2.975B + 2.004B = 4.979B shares
Dilution effect = 1.19B/4.979B = 0.239

Worst case scenario: SIA becomes bankrupt.

How much do you have to pay as a shareholder to subscribe to all the rights and MCB?
If you own 1000 units of SIA now, you will be entitled to
- 1500 rights @$3 each
- 295/100 x 1000 = 2950 MCB rights @$1 each (converted to 610 shares)
Total cost to you = 1500x3+2950 = $7450 for 2110 shares, to prevent your 1000 units share dilution

If SIA draws from the additional $6.2B MCB, you will be entitled to another
- 295/100 x 2500 = 7375 MCB rights @$1 (converted to 1523 shares)
Total additional cost to you = $7450 + $7375 = $14825 for (2110+1523=3633 shares)

I don't know how many shareholders will subscribe to this. It sounds like an expensive investment to ensure SIA's survival.

Assuming SIA maintains its dividends of $0.30/share, here's how your investment will pan out if you spend or don't spend that $7450 (with the upper limit being $14825).

If you don't spend $7450 (or $14825),
Best case - MCB is fully redeemed, dividend will be $0.30 x 0.4 = $0.12/share
Worst case - $9.7B MCB is not redeemed, dividend will be $0.30 x 0.239 = $0.0717/share
If you bought SIA shares at a peak of $16 back in the good old days, your dividend yield will become 0.0717/16 = 0.4%
Or if you bought it at $11, your yield will be 0.0717/11 = 0.65%
of at $6, yield = 0.0717/6 = 1.2%
And this is assuming dividends are maintained. If dividends are slashed by half, then your yield will also be halved, which means... I think you know how to halve it.

If you spend $14825 (why I say this is because you either cut losses and don't spend anything or you spend to maintain your share)...
Best case = Worst case = you still get $0.30/share if dividends are maintained.
If you bought at $16, yield = 0.30/16 = 1.9%
If you bought at $11, yield = 0.30/11 = 2.7%
If you bought at $6, yield = 0.30/6 = 5%

If the yield is 2%, it means you have to hold 50 years to break even... 1% yield breaks even in 100 years!

Is there a way to still invest in SIA? Probably... Buy if prices fall to $3?
If I spend $3000 to buy 1000 units, subscribe to rights and MCB at $14825, and then pray hard that dividends are maintained at $0.30, for a yield of 10%. If dividends are halved, yields drop to 5%.

Or maybe sell and cut losses now and buy again at lower prices? Assuming after all the dilution, SIA is still a darling demanding a 2% yield, dividends maintained,
if 2% - $0.0717/share / 2% = $3.60/share
if 4% - $1.79/share
if 6% - $1.20/share

if dividends are halved,
2% - $1.80/share
4% - $0.90/share
6% - $0.60/share

So will I buy SIA? Not anytime in the near future.

If I happen to have SIA shares, which I don't, I will put my $14825 in a good REIT which will easily pay me more than what SIA can possibly pay me in the next 10 years. If I am lucky with a 10% yield, like the days AIMS REIT fell to $0.90/share (yield 11%), I may even get my capital back in 9 years, without having to hope that SIA redeems the MCBs.

Trend of Un-linked Covid-19 Cases

All the while, we have been able to trace the Covid-19 cases to patient 0. On 21 Mar, we had the first 6 un-linked cases so I started monitoring the numbers and reading up on how the numbers will grow for uncontrolled situations.

I tabulated the number of un-linked new Covid-19 local transmission cases, i.e. they didn't travel overseas (not import case), and they don't know anyone who was infected (known cases).

21/3 = 6

22/3 = 2

23/3 = 6

24/3 = 13

Total = 27 new unlinked cases

On 22/3, the government announced social distancing measures, such as leaving 1 metre spacing when queuing to order/pay/enter restaurant for food, cannot sit opposite a stranger at the hawker centre, etc. Singaporeans or Permanent Residents who travel despite advisories will have to pay the full unsubsidised cost of hospitalisation due to Covid-19. 80% of the new cases were imported cases, and there were still 1000 local travellers daily.

On 24/3, the government announced additional measures such as closure of tuition and enrichment centres, cinemas, night clubs, suspension of church/mosque services, limiting no more than 10 people seated together, etc. Penalties for people who did not comply with their Stay Home Notice (SHN) after returning from overseas became stiffer. There was also specific instruction for those returning from the UK and USA to serve SHN in hotels. There was even a recruitment advertisement for $10/hour temp workers to check on people who are required to serve SHN.  This is a sign of desperation. 

The Deputy Prime Minister Heng Swee Kiat scheduled a public address on 26/3 to announce budget measures to help businesses cope with these measures. Businesses really need the help.

Today, 25/3, the stock market rallied unexpectedly, so I decided to sell the Dairy Farm International Holdings (@$4.05) that I bought on 13/3 (@US$3.80) to lock in profit. There was also a US$0.145 dividend ex-dated 19/3, so a ~9% profit for 12 days sounded good.

As a whole, I expect more un-linked cases to be announced because these new cases -- students/young adults studying or working overseas (likely UK and USA) who are returning to Singapore because of advisories -- are not complying with SHN.

The virus levels are the highest in the first 7 days, and the most infectious. Symptoms are also milder in the first few days, such as a runny nose. To me, these jokers have been roaming about too much and because the spread doubles everyday and only becomes noticeable after 1 week, i.e. the jokers likely have been roaming since 14/3 (around the time UK was in a crisis), and then the cases was only confirmed on 21/3, in the meantime, the jokers continue to spread, and even if we try to trace and isolate, because of the exponential multiplication effect between 14/3 until today, I think we won't be able to catch up unless our contact tracers are also exponentially increasing, and I can reasonably expect 100 unlinked cases by this Sunday. Sad, but I think a lockdown is in the horizon.

I am still hugging on to my stocks and bracing for more volatility in the days ahead.

Market Observations - Mar 2020

I had been reading news, financial reports, and crunching numbers and I am jotting down some of my observations for my future analysis and reflections.

1. Institutional selling of bank stocks started in the week of 10 Feb. It's especially pronounced because of the consistent weekly selling. Institutional selling volume increased 4 times in the week of 9 Mar and the Straits Times Index (STI) constituents dominated the Top 10 list that week.

My hypothesis: Funds expected Singapore banks to have higher non-performing loans from airline and tourism sector because of the flight and tourist restrictions, so the selling started after the announcements on restrictions. Funds received (either start to receive or receive a lot more) withdrawal requests from 9 Mar and started cashing out stocks to meet clients' withdrawal requests.

2. 13 Mar Friday was the day the markets experienced their first -10% drop. I observed that the selling continued everyday, and prices continue to fall for the stocks in the STI. A few Real Estate Investment Trusts (REITs) fell a lot more than others, and these were those with lower volume, poorer asset quality or assets outside of Singapore.

My hypothesis: Singapore funds that copy the STI and Singapore REIT-20 index (S-REIT-20) were in high demand in the past few years, and a lot of money flowed in because of the touted higher returns with lower risk (because they are "blue-chip companies") compared with cash or fixed deposits. As a result, the funds buy these index constituents, driving up their prices (and valuations). As these plans were sold as flexible investment plans where customers can contribute a fixed sum monthly and withdraw/cash out anytime, it is very likely that many customers treated it as a high yield savings account, and decided to withdraw their money at one go when they saw the prices falling. These customers were unlikely to be retail investors who analyse and choose stocks from the stock market. I believe that all the REITs will minimally be sold to their book values. Beyond which, how low prices will go depends on the number of buyers.

3. There is a confluence of factors triggering the sell down. There is the oil price crash that impacts the oil companies, the commodities trading companies and subsequently the bank. There is the restriction on air travel that impacts airlines, cruise lines, airline-supporting industries such as tourism, hotels, airline food and logistics, and subsequently the bank. The banks bear the risks of companies being unable to repay their loans or becoming bankrupt. And there is what I call the index fund unwinding phenomenon because "investors" who supposedly were long-term investors decided that they prefer to hold cash.

My hypothesis: Airlines have been operating with thin margins. Singapore Airlines (SIA) margin is just 4.3% based on their 3rd quarter (ended 31 dec) financial report. Their cash balance will only last them about 2 months, and they will definitely end their year with a loss, although china flights were only grounded from Feb and europe flights in mid mar. Their 9 month profit is ~$500M, but their operating cost per quarter is $4B. Assuming grounded flights don't earn revenue and also don't incur expenses, there are other fixed costs such as non-flight crew staff cost, loan repayments, rental and a bunch of payments which I estimate to be ~$1B/quarter. SIA cannot afford to not collect revenue, and they don't have alternative revenue streams. Their alternate revenue streams are all airline-related and will all be impacted. I will avoid airlines and airline-related stocks until these companies announce their financial reports for the quarter ending on 31 mar.

I will also avoid oil-related companies for the time being because the oil price war is destructive.

I will buy REITs and companies that are not in the STI, if their valuations are attractive.

4. Risks factors. Banks will get hit really bad if they get a triple blow from bankruptcies from oil sector and airline sector and withdrawal of client investments from funds. Wealth management fees have been seeing double digit growths mostly because fees are charged as a percentage of the Assets Under Management (AUM). As the fund values are high, the fees will correspondingly be higher. At this point, I will avoid banks too until there is more certainty that there won't be an oil or airline company going bankrupt.

The phenomenon of investors cashing out should not be overlooked as well because the rate of cashing out in this market correction is a lot a lot a lot faster than previous corrections. At this point, we are only at about -30% from peak, and the cashing out phenomenon started from before -20%. Some reasons I can think of are the investors are not working (retirees who need cash for daily expenses), they have an upcoming condo down payment, they have a margin call on their shares financing account.

I see the need for cash for condo down payment as a risk that should be monitored. There is a huge pipeline of new launch condominiums due for completion in the next few years. These condos have also been sold at higher than market prices. There are a few scenarios that can play out:

- Buyers forfeit 25% of their 5% deposit (which is 1.25% of the purchase price) if they have just exercised the option but haven't completed the sale.

- Buyers want to proceed with the purchase, but they haven't sold their existing HDB flat or condo because the developers gave them more time to sell and will reissue the option at a later date. These buyers will have to sell if they want to avoid paying Additional Buyer Stamp Duty (ABSD) or 12% of purchase price. If they can't pay the ABSD or they can't sell, then they will have to forfeit their 1.25%.

- Buyers will sell their existing HDB flat or condo at lower prices because they are unable to sell at their asking price but they need the money for 20% down payment of the new condo. This can cause resale prices to fall.

- Developers may end up with more unsold units if buyers decided not to complete the sale despite paying the 5% to exercise the option earlier. Developers will have up to 2 years after completion to sell these units or have to pay 25% stamp duty on these unsold units. Developers may end up having to lower their prices.

Start of the Great Stock Sale

When I look back at how the events unfold, I can't help but wonder how coherent everything is.

In end Jan, after Singapore banned China visitors from entering after the Chinese New Year weekend, everybody was saying that our government over-reacted. The novel coronovirus COVID-19 was no where nearly as fatal as SARS, the number of cases were so few, and precaution measures seemed grossly exaggerated.

In Feb, a Permanent Resident (PR) who refused to comply with his Stay Home Notice (SHN) was stripped of his PR status. Companies that hired staff on Employment Pass (EP) had their EPs revoked when their staff failed to comply with SHN. Citizens who didn't comply with the SHN were also charged in court. All these were also deemed excessive by some observers. Some say that the virus is just like the flu and it will be mainstream.

In early Mar, new cases start to decrease and it seemed like the storm had blown over, but in a twist of fate, there were cases of COVID-19 in all major cities in the world. All of a sudden, every government was not responding like it was just like the flu; they were responding to it like it was an ultra contagious virus that needs to be contained. That made the whole world panic and chaos ensued. Saudi Arabia's suddenly declaration to Russia that they will increase oil production to bring down oil prices also added to the frenzy. This was manifested in a consecutive stock market fall over the week of 9 - 13 Mar. Oil prices also fell to the lows seen in the last oil crisis in 2015.

And suddenly, it seemed like the country that will stand to benefit the most is China? During their crisis, their government exercised their supreme powers to convert automobile factories into production plants for Personal Protect Equipment (PPE) due to supply shortages. Exports of PPEs by factories owned by foreigners were banned. This created a sudden shortage of supply for other countries outside of China. If that didn't make the other countries think of starting to produce PPEs themselves, and hoping that China will lift the ban for their PPEs to be shipped out, they would be in deep trouble now because they just became even more dependent on their factories in China. Now that there is a worldwide outbreak, China factories will be singing and their logistics sectors will be dancing with higher exports of PPEs. I stab guess that the automobile factories may even turn in a profit from PPE sales in place of their vehicles.

If I have to put a date to the start of the Great Stock Sale (GSS), it will be 11 Mar, because I consider -20% the first trigger. There was a slight rebound on 12 Mar, but 13 Mar had extremely thin volume, probably a fraction of a normal day and prices ended up being discounted 20-40% (from 1 month ago) across the board. As I usually buy when there is a GSS, I don't have a "plan" ready on hand, so when I had to decide how much to budget, I came up with a rough plan:

10 bullets, ~$5000 each, hit targets which are on my shopping list, are at historic lows and dividend yields are at least 5% based on lowest of past 10 years figures.

The companies in my watch list that hasn't fully meet the criteria are

- banks DBS, UOB, OCBC

- REITS CapitaCommercial Trust, CapitaMall Trust, Keppel REIT

- moats Singtel, ST Engineering, QAF, Wilmar, HongKong Land

- airline-related SATS, SIA, SIA Engineering 

- conglomerates Keppel Corp, JMH

As there were so many stocks that I am interested in, I had to be very selective with how many bullets to use so this was how I used them:
- 6/3 (STI 3000 pts)

- 11/3 (STI 2800 pts) Bought Haw Par $11.10

- 13/3 (STI 2600 pts) Bought AIMS REIT $1.20

- 13/3 (STI 2600 pts) Bought SPH REIT $0.88

- 13/3 (STI 2600 pts) Bought Dairy Farm US$3.80

- 16/3 (STI 2500 pts) Bought AIMS REIT $1.15
- 19/3 (STI 2300 pts) Bought SPH REIT $0.70
-25/3 (STI 2500 pts) Sold Dairy Farm US$4.05

Haw Par and Dairy Farm didn't meet the dividend yield criteria, but they were my first positions, so I decided to take a gamble. Haw Par has good cash flow. Dairy Farm has good assets. And because I used 2 bullets, I gave Singtel a miss because I already have quite a lot of it, although it met the criteria.

I thought that if I used 1 bullet every 100 point drop of the STI index as a rough gauge of how low the tide can go, the index would be about 2000 points by the time I am done with 10 bullets, and then I will load another 10 bullets to buy the 3 banks at prices closer to the previous 2015 lows.

From past observations, it takes at least 3 years for prices to climb up, so I am swaying to be a little bit heavier on REITS to boost my base portfolio yield which had stagnated over the past few years.

[Edited to capture the transactions from 19/3]

Book Review: The Greatest Trade Ever

The Greatest Trade Ever - The Behind-the-Scenes Story of How John Paulson Defied Wall Street and Made Financial History by Gregory Zuckerman

John Paulson was one of the traders who researched the US subprime mortgage loans and believed that those loans will default one day. He bet on fall of the ABX subprime mortgage loan index. The symptoms that pointed to a bubble were
- low interest rates
- shady practices where income documents were neither required nor verified; even your dog can buy a house
- property prices rising much faster than income
- optimism that the government will never make millions of citizens become homeless
- risky (high risk of default) derivative securities bundled with safe securities, and passed off as safe securities rated AA when they shouldn't be
- subprime mortgage lenders issuing more loans than mainstream banks

The bankruptcy of New Century Financial Corporation, a subprime mortgage lender in Apr 2007 was the start of the financial crisis. After making his money from the ABX index fall, he shifted his bets to buying securities that bet against bank collapses because the the cost was a lot lower that shorting bank stocks directly, and banks were insufficiently insured with capital to withstand any sudden drop in valuation of their riskier asset loans. The symptoms were:
- banks holding lower rated mortgage bonds
- banks selling insurance that they had no means to payout
- banks not having sufficient cash to withstand a bank run

In Sep 2008, a mass exodus of clients led Lehman Brothers into bankruptcy. That was the drop of water that broke the vase. They had been suffering losses from their subprime mortgage loans but apparently there were cover-ups to shield these numbers.

This book is a good reminder to watch where complacency is the greatest.

Book Review: Unshakeable

Unshakeable - Your Financial Freedom Playbook by Tony Robbins

I had seen advertisements selling seminars by Tony Robbins with raving testimonials about how their lives had been transformed. I decided to tune in to this audiobook which had 2 chapters read by Tony Robbins himself.

He speaks with high energy and that is a big ingredient to being a successful trainer. Fortunately for him, he joked that a tumour he found in his brain, which he decided not to touch, may be his secret source of unlimited energy.

All we need is just 10% of his readers to be charged up by him, to start investing in the stock market monthly, and we are set to drive the markets higher and higher (into a bubble). And like self-fulfilling prophecy, these 10% will feel more charged up as their stocks rise in value, because they felt that they took charge of their financial lives, and continue to promote the "wisdom" of monthly investments, adding to the bubble.

If there is anything that I learnt, it's that the stock market is filled with money that is brainlessly injected (in faith) monthly because of all the literature about how the Dollar-Cost-Averaging (DCA) strategy works. My only hope is that people acknowledge survivorship bias, and that while DCA may work, what DCA is applied to matters a lot more.

We need speakers like him to dispel covid-19 panic and ensure that the DCA believers support the economy at large.

Book Review: The Man Who Solved the Market

The Man Who Solved the Market - How Jim Simons Launched the Quant Revolution by Gregory Zuckerman

Jim Simons was a mathematician who became a quantitative investor. The book described how he wanted to derive patterns from the stock market, like a mathematical model. Unfortunately, there was no mathematical model to reproduce the stock market movements, but he managed to find some patterns in trades that have a short duration.

There were a few things mentioned which I think contributed to his success:
- He was lucky. He had many failed trades before he got lucky. \
- He had access to a lot more resources (i.e. money) which gave him an edge over other traders. He earned above average salary before he became a trader. He had access to computers, software engineers, long before computers became mainstream. This allowed him to analyse data faster and more accurately than others.
- He also bought data from other financial institutions, to add more dimensions to his data analysis. - The pattern he followed was to follow where the action is, i.e. when a stock has a lot more buying/selling action than normal, it means that there is something to follow.
- As his fund became bigger, his trades have substantial volume to move the markets, which in turn creates signals that other traders pick up and follow, and just nice, that allows him to offload his trades and take profit.

After reading this book, I am more convinced that having money, and a lot of it, gives you an edge in knowledge, resources, wealth and in turn, more wealth. Trend following only works when you are setting the trend, not following it.