Understanding And Using The STI

Foreword from ShareInvestor

This article “Understanding And Using The STI” by Cai HaoXiang was first published in The Business Times on 28 Jan 2013 and is reproduced in this blog in its entirety.

The Straits Times Index is a gauge of investor confidence and a benchmark to compare other products with, and to invest in, reports Cai HaoXiang

Newspapers typically mention stock-market indices when recounting dramatic events shaking the financial world. Black Monday, or Oct 19, 1987, is one such example. The Wall Street Journal reported the next day: “The stock market crashed yesterday. The Dow Jones Industrial Average plummeted an astonishing 508 points, or 22.6 per cent, to 1738.74.”

Over in Singapore, a front-page Straits Times article on Oct 21, 1987, noted that the Singapore stock market “suffered its worst single-day plunge of 261.78 points”. It said: “The plunge beat Monday’s record fall of 169.14 points and the market finished at 961.50, the lowest level since Jan 28.”

Now, the Straits Times Index (STI) is used as a benchmark for the Singapore stock market. It closed at 3269.31 points last Friday. It is a household name that has come a long way from its beginnings as an industrials index compiled by The Straits Times in 1958, which became the Straits Times Industrial Index in 1966 before it was revamped to become the STI in 1998.

But what do the numbers on the STI mean? What is it used for, and why? What exactly is in it?

More importantly, how can an investor use it to make money?

A Basket By Any Other Name. . .

The STI was created by Singapore Press Holdings (SPH) and is managed by SPH, Singapore Exchange and FTSE Group.

Some 30 stocks make up the index. They represent the most liquid stocks with the largest market value in Singapore, across various sectors. This makes the index reasonably well diversified and an accurate reflection of changes in market value in Singapore stocks across all sectors.

The index is value-weighted. If the price of a component stock changes and causes the overall market value of the 30 stocks to go up by one per cent, the index will go up by one per cent.

Investors can use the STI in three ways.

Firstly, the STI is used to gauge the mood of the Singapore stock market.

If the STI hits a five-year low, investors can read this as a lack of confidence in the market about companies’ prospects, such that the last time confidence was so low was five years ago. This could arise due to a global economic downturn given the open nature of Singapore’s economy.

A contrarian investor might decide that the market cannot fall much further. Other valuation ratios such as price-to-earnings ratios and price-to-book ratios can be used to find cheap but fundamentally sound stocks to buy.

If the STI hits a five-year high, it means that the market is at its most optimistic, in the last five years, about the earnings of companies increasing more in the future. It thus prices companies at a higher market valuation. Again, this might be a signal for an investor to take some profit.

Secondly, the STI is used as a benchmark for the performance of other financial products or other asset classes.

For example, the STI returned 19.7 per cent last year. This means that an investor putting his money into a similar basket of stocks as the STI at end-2011 would see the value of his stocks up 19.7 per cent at end-2012, not including dividend payments.

One can look at the performance of one’s portfolio of stocks last year to see if one managed to beat the market thus.

An investor who put his money in other assets such as gold or property, or other financial products such as a mutual fund or investment-linked insurance plan, might also want to compare its annual performance with the performance of the STI to see if he made the right investment decisions.

The STI returned an average of 9.3 per cent a year in the last 10 years from end-2002 to end-2012, noted an SGX My Gateway report recently. It also said that the Urban Redevelopment Authority Property Price Index, a benchmark for property prices here, returned 6.3 per cent a year in the same period – thus the STI has outperformed property in this case.

Meanwhile, according to Bloomberg, SPDR Gold Trust, a gold fund that is a benchmark for gold prices, returned 6.6 per cent last year and 17.8 per cent a year from end-2004, when it was introduced, to end-2012.

Fund managers that beat the return of the index they are benchmarked to are highly sought after for their ability to outperform the market.

The performance of the Singapore market can also be compared to markets elsewhere. For example, in 2012, London’s FTSE 100 returned 5.8 per cent. America’s Dow Jones Industrial Average returned 7.3 per cent. The S&P 500 returned 13.4 per cent. Hong Kong’s Hang Seng Index and Japan’s Nikkei 225 returned 22.9 per cent. India’s Nifty returned 27.7 per cent. And Germany’s DAX returned 29.1 per cent.

Finally, one can invest in the STI itself through an exchange-traded fund (ETF) to get the benefits of investing in a diversified portfolio of large-capitalisation stocks.

The first fund that started tracking the STI here is called the SPDR Straits Times Index ETF. It is managed by State Street Global Advisors and traded like a stock on the SGX.

This can be an effective way of buying into a market without having to deal with the risks of holding on to a particular stock.

If the investor expects a temporary downtrend but does not know how long the trend will last, one strategy is to buy into an index ETF at regular intervals, and more during bigger price falls. This is known as dollar cost averaging and lowers the cost per share in the investment.

According to Bloomberg, buying the STI ETF at end-2002 (a relatively low point in the market) and selling it at end-2012 (a relatively high point) would have resulted in a profit of 129 per cent, or a gain of 8.6 per cent a year. If dividends are reinvested, the total return goes up to 208 per cent, or 11.9 per cent a year.

Investing in ETFs that passively track indexes is also popular due to their low costs. For example, the STI ETF has an annual management fee of 0.3 per cent of net assets.

By contrast, unit trusts, otherwise known as mutual funds, can charge 0.5 per cent to 2.25 per cent annually in addition to a 5 per cent upfront sales charge.

Hedge funds, typically an investment instrument used by high net worth individuals, typically charge a fee of 2 per cent of assets under management a year, with a performance fee of 20 per cent of profits above a set level.

What Is In The STI?

Investors who want to actively invest in the biggest stocks here can also look at each of the 30 stocks making up the STI.

Several groupings can be found. The first group is conglomerates. The Jardine group of stocks – Jardine Matheson, Jardine Cycle & Carriage, Jardine Strategic Holdings and Hongkong Land Holdings – have interests in property, motor vehicles, insurance, retail, and hotel businesses. These four stocks are STI components.

There are two other conglomerates beyond the Jardine stable. Keppel is involved in the offshore and marine, engineering, logistics and data, and property business. Fraser & Neave has property, food and beverage and publishing businesses.

Property counters also have a heavy presence on the STI. They comprise developers CapitaLand and City Developments, mall owner CapitaMalls Asia, real estate investment trust CapitaMall Trust and logistics property play Global Logistic Properties.

The three local banks – DBS, UOB and OCBC – are also represented.

SingTel and StarHub represent telecommunications companies.

Sembcorp Industries, which primarily operates power plants and water plants, and its shipyard-owning, rigbuilding subsidiary Sembcorp Marine, are both on the STI.

Commodity plays on the STI are Wilmar International, Olam International, Noble Group and Golden Agri-Resources.

Transportation stocks there are carrier Singapore Airlines and taxi, bus and car rental group ComfortDelGro.

There is Asia’s biggest hospital operator IHH Healthcare, which was 2012’s largest new listing.

Media group Singapore Press Holdings, Singapore Exchange, aircraft maintenance firm SIA Engineering, defence and engineering group ST Engineering and casino operator Genting Singapore round up the remaining stocks.

The composition of the index gets revised regularly. Reviews are done every three months, with the latest on Dec 13 last year. The last change to the stocks that made up the STI was last September, when shipper Neptune Orient Lines was replaced by IHH Healthcare.

Five stocks are on the STI reserve list in case any STI constituent becomes ineligible as a result of corporate actions before the next review. The five are Hutchison Port Holdings Trust, Keppel Land, Ascendas Real Estate Investment Trust, CapitaCommercial Trust and UOL Group.