No matter what your financial goals are – whether you are investing for growth, income, or security – it is important to regularly review the state and financial health of your portfolio.
Because market conditions can change drastically over time, and when they do, your portfolio may need readjusting.
For example, if the economy is expected to contract, you might want to have more “defensive’’ investments in your portfolio, i.e. instruments that do not fall in value as much as “cyclical’’ investments, which tend to move in tandem with economic cycles.
Alternatively, if the economy is in expansion mode, then having more cyclical stocks might be preferable, since a cyclical upturn should lead to greater earnings and therefore better share price performance.
One way to take stock of your portfolio is through indicators that measure how markets and the economy are performing. This article will explore some of the more important of these indicators.
The Straits Times Index
The most commonly-used and recognisable benchmark for the local stock market is the Straits Times Index (STI). This is made up of 30 of the largest stocks that are weighted by their market capitalisation (price X number of shares in issue). The stocks are selected on the basis of their size (i.e. market capitalization) and trading activity – size in order to capture as large a proportion of the entire market as possible, and trading activity because this is taken as an indicator of where investor interest lies.
The capitalisation of the 30 STI components accounts for about two-thirds of the entire Singapore market, so when the index rises or falls, we say the market has risen or fallen.
There is another benchmark indicator for the Singapore market known as the Morgan Stanley Capital International (MSCI) Singapore Index that is constructed slightly differently to the STI as it also includes a few mid-sized companies, but has the same intention of tracking the performance of the entire market.
Indicators are available not just for the whole market but also individual sectors. For Singapore, there are indices to track movements in small and mid-sized companies, property stocks, the financial sector (including banks), oil and gas sector and so on.
Most of these are provided by index provider FTSE Russell in partnership with Singapore Press Holdings and the Singapore Exchange. For example, investors can look at the FTSE Maritime Index to track movements of marine sector stocks, whilst movements in the FTSE Catalist Index will track the performance of stocks listed on the exchange’s smaller board known as Catalist.
Every country has its own set of market indices. The main indicator for the Hong Kong stock market for example, is the Hang Seng Index; for Japan, it’s the Nikkei 225; and for the US, it’s both the Dow Jones Industrial Average and the S&P 500.
Other than enabling investors to measure the performance of the broad market or individual sectors, stock market indices are also used to gauge the performance of fund managers relative to the market's performance. For example, a unit trust manager invested in the Singapore market might have his returns measured against either the STI or the MSCI Singapore Index.
It is important to recognise that in order to extract the maximum informational benefit from market indicators like the STI, they have to be evaluated over a period, and not only at a particular point of time. This can range from a few months to several years, depending on the intended use of the information.
For example, if short-term trading is the intention, then perhaps the evaluation should be based on one or two quarters. In contrast, if you are buying to hold for the long term, then a period even exceeding say 10 years might be advisable.
To see this, consider that the STI might register a large loss in a particular month, thus giving the impression that stocks are risky and should be avoided. This was the case in May 2019 when the index fell 9.1%.
However, if the assessment period is extended further out, the picture might change – for instance, between early 2000 and May 2019, the index rose just under 60 per cent. Much therefore depends on the time frame of your investment horizon.
Economic indicators are statistics that allow us to judge the health of the economy. This is important because of the impact that economic growth has on corporate earnings, which is ultimately the main driver of stock prices. Indicators can be divided into three categories – leading indicators which are used for forecasting the future, lagging indicators that measure the past, and coincident indicators that are ongoing.
These are those indicators that usually change before the economy as a whole changes. For example, the stock market usually anticipates an economic expansion or contraction by anything from 6 months to one year. Another example is the Consumer Confidence Index or CCI which surveys consumers about their own expectations on where the economy is headed.
These indicators change after the economy changes, usually after a time lag of a few months. For example, the unemployment rate (which tends to improve or decline only after the economy has expanded or contracted), corporate profits, and exports. The most common of course, is Gross Domestic Product or GDP, which is the sum of an economy’s total output over a given period of time.
Coincident economic indicators change around the same time as when the economy changes, so they provide information on the current state. Payroll data for instance, can give an idea of employment patterns and labour skills that are in demand today.
Analysts usually look at all three types of indicators in order to see where an economy has been, where it might be now, and how it might be expected to change in the future.
Other useful indicators
There are several other indicators that could prove helpful. In looking at the economic outlook, the Purchasing Managers’ Index or PMI which gauges manufacturing activity, and the Consumer Price Index or CPI, which measures inflation, are commonly used.
At the industry level, analysts tend to look at averages to form the basis of comparison. For example, if the average industry level borrowing as a proportion of total assets is 40% and a company that is being studied from that industry has a figure of 50%, then that company does not compare well. It might therefore be a good idea to find out reasons for the difference.
Indicators can give investors a useful gauge of how the economy or stock market is doing and how this might impact your investments, though much depends on your personal circumstances, including your investment goals, risk appetite, and investment horizon. For example, a retired couple living on a combination of annuity payouts and long-term government bond interest income might realistically look for different things than a stock market trader who rides the waves of the business cycles.
This article was contributed by Mr R Sivanithy, a trainer with the MoneySense-Singapore Polytechnic Institute for Financial Literacy.