PH Monday Macro: Does the PSEi have high-quality names?
Last month, the Philippine Stock Exchange (PSE) conducted its first bi-annual rebalancing of its PSE index (PSEi).
In order to be included in the benchmark, there are certain criteria a company has to meet, primarily based on the liquidity of the stock. However, just because the stock is included in this representation of the overall stock market, it does not necessarily mean investing in high-quality, high-return companies.
Today, we will look at whether or not investing in the index means investing in high-quality names.
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If the U.S. has the S&P 500 as its benchmark index that tracks the largest companies, the Philippines has the PSEi.
At least twice a year, the PSE undertakes a rebalancing of the PSEi to ensure these companies are maintaining a desired standard of performance that characterizes the overall stock market.
For a company to be selected, there are certain criteria that its stock must meet. Besides basic eligibility and specific features of their free float shares, liquidity of the stock is their primary assessment. Plainly, the stock must rank among the top 25% of median trading value.
However, the volume of buying and selling of a stock is not considered a barometer to measure company performance, and even more so, intrinsic value. As such, it does not capture the true performance of the company and may mislead investors into investing in stocks that are not always of high-quality.
Through the lenses of Uniform Accounting standards, we can examine the profitability, efficiency, and growth by calculating the return on assets of the company.
From the chart, we can see that over the years, the companies in the PSEi combined consistently returned positive figures. It is forecasted that this year, despite economic contraction concerns and slowdown woes in overall growth, the top 30 companies as a whole will return to pre-pandemic averages at 7% ROA for FY 2024.
Furthermore, as a result of the PSEi’s first rebalancing for the year, DMCI and UnionBank were added to the index, replacing Megaworld Corp. and Robinson Land Corp. The replacement was not due to the companies being expected to perform poorly, but rather because DMCI and UnionBank’s recent trade value exceeded the two.
Considering the more elevated level of volume of a stock is a gauge of its interest among traders and investors, we could say that in this special case, the volume represents the market. The market’s behavior is correct in pricing the stocks they trade the most, as DMC and UBP are projected to return higher profitability than MEG and RLC.
Yet, since the PSEi is an index, the high-performing companies will compensate for the low-performing ones. Among the stocks listed in the index, SM Prime Holdings is expected to return a negative ROA this year, while the other 29 companies are projected to all have positive returns.
The market may be correct in replacing the poor performers, but SMPH is estimated to perform worse than MEG and RLC in the next two FY. Sometimes, the market overstates some companies in the index and replaces companies that actually perform better.
Let’s see how the PSEi would perform with the newly listed companies. In the next PSEi rebalancing, we’ll show the actual performance of the index compared to its performance if the real lowest-performers were the ones replaced.
About the Philippine Markets Newsletter
“The Monday Macro Report”
When just about anyone can post just about anything online, it gets increasingly difficult for an individual investor to sift through the plethora of information available.
Investors need a tool that will help them cut through any biased or misleading information and dive straight into reliable and useful data.
Every Monday, we publish an interesting chart on the Philippine economy and stock market. We highlight data that investors would normally look at, but through the lens of Uniform Accounting, a powerful tool that gets investors closer to understanding the economic reality of firms.
Understanding what kind of market we are in, what leading indicators we should be looking at, and what market expectations are, will make investing a less monumental task than finding a needle in a haystack.
Hope you’ve found this week’s macro chart interesting and insightful.
Stay tuned for next week’s Monday Macro report!
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