Is the PSE overheated?

From the facebook wall of Gus Cosio:


With the PSEi closing at 6,318.61, a lot of us may be asking -- has the market gone up too high too early? Are valuations stretched? Are we now waiting for the last sucker to buy all these shares from us?

I don't have the answers, but I have a few ideas to share. First of all, the equities market is not homogeneous, If you glean over the PSEi statistics for the day, they highlight the number of stocks that are up and the number of those that are down. In essence, the market assesses relative value on a constant basis. When a stock is expensive relative to the rest it gets sold. Alternatively, when it gets too cheap, hopefully it gets sold. Of course, there are stocks that are market favorites and consistently enjoy premium valuation by investors. My point, nevertheless, is that there is wisdom in managing a portfolio by assessing relative value.

Due to relative valuation, compared to what people get in fixed income investing nowadays, market participants are willing to accept higher valuations. P/E is a measure of how much capital a company needs to produce a dollar/peso of earnings. If you get the inverse of that ratio, you arrive at something akin to bond yield although not exactly alike in terms of pay-out. My point, however, is that ultra-low interest rates makes high P/Es tolerable due to the theory of alternative returns.

Finally, a lot of investors seem to be looking at long term prospects. Because of recently articulated views of well respected economists and analysts, a good number of influential investors are looking not just at 2013 earnings growth but also 2014. If they are correct and the underlying economy does grow as they expect, then valuations on Philippine stocks are not really that high.

What I would like to stress is that portfolio managers are probably not looking at quarterly returns on their Philippine portfolios. I think to them, what makes sense is returns over the next three years. There is a big game changer to this market and we ought to recognize it.