Equity research key to informed investors

Monday, May 12, 2008
The VN-Index has dropped from over 1,000 to just 500 within a few months. How could that happen?

The right question to ask may be: since, from January 2006 to early 2007, the VN-Index outperformed the regional index (MSCI Asia excluding Japan) by about 100%, is there any way to explain such a bullish market?

A market anomaly, most would say, and, unsurprisingly, it was corrected.

From outside Viet Nam, observers would probably put forward a contagion effect following the subprime crisis to explain the dramatic drop in the Vietnamese market. Vietnamese, however, know they also have to blame themselves. The next question is: how to turn this crisis into an opportunity?

It is true that foreign direct investment jumped by nearly 70% to $20 billion last year, but the 8.5% growth of the economy last year was essentially driven by domestic demand largely fed with a spur in lending. The price to pay today is inflation, calling for a tightening of monetary policy, and raising the issue of foreign exchange policy, to cool down an overheating economy.

A victim of its eagerness to grow and catch up with regional ASEAN partners,Viet Nam may now have to accept a short-term slowdown to remain on track for a brilliant future.

No need to insist on the importance of an efficient capital market to guarantee a proper allocation of funds within a growing economy, as a corollary when "madness" prevails – and most admit it was the case on the stock market in Viet Nam – the market does not fulfil this essential function. The broad, some would say anarchic, diversification of leading Vietnamese companies is a good example of misallocaltion of funds. The dramatic increase in the money supply not only boosted demand for goods and services, resulting in inflation, but also for financial assets, feeding a bubble – a kind of inflation in paper.

With easy money, local investors did not hesitate to borrow and speculate with the conviction of getting rich quick by buying shares and selling them soon after. A common practic which the Vietnamese seemed to have favoured, leading the VN-Index to unsustainable heights.

One other possible explanation for this "stock market fever" probably lies in Viet Nam’s well-developed IT skills and a natural enthusiasm for all the uses of IT. Numbers of online trading sites are now available, creating a sort of informal OTC market, allowing for quick decisions at any time... and quick profits.

Unfortunately, without proper regulatory oversight, this kind of environment is likely to become a realm of opportunistic behaviour in which information asymmetry and manipulations dominate. It reflects a lack of proper information available to investors due to a series of factors, such as the ambiguity of published financial information and a shortage of qualified auditors and financial analysts. In other words, due to a lack of it, the market creates its own information – rumours – that drive up prices and provide opportunities for speculative gains.

The stock market downturn is a good opportunity to put an end to that situation and take the necessary actions conducive to achieving the objective of efficiency. The remedies are well known: improved corporate governance, an appropriate regulatory framework, transparency. But, as far as transparency is concerned, providing investors with sufficient and reliable information is not enough. One also needs to reduce "bounded rationality" by enhancing the capacity of market players to analyze and use this information to take or recommend rational, well-documented decisions. So doing, one could expect stock prices to reflect corporate fundamentals rather than wishful thinking.

Equity research aims at providing this valuable information based on insightful analysis of market trends, industry prospects and performance of companies in comparison with their peer group in order to advise individual investors on the most efficient strategies. Today in Viet Nam, while the stock market faces the need to make a new start after a tough correction, building capacity in the field of equity research is essential.

Though evolving, equity research is based on a core of well-accepted concepts, models and tools that global financial institutions tend to disseminate through their networks of branches, subsidiaries and partnerships. However, when applied to emerging markets, one needs a domestic contribution to integrate all kinds of intangible elements that purely technical experts may not be able to identify. Providing adequate training programmes to meet this need for domestic expertise is therefore essential. (VNS)