WHAT DETERMINES THE LONG TERM STOCK PRICE TREND?
WHAT DETERMINES THE AMOUNT OF EARNINGS AND DIVIDEND OF A COMPANY?
Based on research carried out over very long periods of time (50 years and more) In the US and locally over a shorter period we now have an answer to the above question. It is now fairly clear that the earnings and dividend of the corporate sector increases at about the same rate as the increase in the nominal GNP of the country. The increase in earnings and dividend in turn draws up the price of shares in the market.
First, let us look at inflation. The history of inflation in this region has been one of long periods of price stability interspersed with periods of severe inflation. We can identify three distinct periods from the history of inflation in the last 30 years or so. Between 1960 and 1972, we experienced a period of very low inflation (1.5 per cent per year on average). The 10 years between 1973 and 1982 had been a time of very high inflation in Malaysia/Singapore. Even measured by the highly conservative Malaysian Treasury Index, the general price level of Malaysia went up by about 100 per cent during this period (about 7 per cent per year). Singapore had experienced a lower inflation rate overall (about 5 per cent) but much higher inflation in real estate prices. In specific areas, for example, housing and transportation, the inflation has been much worse (prices of houses increased by five~folds and the price of cars and motor~cycles more than tripled during this period). But since 1982, the world has been going through a disinflationary era and Malaysia/Singapore have not been exceptional in this respect. Between 1982 and 1988, the average annual rate of inflation in Malaysia/Singapore has been in the region of only 2 to 3 per cent. In certain areas which had previously experienced sharp inflation, deflation has actually taken place. This is particularly true of houses, office Space and plantation land.
Inflation can be a powerful cause of increase in corporate profit. Forty years ago, a first class hotel room in Singapore might have cost $350 a night. The rates are now 3 times or even as high or even more. We can imagine how this two-fold increase in price level has affected the profit of an older hotel company whose assets had been bought at a very much lower price than what is prevailing (e.g. Goodwood Park Hotel)‘ The inflation in land price has been even more drastic. Prime land in Singapore had gone up nearly 20 times in the last 40 years. Imagine how this inflation has affected the wealth of land-rich companies such as OCBC or Wearne Brothers. The inflation in commodity prices, partly caused by the enormous overall inflation induced by the increase in petroleum price, has contributed greatly to the increase in earnings of plantation companies.
What about the future? What sort of inflationary trend can we expect for the next ten years? A study of the economic history of the world shows that a period of high inflation is usually followed by a period of low inflation or even deflation. Indeed, the price trend of goods over the last five years (1983 to 1987) have shown all too clearly that history seems to be repeating itself. Current real estate prices, in both Malaysia and Singapore, in spite of the improvement experienced in the last two years, are still well down compared with the previous cyclical peaks. Prospects are that prices will continue to stagnate over the foreseeable future. All towns in Malaysia are suffering from a gross excess of office space. Hotel shortage in Penang and Singapore in the past has now become an enormous glut. Prices of major commodities when measured in terms of an average exchange rate have declined sharply and have stayed at relatively low level in spite of the sharp increase recorded in early 1988.
Increase in Productivity and the Use of New Resources
An increase in productivity leads to the production of a greater amount of goods from the same input. For example, over the last 40 years, the per acre output of Malaysian rubber estate has been increasing steadily at about three per cent per year. Over the long run, this had led to a huge increase in the output per acre of rubber land. Hence rubber companies have been able to get much higher revenue from the same amount of rubber land. By contrast, the rubber land in Indonesia has suffered a decline in yield and hence have not contributed much to the increase in the Indonesian GNP. New resources can also be brought into production to increase the income of the country. The best example is palm oil. Over the last 35 years or so, Malaysia has increased the quantity of palm oil produced by about three million tons. This has directly led to an increase in Malaysia’s GNP by some three billion ringgit (or about 4.3 per cent). The increase caused by thediscovery of petroleum off the East Cost of Peninsular Malaysia is even mote spectacular (about M$10 billion) though less noticeable to the laymen.