SGX Upgrade to Buy: Target Price S$8, Passing the Earnings Trough

Based on STI going to 2,400 and 2010E ADT of S$1.68bn — 3Q09 profit of S$55.3m for Singapore Exchange (SGX) may mark its earnings trough for this cycle. On a 12m view of the STI going to 2,400, we raise 2010E average daily turnover (ADT) to S$1.68bn giving an S$8 target price (from S$4.7 on ADT of S$0.92bn), and raise 2009E-11E EPS estimates by 17-42%. Based on these new assumptions and target price we upgrade SGX to Buy from Sell.

Citi's new 12m-STI target 2,400 — Citi Singapore Strategist, Hak Bin Chua, has raised his 12m STI target to 2,400 (1.47x P/B, 0.5x s.d. below the post 1997 mean of 1.65x), viewing the 1Q09 flash GDP estimate of minus 11.5% yoy to be the quarter of worst contraction. Past market cycles suggest the STI "normalizes" toward mean P/B levels as expectations of recovery set in. An STI of 2,400 implies the Singapore market could pass S$530bncapitalization.

High beta play to STI recovery — Despite structural earnings improvements in derivatives/other revenues, SGX's key profit leverage remains equity ADT. It earns an estimated 8.8bps per S$ value of ADT, one of the highest among the global exchanges. Further leverage comes as turnover velocity increases as STI levels rise. Our study of past STI cycles shows that with one exception (post Sept-2001), every STI bull market recovered all (or more) of the prior bear market points loss.

Investment risks — Having rallied >50% in just over a month from its c.S$4 trough, we view SGX as susceptible to near-term price volatility and market corrections. A fundamental medium-term risk would be entry of a competitor exchange, which could materially impact SGX's equity pricing structure.

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