March 31, 2013

Investment Grade

After experiencing a swift and deep correction, the PSE Index closed the quarter strongly at a new all-
time high of 6,847, up 2.7% from the previous day’s close. Our market moved sharply higher because of
extremely positive surprise news. Last Wednesday, Fitch Ratings gave our country its first ever
investment grade rating. The debt watcher, which is one of the three major credit rating agencies,
upgraded our country’s credit rating to BBB- from BB+. In this light, we shall discuss why our stock
market bounced strongly after a vicious correction. Moreover, we shall talk about the implications of the
investment grade rating on our country’s economy and the local stock market.

The Comeback

We have always said that catching corrections is extremely difficult because there are many factors that
may trigger it (The Run-up, January 21, 2013). In last week’s article, we enumerated the events that
contributed to the most recent correction of the local stock market (The Cyprus Correction, March 25,
2013). Below, we enumerate the reasons behind the sharp bounce of our market.

1. SEC’s enlightened guidelines on foreign ownership. Last Monday, the SEC issued draft guidelines
for the computation of foreign ownership. It is apparent that the SEC is looking to implement an
enlightened version of the foreign ownership limit based on the dispositive portion of the latest
Supreme Court ruling. This has been a very encouraging signal to foreign investors who want to
enter the country or increase their exposure to the Philippine stock market. We view this as a
positive development that is just as important as the credit rating upgrade.
2. The Cyprus fix. Last Monday, Cyprus and European Union officials reached a compromise for the
former’s bailout. Moreover, last Thursday, Cypriot banks opened quietly and orderly. While the
long-term verdict for Cyprus is still out, its problem appears to be contained for now.
3. Window dressing. During the last days of the month or the quarter, some fund managers would
usually buy-up the top holdings of their funds. This boosts the performance of their funds in time for
month-end and quarter-end reporting. Last Wednesday, March 27, 2013, we saw some window
dressing because it was the last trading day of the month and the first quarter.
4. S&P 500’s new all-time high. Last Thursday, the S&P 500 Index closed at a new all-time high of
1,569. Even as the Dow and other US indexes have earlier established new highs, we think that last
Thursday’s milestone is more important because the S&P 500 is a broader index of US stocks.
5. The credit rating upgrade. Last but not the least, the credit rating upgrade from Fitch pushed our
stock market higher. The upgrade came earlier than expected because the market was expecting it
after the mid-term elections or in the second half of the year. We see this upgrade as a strong
positive catalyst that may push the PSE Index to convincingly breakout past the 6,800 level.

Breakout Nation

Last year, Ruchir Sharma, Head of Emerging Market Equities and Global Macro at Morgan Stanley
Investment Management, labeled the Philippines as a breakout nation. In a previous article, we

discussed why we think the country will continue performing strongly over the long-term (Secular Bull
Market, January 28, 2013). In that article, we enumerated the important elements and events that have
contributed to our country’s magnificent structural transformation. These were the same reasons that
Fitch cited when they justified our credit rating upgrade. The investment grade rating therefore
validates our main thesis that the country is currently in its strongest financial and economic position.

Strength Begets Strength

The much-coveted investment grade rating is a clear and formal signal to the international community.
The rating signifies that the country has a strong economy and should be considered a legitimate
investment destination. Bigger funds from strong countries, especially those who can only invest in
investment grade rated instruments, will now look to invest in the Philippines.

The credit rating upgrade will translate to an increase in the weighting of Philippine stocks in the equity
portfolios of international fund managers. This is an important catalyst that may further push our
multiples higher. Moreover, it will lead to an increase in the trading volume of our stock market. Aside
from these, we expect the upgrade to result to an increase in foreign direct investments (FDIs). Handled
correctly, the expected inflow of investments might be the last vital cog that will allow us to sustain
faster and stronger economic growth.

Virtuous Cycle of Growth

We believe that the country is in the midst of a virtuous cycle. This means that the country is in a
positive situation that is self-sustaining and self-reinforcing. It is already clear that our country’s resilient
economic growth and strong financial position warranted this upgrade. What has not been talked about
yet is how this investment grade rating will lead to tangible benefits that may further contribute to the
acceleration of the country’s economic growth. We enumerate some of these benefits below.

1. Lower borrowing costs. The direct beneficiary of the credit rating upgrade is the Philippine
government. It will allow the government to borrow at a cheaper rate from international or local
debt markets. Since borrowing rates are pegged against the government’s borrowing rates, we
expect borrowing costs of local corporates, small businesses and consumers to also go down.
2. More investments. Lower borrowing costs would generate savings and may encourage further
borrowing. This incremental cash would likely be funneled into investments. For the government, it
means that they can prioritize big-ticket items such as infrastructure spending or investments in
education. In addition, local corporates can undertake capital expenditures more aggressively so
that they can expand faster. Lastly, consumers would be more encouraged to invest in real property
and small businesses.
3. More jobs. We expect investment-driven growth to result to more jobs. Moreover, government
spending on infrastructure projects will likely lead to the development of our manufacturing and
tourism sectors. These are sectors that can generate significantly more jobs for our countrymen.
4. Higher income and more spending. A combination of lower borrowing costs and more jobs will lead
to higher earning power. This would then translate to more spending that will further boost
domestic consumption. Note that domestic consumption accounts for more than 70% of our

country’s GDP. As we have repeatedly said in previous articles, robust domestic consumption has
been the key underpinning of our country’s resilient economic growth.

Considering these, it appears that we are blessed with a tremendous, once-in-a-lifetime opportunity to
become a stronger and more prosperous nation.

Seize the Opportunity

We must be aware of the wonderful situation that we are in. To drive this point further, we look at India
and Russia, two countries which attained investment grade status in 2003-2004. In the five years
following their upgrades, both countries delivered average economic growth in excess of 7%. The same
thing could happen to our country if we work on making the most out of this opportunity.

We are fortunate that we have a government that is aware of its role. The government knows that there
is much to be done in order to sustain GDP growth of 5-6%. To achieve this, the government has to
jumpstart its ambitious infrastructure spending program. Moreover, it has to continue encouraging
investments from both foreign and local sources. Also, it should look to develop other sectors such as
manufacturing, tourism, agriculture and mining in order to further widen and diversify our economy.

Local corporates, on the other hand, should be bolder in pursuing investments. Focus should be given on
investments that will support a rapidly growing economy such as ours. Lastly, we should not
underestimate the contributions of our fellow Filipinos. Since we have already seen the kind of growth
that is possible with good governance, it is imperative that we elect public officials that will continue
implementing policies and reforms that will encourage sustainable and inclusive economic growth.

A Proud Moment for Filipinos

The investment grade rating is an important validation from a credible international institution. It is a
recognition of the hard work and contributions of the government, local corporates and Filipino citizens
in building a stronger and more progressive nation. It also validates what we have been saying about the
country’s structural growth story. We think that our growth story is one that will remain intact for many
years to come. As this unfolds, our stock market will continue to be a reflection of how the Philippine
economy performs. This is why we said that we are in a secular bull market. We firmly believe that we
are in a bull market that will last for many years or even decades.

As we celebrate this historic milestone, we would like to thank and congratulate our clients, investors
and readers who have followed our advice throughout the years. To those who have not yet invested in
our stock market, it is never too late. We encourage those who are underinvested or not invested in
Philippine stocks to use a portion of their passive cash or spare money to invest in the local stock
market. This is an opportunity of a generation that should not be wasted. Do not just be a witness – be a
part of this magnificent bull market.

For further stock market research and to view our previous articles, please visit our online trading
platform at or call 634-5038. Our archived articles can also be viewed at