Some nine months have passed since this interview was done and subsequently published in Pulses magazine. You could have made lots of money on the insights that Dr David Lee shared in January 2009.


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Dr David Lee, MD, Ferrell Asset Management. Photo courtesy of Ferrell

Back in the 1990s when I first got to know him, Dr David Lee regularly offered the media his critique of the Certificate of Entitlement (COE) system, which Singapore was introducing to manage the growth of the vehicle population.

He was then a lecturer in the Department of Business Policy at the National University of Singapore, and one of the most vocal academics when it came to the COE system.

After Dr Lee left the university, he went into stock broking and was managing director of Fraser Asset Management prior to founding Ferrell Asset Management.

In 2006, he became group managing director of Auric Pacific, a listed food manufacturer and retailer, but left in the same year to take up the CEO post at Overseas Union Enterprise (OUE), a listed hotel manager and property owner with interests in property development and investments.

He left OUE in October 2007 to focus on asset management at Ferrell. He has many former university colleagues who now work in the fund management business but Dr Lee, 47, is probably the only one who founded a fund management business.

This is a hedge fund which started life in 1999 and along the way acquired enough expertise and property professionals to invest and manage and develop property.

My latest encounter with him was at the show suite of Ferrell Residences (pic below) in Bukit Timah where he had suggested we meet for this article and where his company is going to develop a 24-storey condominium. This maiden project is now being marketed in countries such as Taiwan.

Reflecting on business life, Dr Lee said: “It is just as challenging as doing original academic research which interests me a lot, but running a business needs more energy, courage and perseverance.”

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Artist's impression of Ferrell Residences. Courtesy of Ferrell.
 


He spends most of his time managing long short equity and maro hedge funds with his analysts and quants. He is also supported by an experienced real estate team headed by Executive Director Jeanna Chan.

With a staff strength of 18 and assets of $900 million, Ferrell Asset Management started investing in real estate in 2004, and has reaped good dividends over the past four years.

“The risks of investing in real estate are lower in Singapore than in other countries for three reasons,” said Dr Lee.

“First, it is the uniqueness of the Singapore administration. We have pro-business and no-nonsense property construction regulation administered by efficient civil servants. Property management is executed by well-qualified real estate professionals.

“Second, there is low probability of natural disaster and pollution. Third, good economic and immigration policies ensure that foreign demand increases gradually over the long run.”

He is looking beyond the current economic gloom. 
“To us, Singapore property prices are still cheap relative to Hong Kong and Japan. Furthermore, Singapore has just begun its transformation from a local “no hope and boring” city to a “forward-looking and interesting” global city. At the moment, it is just unfashionable to say these positive things and more fashionable to focus on the negative environment.”

He continued: “In economics and finance, you can think of the swing of the pendulum. When experts and leaders are doing something about a crisis, when they know what’s going on, things will swing the other way eventually. It’s not like the end of the world or as though we are suffering from an incurable illness.”

What were the events that led you to found Ferrell in 1999?

Dr Lee: In 1999, we were in the midst of the Asian financial crisis and most of my stock broking clients were holding cash. I realized that being able to short was important not only to hedge but to generate returns for my clients. So, I set up an office in The Exchange (now the Quadrant) with two backroom staff and US$3 million to manage. My clients were mainly Chinese speaking, and they were mostly my friends and relatives in Singapore and Taiwan. I later expanded my client base and businesses in other parts of Asia. Being bilingual and having a good understanding of Chinese culture remain the strength of Ferrell today.


What have you been doing of late in the market?


Dr Lee: 
We have been searching for businesses that have good cash reserves, cash flows and management that aligns its interest with shareholders. We have narrowed down a list of companies. We think that this is a once-in-a-life time chance to buy at almost giveaway prices a portfolio of companies that have very strong management and cash flows. These companies are going to give us cash flows for many years to come and we may not want to sell them for a long time.

What have you been advising your clients of late?

Dr Lee: 
We have been advising those with long investment horizons and spare cash to increase their exposure to risky assets, no matter how implausible it sounds right now.

What stocks have been big winners for you in recent years?

Dr Lee:
These are companies with low or no debt, good cashflow, good dividends, and good management, especially those in the business of making electronic components.

What have been not-so-great buys?

Dr Lee: 
Insurance companies have been a disappointment.  Even though they have been giving good dividends and could be transparent, they remain under-performers for us relative to other holdings. But, given an opportunity, it would be ideal to be the single largest shareholder of an insurance company or to own one for the regular cash inflows.

The majority of the funds that Ferrell manages are in residential and commercial property in Singapore. What do you say about how prices have gone south in the past year?

Dr Lee: Prices have been hit by the current panic and deleveraging in the financial market. One main reason is that the perceived re-financing risk is high, brought about by lower capitalization of the banks and lower valuation of the properties.

But so far the transacted volume of properties is low, signaling that sellers are not forced to sell at the current price and buyers are patiently waiting to buy. The majority of the buyers in this cycle are institutions with longer investment horizon and cash, as compared to the last cycle when the buyers were mainly retail investors and local listed entities.

Furthermore, the Singapore Government and developers have learnt lessons from the previous crisis. Major developers are in better financial positions than in the last cycle and are sitting on good cash positions. I see a short-term correction in the prices because of fear rather than a collapse in demand.

What is your take on the near-term outlook for Singapore property?

Dr Lee: 
Given the negative sentiments, transactions will be low for the physical property market in the near term. However, we would not see much downside for property prices from the current level as prices have already fallen 30-40 per cent for prime properties in less than a few months. The causes are many: fear of defaults in the Deferred Payment Scheme, perceived high unemployment rates, and massive outflows of businesses and its employees from Singapore.

We are getting very close to the asking prices at the beginning of the last cycle in 2004 and that is precisely the reason why transactions are low.
Take the office REIT sector as an example: stock prices are factoring a total collapse of the sector with a very low probability of re-financing. The current valuation of some office REITs is not rational as it implies that the Singapore economy is close to a collapse with the banks and creditors owning most of the empty buildings in the central business district.

Sure, there will be more bankruptcies, unemployment and deterioration of the real economy in 2009. Bearish it may be, but when you have more than a 5-10 per cent depreciation of the SGD against the USD, a fall of 30-40 per cent from the peak for the high-end residential market, a fall of 70 per cent in prices for some REITs and close to physical replacement value, you have to take notice if you are a long term investor with a portfolio denominated in USD.

I would never say the same of properties in some big cities of US or even London, which have enjoyed a long persistent uptrend above GDP growth for equivalent to two Singapore cycles, and have only just started to revert to its mean. But prices of Singapore physical property and property stocks have dropped to a level beyond what a recession calls for and have been below growth trend for some time. It does not help that most businesses and their owners are affected adversely by their more recent experiences of shrinking wealth, deleveraging, and difficulties in obtaining financing, loans and new equity.

What is the difference between the last and this downturn for properties?

Dr Lee: 
In the last downturn, most local listed companies were going regional and were hit badly when the Asian crisis came. At the same time, most SMEs bought their land and factories at sky-high prices. These two factors, together with the SARS outbreak, caused property prices to tank and led to foreclosures.

Given the personal guarantees of the SME bosses to banks, it was not surprising that their residential properties were repossessed when the SMEs went bankrupt. We saw the tax incentives and pro-business stance of the government during the crisis, and we saw cash flow back to these companies when the REITs were first listed in 2002.

Ferrell was first in the game with a private REIT to own 78 Shenton Way. Since then, cash flows to major developers and SMEs have been improving with every purchase by REITs. The ownership of many properties is now partially or fully transferred to institutional investors. 

Singapore is a leading REIT centre and if the problems of re-financing and mark-to-market valuation cause a single well-managed REIT to collapse, it could potentially be disastrous to our reputation. If the collapse is a system failure, and not a mis-management issue, appropriate policy response is needed.

Otherwise, this failure will be a Lehman for Singapore and there will be major repercussion for Singapore as a financial centre. Given that valuations are so low now, we are already seeing REITs and management companies changing hands. Smart investors are betting that a collapse is not imminent.

At the same time, if one were an international investor, Singapore is a place that one must have exposure. China and Singapore remain the two countries in Asia favoured by long-term investors given our high saving rates and well managed economy. Singapore remains one of the most livable countries in the world as it has open arm policies for foreigners and businesses.

Externally, with the expansionary policy of China, Singapore will benefit substantially from the spillover, no matter how small and we do not need much. Singapore is a global city now and net immigration outflow, as compared to last crisis, will be less severe. After all, Singapore is a “tiny little” place and as long as the two Integrated Resorts are on track, we will not be impacted as badly as before.

Valuation-wise, property prices and REITs remain attractive. We are constantly seeking to raise funds from long-term investors, especially pension funds and family offices, in order to take advantage of this downturn. Given that the wealth in the “private” sector has shrunk, more ownership of properties will shift into the hands of sovereign wealth and long-term funds for this new “public” cycle.

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MAP's office in UOB Plaza. NextInsight file photo.
 

You are also non-executive chairman of MAP Technology and have been buying the stock aggressively. Is that your fund’s biggest single stock holding?

Dr Lee: It is not our policy to comment on individual stocks but I can say that MAP is one of our top three holdings.

MAP Technology will be cash-rich soon after divesting a subsidiary. Can you elaborate on your emphasis on cash-rich companies and Singapore properties for the long term?

Dr Lee: 
There are two asset classes that are easy to understand and very rewarding in the long term because of its persistent uptrend in absolute price. The first is equities and the other is property. In owning a cash-rich company with good cash flows, you must ensure that you have good management that aligns the interest of shareholders and management. If the management is not world-class professionals with integrity, the cash can disappear right before your eyes in a matter of months.

As for property in a small country like Singapore, land is scarce in prime areas and it takes a lot of effort and time to develop a new Sentosa or a new Marina Bay. So, prices of prime property will continue to trend up in line with GDP growth and command a premium. In other words, you are likely to double your investment in prime areas every cycle and the returns are good in the long term with manageable risks.

Unless you have given up hope on getting your retirement dollars from risky assets and be very happy to work for many years, this is the time to recognize your purchasing power. Money is just an illusion and a veil. If you have a pay cut of 20 percent and you lost 50 per cent of your asset values, this is the best time to invest the spare cash for good returns.

What would have cost you $300,000 to buy a year ago would be going at $150,000 or less now. You should be happy as your purchasing power has increased. You would also be very happy when the assets returns to $300,000 and may be even $500,000 in the next cycle. You should not be afraid of deflation as your purchasing power shouldn’t decrease in that case. What you are afraid of is inflation and only assets can protect you from that!

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Closing prices of MAP Technology so far this year.
 


What has been the performance of the Ferrell funds?


Dr Lee: 
We have 6 different funds with different returns objectives. These objectives are to generate returns between 8 and 50 per cent per annum net of fees, and we have so far achieved our objectives since inception. Our worst performing fund this year is down 35 per cent and our best performing fund is up 16 per cent. Positive returns are largely through our macro fund with arbitrage and shorting strategies. Going forward, despite good returns for us in 2008, I do not think directional shorting strategy will be profitable.

For 2009, we are more bullish of our long short strategy which registered negative returns for this year. This is because of the inherent value of sustainable dividend yields, low 2009 forward price earnings ratio, and strong cash position of the companies we own in the portfolio. Alignment of shareholders’ interest with management of the companies that we own, and Ferrell’s skill in ensuring it happens, will be important for the consistent performance of our funds.


Regarding Ferrell Residences, why is a hedge fund venturing into property development, as opposed to investing in properties built by others?


Dr Lee: At Ferrell, we love challenges and we like innovations. Whenever we have the expertise and when we are ready, we move into something new that interests us. My business partner, Jeanna Chan, and I have a pact that besides the main objective of making money for our clients and ourselves, we all must derive pleasure from running our business.

We were the first Singaporean firm that started a long short hedge fund in 2001 and it took us one year to set this up with prime brokers. At that time, few people heard about prime broking and hedge funds. We chanced upon the opportunity to start a private REIT hedge fund in 2004 at the low of the property market and recruited quality staff to manage the properties. As we were familiar with the local banks’ plan to divest non-core assets, we assisted the clients to purchase assets and listed companies, and manage them for the clients.

The team at Ferrell has many years of property development and management experience. When the opportunity of property development was presented to us, we found that this business activity satisfied our main objective of good returns. We also found that it is an excellent branding opportunity fitting our criteria of innovation, quality product and a lifestyle business. We will of course, continue to look for opportunities to own and manage properties.
 

The art pieces displayed in this show flat are said to come from your own collection. What is their value, and how did you collect them?

Dr Lee: The art pieces are the collection of both Jeanna and myself. I appreciate Chinese art and started collecting them in early 2000. Most of these art pieces are acquired taste and I derive a lot of pleasure looking at them. They are invaluable to me and since I don’t have any intention to sell, I never bother too much about their ongoing value.

I have encouraged my clients to own some of these art pieces because they are under owned and under valued. Being museum art, they will no doubt appreciate in value as Chinese art becomes a must-buy for all art collectors and museums.

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