Forays into finance: CFA Challenge’20
I’m writing this as I hope to document an experience that made me realise the importance of team dynamics and applied critical thinking. It culminated in >100 hours spent over 4 weeks leading up to a 10 minute pitch. That’s over 10 hours of preparation per minute of this pitch.
What is it about
Its a yearly challenge that see University students take on the role of a financial analyst to produce a stock pitch and report.
As a student with barely any financial analysis experience, we had a massive learning curve to scale. Ultimately, it boiled down to just 4 things:
1. Numerical literacy — you had to understand numbers and be comfortable with fractions.
2. Analytical thinking — logic and an understanding of causality applied in creative ways.
3. Critical thinking — challenge biases and assumptions in order to own the logic of the pitch.
4. Dealing with adversity — to be able to consistently power through new information that could challenge your entire pitch. This was on top of personal challenges such as public speaking fears.
This was all made possible with an unbelievable amount of support from our Professor, Douglas Streeter Rolph, who met us for the full amount of hours he was able to according to the competition guidelines. I’m sure he would have liked to spend more but the timeline was so tight we could barely even get time to meet him either!
So are you ready?
Learning Points
Because we started from 0 we had to understand the process of thesis generation and finally turning that into a full-fledged pitch. I’ll document the key elements of this process to aid in future teams’ learning experience.
Thesis Generation
A thesis has to be formed from knowable and important facts. Knowable meaning that it can be verified with data. Important meaning that it had real impact on the subject company.
A thesis is generated through an iterative process. Trying out many ideas and eventually whittling them down to a single coherent pitch.
One needs to understand how exactly a business functions. Ultimately it seemed to result in an analysis of a business’ cashflows.
To make a recommendation, one needs to discover a catalyst that could lead to a repricing of the security.
Reading the reports of analysts tend to give mostly opinions. I found that most analyst reports tend to rely on historical trends and ideas or were overly reliant on a single catalyst that would change a business’ prospects.
Our topic company was Singapore Exchange Limited (SGX). Here’s a quick breakdown of some initial theses we had. In fact, we presented this during our initial round. We had to rewrite everything from our initial script.
- SGX will launch new products in 2020 that will lead to a large growth in its derivatives revenue which would bring up its stock price.
New products which makes up 0% of it’s revenue is very unlikely to make up a significant dent or increase in its overall revenue.
- SGX has a growing number of derivatives trading members that would ensure more derivatives trading resulting in a higher stock price.
This cannot be verified through data. It’s ‘unknowable’.
- SGX’s bond sales will make up for losses in its securities business.
Bonds make up about 1% of it’s overall revenue and securities makes up 40%. It’s very hard for this to work out.
- SGX has been successfully launching products over many years while keeping costs down (to about 4% increase a year).
Strangely, this was the only point that we kept. It demonstrated that SGX’s unit economic were great because it was able to sell more at similar or lower cost.
Knowable, important facts that make up a good thesis.
This is what it took.
We learnt that a good mental model was this idea that businesses had a certain ‘cone’ of possible futures. Understanding the catalysts that would tip a business’ performance towards any particular future was crucial.
If I was to sum it up in a sentence, the thesis would simply be:
SGX has restructured itself to provide risk management for investors in Asia while promoting the growth of securities that suit the investor base Singapore has.
The “zing” behind it was the variant perception. Which was that despite SGX’s reputation as a dormant stock, it has completed its restructuring and is poised for growth. That was the catalyst for repricing.
To get to this one line took literally hours and hours of debate. It really ain’t easy. I suppose there’s a certain elegance in simplicity.
Why does this work? Because it suits the overall strategy of SGX and it provides us assumptions that we can test. We can test that investors want to be a part of Asia and their impetus for being in Asia. We can test that securities revenue has stopped declining and we can check that Singapore’s investor base is reacting well to new measures.
Owning the Logic
Ultimately, our logic became this:
- Asia will be a source of global growth.
2. Investors want to take part in Asia’s growth.
3. However, Asian markets still carry risk such as liquidity risk, market risk.
4. SGX provides a single point of access to risk management products which investors need in order to invest in Asia.
5. SGX knows this and has offices throughout the world to bridge investors to Asia.
6. This international presence helps them identify winning products which drive their revenue growth.
7. Product 1: iron ore derivatives. SGX has a monopoly in this because it captured the entire value chain. The underlying driver for iron ore derivatives is… MAKING THINGS. Iron is such an important product in industrialisation and China needs lots of this.
8. Product 2: China A50 futures. SGX has an exclusive license to sell this. Once again, China is growing and investors want to be a part of this.
9. But wait, SGX can do all this while keeping costs down! This means profits will go up. This is because SGX has overhauled its digital infrastructure long ago.
10. Now this just makes up 50% of SGX’s revenue. The other 40% is securities, which has been losing a lot of money.
11. SGX has become a hub for REITs which now makes up a larger portion of securities. Investors in Singapore like REITs because its a stable dividend-paying stock. Also, the numbers show REITs are really becoming more significant.
12. The valuation also makes sense. When we compare with similar exchanges, SGX is doing great. The discounted cashflow model generates the stock price we arrive at.
13. When we look at the risks, it ain’t that bad. SGX has learnt from previous mistakes and Hong Kong Exchange making their own A50 futures might actually lead to better volumes for SGX.
14. Take a bow.
Now that was quite a long chain of logic, but it covers 90% of SGX’s revenue and costs.
Pitching
Tips and tricks to survive Douglas’ PresentationBootcamp™.
- Keep your hands loose and around your pocket seams. If you move them around it’s really distracting.
- Hold your mike at a single position and DON’T MOVE IT. I tend to just touch my second button on my shirt while holding the mike.
- Pronounce properly. It’s hard to catch yourself when you present so you need someone to notice it for you!
- Scan the room when you present. Split your room into quadrants and just face them as you present. That way you don’t end up staring intensely at judges and freaking them out.
Now time for your slides.
- One slide one point. Really, you can’t fit any more in it without rambling!
- Use graphics to ILLUSTRATE YOUR POINT. But each graphic should show only one point. This is because it’s very hard to follow your logic as you present so this information bottleneck is intended.
- Make sure your slides can be read in black and white. Get your contrasting colour schemes right!
So what we did that was quite unique was… on the left hand side we basically constructed the free cash flow of SGX as we presented. Judges could see the importance of each point and how it fit into the overall picture.
This one slide was meant to highlight a single trend and it’s causation. China’s population needs steel.
So here’s an initial draft of our Final presentation. It’s very close to the final presentation but… well you can see the effect of Douglas’ PresentationBootcamp™.
Now that’s quite a bit… BUT WE AREN’T DONE!
We lacked a lot of the basic financial concepts. When we were preparing for the pitching we had to get read for the dreaded… Q&A
Q&A
Why is SGX ROE so high? (High ROE is linked to high profits)
SGX has just come out of relying on domestic securities trading
which they have a monopoly thus a high profit margin
Expect this to lower slightly as they start competing internationally
When we first tried to answer some potential questions, we were absolutely stumped. But here’s a general algorithm we came up with.
if (question_is_asked): link back to your thesis
I’m going to do y’all a favour and just share the document we used to prepare.
Conclusion
Well, I guess it worked out somewhat? We managed to bag some prizes but I think the best part was the experience. Also I realised that Refinitiv has an amazing view outside their office. Seriously, go for the competition for the view if not anything else.
Thank you Azmi and Fariha for taking this journey with me.
Thank you Doug and Melvin for the mentorship.
