In recent days, the stock market has been reeling from a continuous slide in stock prices. On Monday alone, the stock market capitalization dropped by over $2.6billion reducing the stock market capitalization to $95.2 billion. This drop continued to day as the capitalization fell by an additional 3%.
The question on the minds of a lot of people is what to do next. Proshare prepared a fine article on what to do in this situation. The summary is this:
1. Investors should not withdraw from the market, but they should keep abreast of the daily stock trends. Monitor the price trends of blue chip stocks that have pulled back, and have lost some of the fluff in their stock price for possible accumulation.
2. Investors should look out for stocks that have shown strong resilience during this period, because it indicates that institutional and retail investors have confidence in these companies. Additionally, it might be an indication that some of these PLCs’ are willing to support their stock price.
The full article is below:
Trading Strategies for a Southbound Nigerian Stock Exchange
For at least the most recent 5 years through the end of February 2008, it appeared that majority of the stocks listed on the NSE were impervious to the downtrend that has afflicted stocks listed in most foreign exchanges.
While stocks listed in other exchanges around the world regularly experience severe pull backs, majority of the prices of stocks listed on the NSE constantly appreciated with minor or intermittent price retracements. However, since March of 2008, the price trends of majority of the stocks on the NSE have shown that NSE stocks are not immune from prolonged pull backs. With the exception of some stocks in the petroleum sector, most stocks have reflected lackluster performance. Majority of the stocks have trended either sideways (i.e., consolidating or stagnant), downwards, or peak & valleys price patterns.
In the past two months, there has been an on-going investigation and enquiry from several brokers, analysts and market participants the reasons why the Nigerian capital market have been in a severe bear hug. The responses received from some of these participants can be represented as follows:
1. The Federal government delay in releasing the2008 budget starved funds from the private and public sectors and limiting the amount of discretionary income available to individuals for investing in the capital markets;
2. The Central Bank of Nigeria (CBN) directive to banks to stop providing margin facilities to brokerage firms resulted in liquidity crunch (though this was later denied much later when the dynamics of the response appeared to have taken root);
3. The continuing market downtrend resulted in lower stock prices forcing many investors to sell their stocks to cover margin calls, lock in dwindling profits, or sell their shares to prevent further losses; and
4. The feedback from some CEO’s of Stockbroking firms who recently returned from a major investment conference in England, represented that some foreign institutional investors appear not to be sure of the current financial policies of the Nigerian government and are thus staying away from the Nigerian capital market until the financial policies of President Umaru Musa Yar’Adua’s administration are defined. Some of these investors have been giving sale mandates to their brokers, and have instructed the brokers to repatriate the funds from the liquidated stock positions.
What Next?
Regardless of the reasons for the decline in the market, it is important for investors to understand that standing on the sidelines like hapless spectators is not an option. Unfortunately, derivatives are not currently traded in the NSE, therefore investors are unable to use puts options to hedge their portfolios, or sell covered call while waiting for the market to recover. However, in the interim investors might consider using the trading strategies highlighted below:
1. Buy only fundamentally strong dividend paying stocks since the prices of these stocks are most likely to recover faster after a severe correction. Additionally, the annual dividends and bonuses from these companies can act as a solace while investors are waiting for the market to turn around.
2. Investors should avoid the stocks of questionable companies with weak fundamentals, or business operations. The stocks of these companies are usually speculative stocks which take the hardest beaten in tough market conditions, and are usually the last to recover after a severe market correction.
3. Although many astute analysts advise against averaging down the original purchase price of a stock, but if you are cut in a stock, the best strategy might be to average down the original purchase price because there are no hedge instruments available to investors. However, investors must determine the actual price, fair value, or support level of the stock before implementing this strategy.
Analytical Illustration
Assuming, an investor purchased 10,000 shares of WAPCO in January at 82.89k, and at today’s closing price of N51.50k, it represents a loss of N31.48k, or 61%. However, if the investor decides to average down by buying another 10,000 shares at N51.50k, the investor’s new average price will be N67.24k (i.e., N82.98 + N51.50k/2), representing a loss of N15.74, or 23.4% as opposed to 61%. It is important to understand that WAPCO is used here only as an example, because reviewing the WAPCO chart below, it appears that the stock has been unable to break above its downtrend line, which implies that further decline is in the store for the stock.
The aforementioned strategies might be a complete panacea for the pain most investors are experiencing, but it might be helpful to some investors.
Additionally, the continuing downtrend of the Nigerian Capital Markets might have frightened some current and potential investors’. Nevertheless, it is important to note that most smart investors make their money when there is “blood on the street”. In this type of market environment, the stock prices of some strong stocks are beaten down along with the weak stocks. Therefore, investors who perform proper analysis should be able to pick out these strong value stocks. For example, in July 2007 when NB Plc was trading at N39, I determined that the stock fair value was about N55. It eventually traded up to N55.89 in March 2008.
A review of the price chart of NB Plc reveals that the stock maintained its uptrend line for over 7 months until the line was temporarily breached in April 22, 2008. However, the stock quickly recovered from the breached trend line. As shown below, the stock is currently trading above a new up trend line, but if the market sell-off continues, the price might break down.
Close
In conclusion, the following is recommended:
1. Investors should not withdraw from the market, but they should keep abreast of the daily stock trends. Monitor the price trends of blue chip stocks that have pulled back, and have lost some of the fluff in their stock price for possible accumulation.
2. Investors should look out for stocks that have shown strong resilience during this period, because it indicates that institutional and retail investors have confidence in these companies. Additionally, it might be an indication that some of these PLCs’ are willing to support their stock price.
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donne4real | December 6, 2008
