Is the Market Really Cheap?

IT was widely predicted that several investors would sell stocks when the stock market resumed trading on February 19 but not many anticipated the ongoing carnage which we have experienced.

Investors were expected to offload shares to raise US dollar liquidity to meet their obligations. With time, however, the selling pressure was expected to gradually ease off. The belief was that demand for shares by foreign investors would offset the offers from locals. This would then result in share prices slowly creeping up. Proponents of this school of thought believed, and still do, that local assets in general, particularly stocks, are cheap. But are they really cheap or are they fairly priced given the environment?

Whereas the true values of stocks are arguable, the selling pressure on all of them since the recommencement of trading in February is an unavoidable fact. On the first day, only US$30 worth of Apex exchanged hands whilst the rest were offered at levels that now look overly ambitious. Since then, the Zimbabwe Stock Exchange (ZSE) has seen serious value erosion. Market capitalisation has fallen by more than 50% to US$1,267 billion as at March 18. For a bourse that had been averaging US$2,5 billion to US$3 billion for years, seeing it slowly heading towards US$1 billion is heart wrenching.
The subdued activity has had an adverse impact not only on investors but also on the entire investment industry, particularly stockbrokers and asset managers. To date the cumulative turnover on the ZSE is about US$1,585 million, implying an average daily turnover of US$79 293. With broker’s commission currently at 2% of consideration, total gross fees to brokers since February 19 when trading resumed amounts to US$63 000. From this amount 20% is paid to non-member institutions (NMIs) whilst the Securities Exchange Commission (SEC) also wants its share. This would leave the twenty odd stockbrokers with at most US$2 000 commission income for the entire month.
In practice, the commission is not shared equally among brokers meaning that a few tend to get a fair share while others hardly get a cent. If this trend continues, fewer than five stockbrokers will still be around by yearend. This will not be surprising given that besides the Johannesburg Stock Exchange, other bourses in the region have fewer brokers. For instance, Botswana has four; Zambia has three while Mauritius has 11 despite all of them being more active and bigger than the ZSE.
Although they are largely decoupled from major markets, the regional bourses also experienced widespread selling since the onset of the global recession. In 2008, only Malawi, Dar es Salaam and Ghana ended positive with the JSE, Nigerian and the Botswana markets being the worst hit. The latter three shrunk by between 35%-43%. At the same time the Dow Jones Industrial Average lost 33,84% whilst the FTSE100 was down by 31,33%.
These markets remain bearish despite having shed substantial value since 2007. Renowned investor, Warren Buffet invested about US$5 billion in Goldman Sachs in September 2008 believing that the markets had bottomed out only to see them going even further down. This shows that it is difficult to determine market troughs in recession because cheap stocks can still get cheaper.
If the Dow Jones and the FTSE100 can still go lower while investors continue to shun the JSE as well as the BSE, building an investment case for the ZSE will be a difficult task.
The country’s economic outlook is still unclear. Most of the companies, whose share prices are deemed cheap, are operating at less than 10% capacity. It is not possible to increase it to say 30% without huge capital injections. The country has a poor credit rating which makes it difficult to get lines of credit. To access funding, most companies will be forced to go the route of equity financing which will significantly dilute current shareholders. Even then, attracting new investment is going to be a ‘hard sell’.
Besides working capital needs which are imperative, there is also a need for capital expenditure. Many companies have old machinery which requires refurbishment and in some instances replacement if capacities are to be expanded. These upgrades were deferred as companies concentrated on surviving the harsh operating environment.
Most companies have lost their competitive advantage over the years which will make it difficult to export their products. The country’s exports are now more expensive, particularly when compared to neighbouring countries due to the high costs of production. This, together with the deterioration in product quality will make it hard to secure markets for local products especially now when demand for most commodities is falling due to the global recession. These companies also face tough competition on the local market from imports that are landing in the country at cheaper prices.
Reports of more farm invasions and continued detention of political detainees among other blemishes will distract potential investors. The insistence of multilateral financial institutions such as the International Monetary Fund and African Development Bank on settlement of arrears before new finance comes in will only prolong the country’s poor creditworthiness.
It will be increasingly difficult for the country to attract foreign capital especially given the global recession. In the absence of adequate stocks of foreign currency, the ZSE is likely to slide even lower than current levels.