Dealing with Volatility on the Stock Market

(A case Study of Three African Stock Markets)

In 2013 a majority of African stock markets performed respectably to attract many investors to the market at the beginning of 2014. The Ghana Stock Exchange (GSE) Composite Index (CI) yielded a return of 78.81% to shareholders in 2013. The Nigerian and the Botswana Stock Exchanges also made impressive returns in the same period. However, in February 2014 most of these listed companies shed most of the gains made in the last quarter of 2013 and in January 2014. This short-term volatility is very demoralizing to investors who started their investment in 2014, as part of their principal is being eroded away from short-term volatilities. It is a well-established fact that investments in equities come with a high level of risk to the investors and the more the investor is well informed about what the causes are, the easier it is for them to deal with negative price changes. The focus of this article is to use the Ghana Stock Exchange, the Nigerian Stock Exchange and Botswana Stock Exchange as a case study in explaining the possible reason for the recent decline in stock prices on these African markets.

Decreasing Trend of Indices on the Botswana Stock Exchange and the Nigerian Stock Exchange The Botswana Stock Market (BSI DCI) decreased from 9163.27 Index Points in February 2014 to 8943.89 Index Points in March 2014. The DCI (Domestic Company Index) is a major stock market index which tracks the performance of the biggest companies traded in the Botswana Stock Exchange. It is a capitalization-weighted index. The Nigeria Stock Market (NSE 30) decreased to 1676.26 Index points in March from 1777.82 Index points in February of 2014. The Nigerian Stock Exchange NSE 30 Index is a major stock market index which tracks the performance of 30 of the most liquid stocks representing industry sector, listed on the Nigerian Stock Exchange. It is a capitalization-weighted index.

Possible Reasons for the Losses on these Markets Investors react to market information in different ways; they take decision on whether to buy or sell their stocks. These collective decisions result in the volatilities recorded in stock prices. Every stock market operates in an economy and hence, happenings in the economy affect the performance of the market. When macroeconomic fundamentals are weak, and the currency of a country continues to depreciate against other major trading currencies, it affects the performance of a stock market. When these factors are not favorable, investors would like to move their investment to other economies with solid macroeconomic fundamentals, because that presents them with the opportunity to safeguard their investment. Profit Taking Investors who had invested prior to the end of 2013, stand to make a lot of gains in the event of sale of their respective shares. When several shareholders flood the market with stocks on which they made several capital gains, supply exceeds demand leading to price falls. It could also be that due to the impressive performance in 2013, some of the stocks may be over priced; therefore, shareholders who wish to buy additional shares would most likely quote fair prices leading to price falls. As a result, is not surprising that the NSE, GSE and the BSE recorded declining indices in early March 2014. Repatriation of Profit by Foreign Investors One possible reason that could account for the price falls on these three stock exchanges could be repatriation of profit by foreign investors. It is a known fact that foreign investors contribute massively on African stock exchanges by investing in the listed companies on these exchanges in emerging markets like in Asian and African markets. In 2012, the US economy’s performance grew at 2.42%. This growth was not appealing to some foreign investors, and for this reason they had to look to alternative markets in developing economies and Africa for that matter. The fortunes of the US market changed mostly in the last quarter of 2013 contrary to the performance in 2012. The Washington Market Watch reporter Jeffry Bartash, reported that “the U.S. economy expanded rapidly in the final three months of 2013, as consumers shrugged off a government shutdown and businesses sold more goods overseas. The largely positive report is likely to fuel hopes of even faster growth ahead. The total value of all goods and services produced by the economy, known as gross domestic product, grew at a 3.2% annual pace in the fourth quarter.” The United States has one of the most diversified economies comprising of businesses in finance, insurance, health care, social assistance, professional, business and education. In view of this growth in the US economy and the investor confidence that has been boosted after the shutdown, it goes to confirm why foreign investors would repatriate profit to the US economy with relatively stable political atmosphere, and where corporate governance structures work for listed firms and above all a stock market that is relatively efficient. Also, the constant depreciation of the Ghana cedi makes investments in Ghana less attractive, because their gains are eroded away by currency depreciations. In Nigeria too, activities of terrorist group, Boko Haram is creating fear and panic and the political sense. It is therefore more prudent to invest on the US market as the economy is on the rise. Improvement in returns on money market. The weekly Treasury bill auction results in the first quarter of 2014 in Ghana indicates the likelihood of rate picking up contrary to the declining signal in 2013. On the first auction held on 3rd January 2014, the 91-Day T-bill rate was 19.23% but at the auction of 28th of March 2014 showed a rate of 23.68%. Similarly, the 182-day T-bill opened the year at 19.18% but it increased to 21.24 in March 2014. The 1-year note opened the year at 17% but at the end of March, it increased to 22.50%. Given that the treasury bills are perceived to be risk free, investors would be comfortable moving funds from the capital market to the money market where they do not have to deal with short term price volatilities. This is normal because typically, the weekly Government of Ghana Treasury bills are always oversubscribed indicating the investor confidence level in treasury bills. Consequently, it is normal for funds to move from capital market to the money market. This occurrence also explains the reason for the possible price falls in the capital markets.

How can existing investors deal with the current happenings? Existing shareholders can deal with the current fluctuations in the under listed ways; Take profit or stop loss Investors having their investments in the market for a long time and have made large capital gains on them can sell the portions of their shares, so they can realize their gains. It should be noted that, gains and losses are only realized when the shareholder trades the shares. The shareholder can use the realized capital gains to invest in any money market instrument they find attractive. A shareholder with a long investment time perspective can continue to monitor the market and take investment decisions where necessary. There is the likelihood that the market would bounce back soon when the temporal mispriced stock prices correct themselves. Also, given the performance of stocks of most financial and manufacturing listed companies listed on the GSE in the fourth quarter of 2013, and those that have released their financials for end of year 2013, prospects are high for the market to get back on track. On the GSE, apart from Ghana Commercial Bank (GCB) that has fallen below its closing price in 2013, most stocks still have some gains. GCB opened the year with a price of GH¢4.85 but at the end of March 2014, the prices fell to GH¢4.09 representing a loss of 15.67%. For investors who have started making losses as a result of the current price falls, if they are not comfortable with the losses, the investor can decide to sell the shares and place the funds in alternative investments like the money market which is yielding relatively attractive returns on investment. All these decisions depend largely on the risk profile and the investment time horizon of the investor. Alternatively, the investor can seek professional advice on how a portfolio of investment can be designed for him to meet his investment objective. Diversification Diversification involves spreading one’s investment across various classes of investment such as shares, bonds, cash and cash equivalents. It could also mean that a shareholder spreads his investment portfolio across different industries like the extractive, manufacturing, information and technology and services industries. Diversification protects an investor from loss so that when the value of one class of asset falls, it would be compensated by a rise in the other. This is due to the different classes of asset that react differently to interest rate changes and market price fluctuations. Bond prices and treasury bills for instance, are negatively related to interest rate and the opposite is true for shares. In this instance, the investor can buy stocks across industries, so that when there is crisis in one industry, the other industry would bring him gains. On the Ghana Stock Market, the investor can invest in stocks of financial, manufacturing and distribution companies. Stocks of technology firms on the GSE have been non-performing over the year. Examples include Transol and Clydestone. How can new investors take advantage of the current happenings in the market? For investors who wish to enter the market at this time, it is financially prudent for them. When stock prices are low, the investor can buy more stock with a relatively small capital. It is advisable for new investors to buy more stocks as price falls. It is very easy to buy stock at this time because supply is high. Prospective investors can consider purchasing now since they have the potential for future growth. But all these recommendations depend largely on the investors risk profile, the investment time horizon, the investment objective and the income level of the investor. In conclusion, volatilities of stock prices are normal as far as investment in stocks is concerned. These volatilities present the opportunity for investors to make more returns as well as losses. This popular business adage “the higher the risk, the higher the returns” goes to support this assertion. Happenings on stock exchanges are mainly influenced by fundamentals released by the listed companies, good corporate governance and market efficiency and so on. The investor stands to benefit if he understands the reason behind the price change and what course of action to take. It is therefore essential for investors to understand the market and not panic at short term volatilities. The investor can equally use the services of brokers who would manage the portfolio of stocks for them. It is very rewarding to diversify ones investment portfolio and also invest for the long term, because in the long term the investors would make more gains than losses. Profit taking is also important because losses or gains are only realized when the investor trades the stocks.

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