Tricks of the Investing Trade

Bear Market Survival

With damning statistics and predictions of impending economic doom, it is no surprise that many investors are tempted to believe that the local markets are in crisis. According to an article published in The Times however, the experts say that equities will always outperform inflation in the long term – the trick is to hang in there and ride out the storm.

Graham Ledbitter, senior portfolio manager at BoE Private Clients, says that equity markets should always outperform both inflation and cash in the long term, except in countries afflicted by civil war or gross economic incompetence.

“The statistics show that over the past 48 years, shares on the JSE generated a total return of 20% a year compound. For the same period, inflation was 8.6% a year, while cash before tax returned only 9.8% over the same period,” says Ledbitter.

He goes on to argue that the reason behind the relatively strong performance of equities lies in the necessity for all countries to develop their gross domestic product (GDP) in real terms over time. “Virtually all countries need to have a growth strategy in order to prevent unemployment as populations grow. In simplistic terms, a growing GDP leads to growing profits for companies, resulting in growing dividends, which causes share prices to rise,” Ledbitter says.

In fact, most major economies, including South Africa, were growing at a strong rate until recently. Corporate profits and dividends were good and stock markets responded by generating very strong returns, especially the local bourse. “When the stock market is in a bull phase, all good news is pounced upon as an excuse to drive share prices higher and bad news just gets brushed off as irrelevant. Conversely, in bear markets bad news drives share prices lower and good news tends to be regarded as irrelevant,” according to Ledbitter.

The senior portfolio manager at BoE Private Clients notes that the current downturn in the market is only one of many economic ‘crises’ over the last few decades, which include the major collapse of the rand following P.W. Botha’s notorious ‘Rubicon’ speech and the global stock market collapse in 1987, which wiped a value of 38% off the JSE in just a few days.

Negative sentiment also had a profound impact prior to the elections in 1994, when nervous investors believed that the incoming ANC government would expropriate or nationalize property. There were similar feelings that came to the fore during the emerging-markets crisis in 1998, where certain governments defaulted on their debt, as after the 9/11 attacks in 2001 and the collapse of the rand in the same year.

“In each case…it appeared to many investors as if there was no way out and that nothing would ever be the same again. But in each case, the world didn’t end. Nor will it end now. Problems will get sorted out, growth will resume and shares will start rising again,” Ledbitter asserts.

He goes on to say that once you have made your investment, you should not get over-excited when the price rises or nervous if it declines and should rather “fix in your mind the long-term returns on equity – that is 20% a year compound. And with that in mind, relax and enjoy your share investments”.

According to the latest Merrill Lynch fund manager survey, 50% of local managers are bullish on equities and relatively few are bearish on bonds. When it comes to the commodity market, 25% of managers think it is undervalued, with 69% seeing more buying opportunities. A total of 44% want to invest in construction, beverages and food producers, bond and offshore investments, while domestic cash levels fell to 15% this month.

Mark Appleton, chief investment officer at BJM Private Client Services, says that resource shares are looking significantly more attractive after an average pullback of 23% since the end of June. He says that resources have under-performed considerably in the industrial and financial sectors recently and this has created a buying opportunity. The valuations for quality blue chip resources are well below ten times earnings, which presents the perfect opportunity for companies to add to their portfolio.

Tips on surviving a bear market:

- Have a sensible time line – about five years or longer and do not try and time the market.
- Buy shares in companies that have been around for a long time and have consistently produced good earnings and dividend growth
- Spread your investments over several sectors – do not concentrate them in the flavour of the month or ignore one that is out of favour
- Invest in shares that pay good dividends and if possible, re-invest so that they compound over time
- Buy a business newspaper every day and read about companies that either interest your or in which you have made an investment
- Only sell shares if there is a fundamental reason to do so, not due to fall in share price and the reverse also applies.

The information in this article is courtesy of Madoda Milazi (“How to survive the bear market”, The Times, 1 September 2008).

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