By Ryk de Klerk
JOHANNESBURG - In the aftermath of the Covid-19 massacre on global markets and the ensuing recovery, you as an investor on the JSE have reason to question the continued high volatility in your investment portfolio over the past four months or so.
The daily volatility of the JSE Top 40 Index since the end of May masks the actual risk of investing in the underlying constituents of the index as per the latest holdings of the Satrix 40 Portfolio.
The standard deviation of the Top 40 Index has amounted to 1.2 percent based on daily price movements while the average of all the constituents is 2.6 percent. (The weighted average based on the weights of the constituents in the index is 2.3 percent.)
What it means is that, unless the constituents and their weightings of your portfolio of JSE shares matched those of the JSE Top 40 Index, the average daily change in your JSE portfolio could have been more than 2.5 percent, ie more than double the change of the index.
Thirteen shares had a daily standard deviation of more than 3 percent. Eight shares had a daily standard deviation of less than 2 percent, including five international shares with secondary listings on the JSE shares (Billiton, Richemont, Anglo, Mondi and British American Tobacco) and three with primary listings (Vodacom, Remgro and Spar). (Due to the unbundling of FirstRand and RMH by Remgro the latter’s daily returns since 30 June were used.)
The difference between the daily volatility (standard deviation) of the JSE Top 40 Index and the weighted average of the Index’s constituents since May is to a large extent attributable to uncorrelated daily price changes of the 5 gold shares in the JSE Top 40 Index. Yes, the inclusion of gold shares helped to diversify and optimise the risk/return profile of the Index.
On an annualised basis, the daily volatility of the JSE Top 40 Index was about 20 percent measured from the end of May this year. In comparison, the SAVI Top 40 Volatility Index stood at about 24 percent at Friday’s close.
It is therefore evident that the market at this stage is pricing in higher volatility or risk in the pricing of derivative instruments. Where 20 percent is deemed a neutral level between anxiety and euphoria, the current level indicates anxiety.
This anxiety is echoed in the US market as measured by the S&P 500 Index where the CBOE Volatility Index trades at 26 percent (albeit significantly down from 85 in March this year).
The anxiety is typical of what happens at the risk-off stage in the investment cycle. There is continued uncertainty about the fall-out of the coronavirus, the resultant lockdowns on domestic and global economies and the impact thereof on specifically economically sensitive companies.
In South Africa, the extremely weak economic situation and uncertain political environment are exacerbating the anxiety.
It is particularly evident in the annualised daily volatility (standard deviation) of the constituents of the Alsi Top 40 Index sitting at an average of 42 percent since the end of May this year.
That compares to the average of 29 percent of the top four shares (Naspers, Billiton, Richemont and Anglo) with a total weight of more than 52 percent of the JSE Top 40 Index.
Local and global investors alike are losing faith in South Africa and vote with their feet.
Major strategies such as collar hedges are also exerting downside pressure on specifically economic-cyclically shares linked to the South African economy. The extent and size of that market is unknown but I think it is huge.
For instance, in Remgro’s presentation of the final results for the year ended 30 June 2020 it was stated that in June 2020 Remgro concluded a zero cost hedging transaction with Nedbank for 60 million FirstRand shares. The total value of the transaction was therefore about R2.3 billion.
A zero collar hedging transaction typically consists of two legs.
In Remgro’s case, Remgro would have sold an out of the money call option - a call option gives the buyer of the option the right to buy the shares at a pre-determined price - on the FirstRand shares to Nedbank for a specific amount.
At the same time, Remgro would have used the proceeds from the call option to buy an out of the money put option - a put option gives the buyer of the option the right to sell the shares at a pre-determined price - on the FirstRand shares to Nedbank.
Both options have the same maturity date and if they are so-called European options, they can only be exercised on the specific date.
Nedbank will need to manage the position, especially the put option they have sold.
When FirstRand’s share price falls, Nedbank’s exposure to FirstRand increases and to hedge the position they will have to sell FirstRand shares or derivatives in the market to counter the increase in exposure.
It is these type of actions that could lead to higher volatility and cause the share price overshoot on the downside. Remgro, on the other hand, is also likely to manage its position quite actively.
Yes, the bigwigs call the shots.
The anxiety is likely to give way to euphoria when the risk-on stage in the global economic and investment cycles gather momentum.
In South Africa, more certainty on the economic and political fronts and a global economic revival are pre-requisites to change the mood of domestic and global investors.
The top performing stocks over the past few months are not necessarily those that will outperform in the next cycle, but the risk of investing in equities in general is far greater than a well-diversified portfolio such as the JSE Top 40 index.
Ryk de Klerk is analyst-at-large. Contact [email protected]. His views expressed above are his own. You should consult your broker and/or investment advisor for advice. Past performance is no guarantee of future results.
BLOOMBERG