Foretelling earnings key skill in market turmoil – BJM PCS
Depressed equity prices and deteriorating growth prospects locally and internationally have re-emphasised the importance of corporate earnings forecasting for those hoping to exploit value on the stock exchange.
The insight on what it takes to build equity wealth in times of market turmoil comes from Barnard Jacobs Mellet Private Client Services (BJM PCS), investment advisers and managers to some of the country’s wealthiest families.
The need to ‘stress test’ the earnings potential of listed companies is a key message to the high net worth individuals in the BJM PCS client-base in the latest report to investors from chief investment officer Mark Appleton.
The bad news is that falling growth and market volatility make forecasting more difficult. The good news, suggests Appleton, is that general pessimism may have been overdone, indicating scope for profit if stock-picking is based on rigorous investment processes that correctly identify earnings prospects.
Appleton explains: “Equity markets are a discount mechanism. Share values reflect discounted future cash flows and the discount rate used is based on prevailing risk-free interest rates plus an appropriate risk premium.
“Markets appear to be discounting a lot of bad news on the earnings front – an earnings decline of in excess of 40% appears to be embedded in global equity market valuations.
“Are earnings likely to decline as much as the market seems to be implying? Forward earnings visibility is exceptionally poor at this point and forecasting risk is high, but we suspect that the market is being too pessimistic, given improving capital market conditions.”
The local picture is similar to the international one, with deepening fears of a global recession depressing both commodity prices and the JSE.
“As with international markets, local shares appear to be discounting some very bad news,” says Appleton. “That aside, a vigorous investment process which includes severely stress testing earnings has seldom been more important.”
