Risk management key in new JSE trading environment – BJM PCS

JSE volatility and big losses in some categories have not driven all investors to the sidelines. Traders are still seeking profit and can deliver solid gains, but techniques and tactics have changed drastically, say Barnard Jacob Mellet Private Client Services (BJM PCS).

The top-ranked equity research house and dealer works for some of South Africa’s wealthiest individuals and is a proponent of balanced portfolio construction in line with long-term investment objectives and risk tolerance.

Its traders continue to pursue market opportunities despite negative sentiment, but the strategy is now characterised by astute risk management, says Hobs Mojalefa, head of trading at BJM PCS.

“Excessive volatility has forced a significant change,” says Mojalefa. “The trick is to identify the primary trend and use any move toward a counter-trend as an entry level.”

The need for a new strategy had been underlined by big swings in the valuations of blue-chip and large-cap shares; sometimes more than 10% in a single session.

Mojalefa adds: “At the forefront of this strategy is risk management. For months, we have emphasised the role of risk management tools when looking to achieve success in volatile markets.”

Tools include defensively structured contracts for difference (CFDs), an instrument often adopted by market ‘bulls’ looking to optimise profits, but flexible enough for use as a bear play to protect positions and take advantage of the downward moves. BJM PCS was an early adopter of CFD platforms, but engages in client education to emphasise the need for a balanced approach to such derivatives.

“Our risk management strategy is simple,” notes Mojalefa. “Have the discipline to stick to pre-determined stop-loss levels – this is the point at which a trade appears to have failed relative to overall strategy.

“More importantly, reduce trading exposure as the underlying stock price movement more than compensates for smaller positions.

”The principal message is that there is no need to panic. Even in uncertain times, it is possible to achieve one’s overall objective, given the deployment of appropriate risk management tools and trading strategies.”

The JSE trend has been sharply lower, but opportunities still occur courtesy of “sharp bounces along the way”.

Traders at BJM PCS point out that in August, the All Share Index bounced 7.5% from its low and in September bounced 8.1%.

October was less volatile as the negative trend entrenched itself, the sell-off accelerated and fear took hold. But even in Black October a bounce of 2.5% was tracked on more than one occasion.

The challenges of successful trading in the current environment have been showcased by VIX (the ticker symbol of the Chicago Board Options Exchange Volatility Index and the global investment industry’s most keenly scrutinised measure of implied volatility).

Introduced in 1993, VIX measures the market’s expectation of volatility over the next 30 days.

Mojalefa observes: “Although the VIX is often called the ‘fear index’, a high VIX is not necessarily bearish. VIX is a measure of fear of volatility in either direction. The highest readings occur when investors anticipate huge moves in either direction.

“Since September 2007, volatility on international markets has increased as uncertainty and lack of visibility relating to near-term prospects have risen steadily.

“We hit a climax on October 24 when the VIX touched an all-time high of 80. This indicates to us that our modified trading strategy will be applicable for some time to come.”