Signs of returning confidence in local markets

Confidence in the local equity markets is returning as stronger earnings coupled with perceived lower market risks emerge, says Theo Vorster, chairman of the Institute of Behavioral Finance (IBFSA).

“The latest South African Investor Confidence Index indicates a significant change in attitude among the institutional investors and financial advisors who participated in May in the IBFSA’s survey, on which the index is based,” says Vorster. “The same surveyed participants indicated low levels of confidence in the equity market during previous months.”

None of the institutional participants believes markets are undervalued, however, they remain uncertain about the very short-term outlook for equities one month into the future. “This is confirmed by very low consensus between the participants on the expected return for this period,” he explains.

Institutional investor confidence has substantially improved for the three, six and 12-month measurement periods, with their estimated returns up by more than 2.5% from their April estimates over each of these periods. “Such a positive movement of the same magnitude was last measured during the World Soccer Cup in June 2010,” he says.

“For the first time in nearly 24 months, institutional investors and financial planners almost reached consensus on expected returns 12 months into the future,” says Vorster. “With their views differing by a mere 0.5%, a collective return of 5.2% is expected.”

“In line with the increased optimism about market movements, investors were also more optimistic about how far the market would bounce back a day after a 3% drop, says Gerda van der Linde, IBFSA executive director. Respondents on average expect a 0.85% recovery the following day.

She notes that it is interesting to compare the latest results for the Crash Confidence Index with the May 2008 results, as local markets have been testing the May 2008 highs since February this year. While institutional investors believed there was a 7.73% probability of a crash back then, they currently imply a 15.8% probability.

“This could reveal that institutional investors have a more realistic expectation of market potential this time around,” explains Van der Linde.

Since January 2011 the Valuation Confidence Index, which indicates perceptions of market value, has shown a steady increase in responders who believe the market offers fair value. Only 2% of the total respondents think the market is cheap, while 50% still believe it is too expensive.

“With lingering concerns about market value, combined with global economic conditions and developments that are difficult to interpret and/or forecast, the cautious approach by equity investors could remain for some time,” says Van Der Linde. “However, with the JSE All Share Index regularly moving above 32000 since early this year it may not be a surprise to see confidence in the markets returning slowly in the minds of investors.”

She continues, “When all is considered, the equity market has recovered all losses since the lows in 2009. Investors who parked their investments in fixed interest type investments have missed the recovery.

“Investors need to trust that equities deliver higher returns than fixed interest investments over time, despite higher risk and volatility.”

On the down side, Van der Linde says it appears as if loss aversion is still keeping investors out of equity markets. “This is not a surprise as research results in behavioral finance show investors to be highly loss averse if they experienced a loss in the recent past.”

“The only way to overcome investor paralysis caused by loss aversion is to phase investments into the market over an extended period,” she says.

A phasing in approach also eases regret aversion in volatile markets. “Regret aversion causes procrastination, as investors fear the pain of being responsible for a wrong decision.

“Investors should not attempt to make up lost ground without the advice of a professional financial planner,” says Van der Linde. “Whilst equity markets deliver superior returns over time, investors need a solid strategy linked to their individual goals based on their risk required, unique personal risk tolerance and risk capacity.”