Biggest JSE Correction Since Financial Crises

11 October 2018 | SA Views | Dwaine van Vuuren

Since we released a public version of a market warning to our clients (This is how ill our stock market is) on 18-September, the TOP-40 has been on a one-way ticket losing some 12% with only a single session in 13 posting a gain.

The JSE TOP-40 is down 18.3% from its 52-week intraday highs as of this morning. If you examine the 14-year history of intraday drawdowns from 52-week highs, you will see this is the largest annual drawdown since the crash of 2008:

(Click image to enlarge)

The average drawdown is 7% but we see that drawdowns in the -12% or even -16% range have offered great future outcomes for those brave enough to assume we’re not entering another great crash, and buy-the-dip.

Using the historical sample set of daily intraday high-to-low drawdowns from 52-week highs since 2005, we can calculate a probability distribution model to assess the odds we are at a bottom:


What this model is saying is that since 2005, drawdowns greater than 18% have occurred less than 8% of the time. We can, therefore, deduce a probability of 92% that we have seen the worst. This is, of course, a very simplistic probability model (we have much more sophisticated ones) but it does put the current situation into perspective. Of course, nothing is guaranteed in the stock markets and these probabilities are just that - probabilities.

The big assumption here is that we’re not entering another great-crash similar to that of 2008. The odds are unlikely based on the probabilities (and other reasons we discuss below) but NOT IMPROBABLE.

If the JSE index is down 18% you can bet some great quality stocks are down much more. There are 3 shares with more than 3-years consistent earnings growth, despite the lousy economy, that are down 27%, 38%, 62% and 17% respectively. There are 24 shares with more than 4 years consistent dividend growth down up to 30% from 52-week highs. These are the stocks to be buying now of you want to buy the dip. Here’s a sample of three of them:

(Click image to enlarge)image1

Just as an aside, the current correction has naturally yanked the JSE TOP-40 Price/Earnings (P/E) ratio down hard, to a more sane level of 17.83x from the insane 24x levels witnessed in early 2017. Historically, buying the TOP40 when its P/E’s are below one standard deviation from its long-term mean (i.e. when the JSE is "cheap") has resulted in positive outcomes for the brave at heart:


So, the big question now is - are we entering a bear market and a crash? It’s an important question since it’s not improbable according to the simplistic probability model (8% is a risk, even if its low).

I don’t think we are entering a bear market, simply because we have already been in one for the last 4 years!


All 6 of the above metrics have consistently through the decades accurately predicted bear markets on the JSE. But if we are in a bear market, "How come the JSE never collapsed 40-50%?" you may ask. What changed since 2008 is that the JSE started becoming dominated by large caps (i.e. Naspers 21% of the TOP-40 free float) and more specifically large caps with significant amounts of earnings from offshore. In fact, up to 60% of the TOP-40’s earnings now come from outside South Africa!

With the halving of the Rands dollar purchasing power since 2011 (remember when it was R7.00 to one dollar?) there has been significant flight and herding by institutions into a few large-cap Rand hedges which created the ILLUSION the JSE was holding up. But the six metrics in the previous chart never lie. If more things are going down than going up we’re in a bear market - finish and klaar.

So, we can’t be entering a new bear market. The question then is how much further can the JSE index fall? If it goes further it will impact the large caps, as the mid-to-small caps have already taken their 4-year beatings. The percentage of JSE shares increasing earnings and dividends seems to be trying to bottom out, as does private sector credit extension, but its early days yet. My personal opinion (and it’s just that - my opinion which can be wrong) is that the worst is over for the JSE index and we bounce shortly. But a lot depends on where we close tommorow.

There are no external economic factors likely to throw us into another financial crises similar to 2008 in the near-term, since the global economy and more specifically the U.S economy, are experiencing robust growth. The growth has more than likely hit a plateau, but its growing! Based on other research we have done (U.S Recession forecast), the U.S is still probably another 18-months to 24-months away from recession, and typically SA recessions commence with a bit of a lag to the US ones. So, unless I’m reading this incorrectly, barring another Greek-style crises with Italy or an escalation in the Trump Trade wars triggering a global recession or flight from Emerging Markets, in the short term, I don’t think external economic growth factors are likely to push us into a stock market crash.

Which brings us to the SA economy, since only when this awakens from its government induced coma, can more JSE shares start going up than are going down and a bull market commence. If you expect the economy to worsen, then odds are the stock market correction could continue or at the very least, JSE returns remain muted as they have been for the last 5 years. Again, on this point, my betting-man guess is that the worst is over. But the turnaround is likely to be a long hard slog. As the stock markets look 6-8 months to the future though, the JSE is likely to move before economic improvement becomes patently obvious. But the six indicators we show in the last chart will be much earlier confirmation than the mainstream press and economic indicators.

Putting the 15-year history aside though, there is one ominous sign to watch out for using the much longer 25-year history that includes four prior "pukker" bear markets - if the J200 closes the week down more than 15% from 52-week high closing price, we could be at a "tipping point", since this has always led to further declines in 7 of 7 cases since 1992. More on that in our next research piece.


Overall prognosis on the JSE? CAUTIOUSLY OPTIMISTIC, pending outcomes on Friday 12th, but not discounting other less risky options on offer such as offshore ETF’s, high yielding (>10% p.a) fixed income, stable currencies like the Swissy and a tiny sprinkling of Crypto and Gold! If you are interested in any of these options, you can contact our Wealth or Investments or Offshore equities team.

The following research explains more about some of the topics discussed in this note:

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Dwaine van Vuuren
Retail-side Research
RecessionAlert, Sharenet Analytics

Dwaine van Vuuren is a full-time trader, global investor and stock-market researcher. His passion for numbers and keen research & analytic ability has helped grow (US based) and PowerStocks Research (now Sharenet Analytics) into companies used by hundreds of hedge funds, brokerage firms, financial advisers and private investors around the world. An enthusiastic educator, he will have you trading and investing with confidence & discipline.

The information contained in this article is for informational purposes only and must not be regarded as a prospectus for any security, financial product or transaction. It is neither to be construed as financial advice nor to be regarded as a definitive analysis of any financial issue. Investors should consider this research/article as only a single factor in making their investment decision. We recommend you consult a financial planner/advisor to take into account your particular investment objectives, financial situation and individual needs. The views and opinions (where expressed) in this article are those of the author and do not necessarily reflect the official policy or position of Sharenet.