Africa: Factors to Consider to Enjoy High Return On Investment

December 27, 2016
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Photo: Daily Monitor

Stock brokers go through the day’s trading at the Uganda Securities Exchange in Kampala using the new automated system (file photo).

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There are several factors that can influence return on investors (i.e. dividend and capital gain) for investors in shares. Some of the key factors to consider when investing in shares are: (1) demand and supply of shares of a company you have invested into or are considering to invest into; (2) economic variables such the economic growth as measured by the Gross Domestic Product (GDP), inflation, interest rates and exchange rates; (3) company specific performance and news; as well as (4) psychological or market cycle-related factors. Let us detail each of these:

Demand and supply

Share prices react to demand and supply of shares in a particular listed company. An increase in demand of shares means an increase in price, unless supply increases to match it. If an increase in demand is accompanied by a decrease in supply, the rate of share price rise increases. In other words, if more people want to buy a share (demand) than who want to sell it (supply), then the price moves up. Conversely, if more people wanted to sell a share than who wants to buy it, there would be greater supply than demand, and the price would fall.

Understanding supply and demand is easy. What is sometimes difficult to comprehend are factors what makes people demand (like) a particular share and dislike another share. This comes down to figuring out what news is positive for a company and what news is negative for a company?. There are many answers to this question and any investor you ask has their own ideas, strategies and responses to this question.

So, What influences supply and demand?

While supply and demand affect share prices in the market, it’s just as important to ask what influences supply and demand?

Earnings (profits)

Earnings are the amount of profits (after taxes) that a company produces during a specific period. Earnings are probably the most important word when you are dealing with the share market as they are the main determinant of the businesses’/companies’ share price, because earnings and the circumstances relating to them can indicate whether the business will be profitable and successful in the long run. In more developed markets (and in some emerging markets) business’s earnings are typically compared to analyst estimates and guidance provided by the business itself. In most situations, when earnings do not meet either of these estimates, a business’s/company’s stock price will tend to drop. On the other hand, when actual earnings beat estimates by a significant amount, the share price will likely go up.

Hence, a change in the direction of earnings or earnings forecasts cause a market reaction, which then affect the demand and supply for a share.

(ii) Profit (or loss) warnings

Profit (loss) warning is a declaration issued by a listed company to investors. It warns investors that the profit of the company in the coming period will obviously decline or even have a loss compared to that of the previous period. Investors should be aware of the possible loss when buying or selling its shares. Normally (and mostly in relatively advanced markets), in the weeks leading up to their reporting season, companies usually try to prepare the market for a profit rise or fall. This is currently the case in our listed companies. In August of this year, 2016 we at the DSE, introduced a rule that requires companies listed in the DSE to publish profit (or loss) warning reports few weeks before period end informing investors what to expect in their periodic financial statements publications.

A profit (or loss) warning usually paves the way for a share market price reaction before the actual result is announced. When a warning alerts the market that the company is poised to announce a big profit increase, the reaction is equally quick with a price rise in the shares.

Analyst research reports

Market analysts are always trying to anticipate what is ahead, rather than accurately diagnose the here and now. Part of the analyst’s job is to predict share prices movements. They do this by getting to know companies, through top down and bottom up researches, and they prepare forecasts and projections of the companies’ share prices. Through this process, investors can gauge the good and bad earnings news and the share price adjusts accordingly. We are yet to get good research analysts in our market in both the equity and fixed income space but we should aim at this, as a value addition to investors; stockbrokers and financial/investment analysts should be judged based on some of these research and analysis works to better inform their clients.

(iv) Reporting seasons

In Tanzania, public listed companies are mandated to publish reports of their earnings twice a year (once in every six months) i.e. interim results and final (also called audited accounts). Investors, especially sophisticated retail and institutional investors pay a good attention at these times, which are referred to as earnings seasons. The reason behind this is that analysts base their future value of a company on their earnings projections. If a company’s results surprise (are better than expected), the price jumps up. If a company’s results disappoint (i.e. are worse than expected), then the price will fall. For most of the year, expectation of profit is what influences the share price, as it is investors normally pays to buy future company’s earnings and cash flows.

However on the few trading days when the interim and final reports are released, a company’s actual profit results affect the share price. A profit report that doesn’t meet expectations usually results in a fall in the share price.

Market liquidity

In the business, economics, investment, and finance fields — the term market liquidity refers to an asset’s ability to be sold (turned into cash) without causing a significant movement in the price and with minimum loss of value of the asset. The ease of buying or selling a share can be a major influence on a share price.

If company’s shares are rarely traded, then even just a single active buyer or seller can decisively influence the share price in the short term. Non-liquid shares are usually more volatile in price than liquid shares.

Liquidity is an important factor towards influencing demand and supply of shares. It refers to how much investor interest and attention a specific share has. Blue chip (a company with a reputation for quality, reliability, and the ability to operate profitably in good and bad times) shares are usually highly liquid and therefore highly responsive to news; for the average small companies, the situation is less so.

Availability of trading volume (or free float) is one proxy for liquidity. But it is also a function of corporate actions and communications (that is, the degree to which the company is getting attention from the investor community). Large companies’ shares have high liquidity: they are well followed and heavily transacted. On the other hand, many small companies’ shares normally suffer from an almost permanent illiquidity because they simply are not on investors’ immediate attention.

As we have indicated above; earnings, market liquidity, market analysis reports and news are key factors that influence demand and supply of shares, which in turns affects and influence returns on shares investment and hence factors for consideration when investing in shares.

In the next week’s article we will focus on other factors that you, as an investor, should pay close attention into when you consider to invest in shares that are listed in the stock exchange or are being sold in the primary market via initial public offering (IPO) but with a clear intent for these shares to subsequently be listed into the secondary market (the stock exchange) to provide investors with an opportunity for continuously buy and sale the said shares in a market whose prices (and value) are determined by the forces of demand and supply. This is especially important now because we envisage (in the next few weeks and months) to have a slew of companies selling shares via the Initial Public Offering (IPO) and subsequently list into the Dar es Salaam Stock Exchange. Therefore a relatively good knowledge and investing skills in shares, especially for retail private individuals, is fundamental to enable sustainable success.

Mr Marwa is the CEO of the Dar es Salaam Stock Exchange Plc.



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