Investors always want to know the reason for why the market and / or currency went up or down. If we can explain it then we think we can control it, which makes us feel a lot better than the alternative that any price move is completely random and potentially irrational. The latter is unfortunately closer to the truth when applied to short-term market moves and when I say short-term this could even mean years of irrational behaviour driving prices way off their underlying intrinsic value and what always seems obvious in hindsight.
Trying to explain market moves is also a behavioural finance bias dating back to our prehistoric days when it was extremely important to identify patterns. You needed to know when and where the lions ate to avoid being eaten. When it comes to explaining the daily moves in the stock market and / or the rand there is a much simpler explanation and that is the effect of the marginal buyer / seller.
When the stock market and / or asset price goes up that means there are more buyers than sellers and conversely when the market goes down there are more sellers than buyers. That’s it, as simple as that. Is there any rational decision for selling and / or buying, probably not! Keep in mind in an efficient market hypothesis the buyers and sellers have the same information and yet an opposing view.
South Africa has a very open, efficient and liquid market with a free-floating currency, which is very tiny in global terms. Foreign investors own circa 40% of our bond and equity market, but more importantly they represent the marginal buyer / seller and thus the driver of daily returns and / or volatility.
Foreign investors are not the smart money one may have thought but have proven themselves to be a very good contrarian indicator of when to buy and when to sell. This intuitively makes sense as rather than rely on bottom-up analysis and research foreign investors seemingly react to daily noise flow after the fact. The recent surprise announcement of a technical recession was a good example of foreign investors kneejerk reaction to bad news as they sold our market and currency down. Of course, this provides the opportunity for local investors to profit by taking a long-term bottom-up view.
Investors should not pay too much attention to the daily noise / volatility but use it to their advantage by buying from or selling to an irrational foreigner.
Mcomm, CFP®, HdipTax
T. 021-851 3746