Investors thinking of getting back into small caps should take note

While the main indices show that the JSE has largely recovered from the sell-off in February and March when the market dropped by nearly a third, the prices of individual shares tell a totally different story. The apparent recovery in share prices was mostly limited to those of large international companies, assisted by a weaker exchange rate.

The damage among smaller companies remained. No fewer than 130 shares are still reflecting declines of more than 30% relative to their annual highs, and an astounding 20 shares ended July more than 80% lower than their best prices during the past 12 months.

Share prices at July 31 compared to 12-month high
Share	Price	12m high	Decline
Ecsponent	1	18	-94%
Astoria	21	249	-92%
Nampak	116	1130	-90%
Adcorp	280	2400	-88%
CIL	35	297	-88%
MC Mining	112	880	-87%
Phumelela	41	300	-86%
City Lodge	1598	11550	-86%
ArcelorMittal	38	259	-85%
Brait	278	1819	-85%
PPC	78	499	-84%
Ascendis	80	505	-84%
Accent	8	48	-83%
African Dawn	16	95	-83%
ELB Group	180	1000	-82%
Sephaku	33	178	-81%
Sun International	964	5138	-81%
Luxe	229	1200	-81%
Adapt IT	133	694	-81%
CSG	13	65	-80%
Novus	80	400	-80%
Tsogo Sun	325	1522	-79%
HCI	2344	10800	-78%
Comair	100	399	-75%
EOH	486	1825	-73%
Hulisani	420	1550	-73%
South Ocean	22	80	-73%
Kibo	10	36	-72%
Massmart	1955	6200	-68%
Alviva	550	1700	-68%
Telkom	2895	8850	-67%
Motus	2840	8598	-67%
Net1 UEPS	5000	14800	-66%
Mpact	800	2357	-66%
Hulamin	99	290	-66%
Tongaat	452	1321	-66%
Invicta	858	2499	-66%
AEEI	70	201	-65%
Calgro	284	800	-65%
Merafe	45	122	-63%
THL	180	484	-63%
Lewis	1405	3700	-62%
Wescoal	65	170	-62%
Trellidor	169	440	-62%
ISA	65	169	-62%
Eastern Platinum	328	850	-61%
Jasco	19	49	-61%
TFG	6962	17931	-61%
Curro	889	2241	-60%
Reunert	3167	7918	-60%
Stefanutti Stocks	30	75	-60%
Primeserv	80	199	-60%
M&R Holdings	580	1441	-60%
Mazor	30	74	-59%
PFB	81	199	-59%
Finbond	157	385	-59%
Kore	23	56	-59%
Sasol	13624	33163	-59%
ENX Group	505	1220	-59%
Nedbank	10498	25124	-58%
Nuworld	2100	5000	-58%
Famous Brands	4183	9696	-57%
Sasfin	1512	3484	-57%
Unicorn	10	23	-57%
Stadio	136	297	-54%
Grinship	5254	11462	-54%
Conduit	62	135	-54%
Absa	7928	17206	-54%
KAP	260	559	-53%
Advanced	27	58	-53%
Distell	6762	14490	-53%
Sappi	2450	5196	-53%
Ethos Cap	375	790	-53%
Zeder	243	509	-52%
MastDrill	538	1125	-52%
Nictus	48	100	-52%
Steinhoff	100	205	-51%
Rex Trueform	916	1865	-51%
Insimbi	58	115	-50%
Truworths	3263	6440	-49%
Barworld	6621	12858	-49%
Woolies	3173	6151	-48%
Caxton	408	790	-48%
InvLtd	3324	6434	-48%
MTN	5914	11445	-48%
Pepkor	1006	1943	-48%
Aforbes	326	627	-48%
Quantum	606	1157	-48%
Clientele	874	1650	-47%
Imperial	3354	6300	-47%
Brimstone	480	900	-47%
CMH	1240	2300	-46%
York	100	185	-46%
Grand Parade	208	380	-45%
Lib Hold	6875	12532	-45%
Old Mutual	1147	2089	-45%
Huge	349	630	-45%
FirstRand	3882	6990	-44%
Kaydav	50	90	-44%
Spur Corp	1610	2880	-44%
Cashbuild	15990	28500	-44%
Stanbank	10861	19330	-44%
Advtech	740	1309	-43%
Bell	600	1050	-43%
Bluetel	275	475	-42%
Bidvest	13192	22617	-42%
Hudaco	6998	11984	-42%
Omnia	2728	4656	-41%
Cafca	100	170	-41%
Trematon	171	290	-41%
Dis-Chem	1729	2930	-41%
Capitec	88412	149756	-41%
Datatec	2245	3797	-41%
Sebata	366	615	-40%
Gemfields	131	220	-40%
AME	1875	3100	-40%
Astral	13699	22252	-38%
Pick n Pay	4507	7299	-38%
AB InBev	94044	151318	-38%
Vivo	1679	2700	-38%
Super Group	1900	3049	-38%
Kaap Agri	2310	3700	-38%
Homechoice	2500	4000	-38%
PSG	15429	24681	-37%
Remgro	9243	14666	-37%
E Media	350	550	-36%
Netcare	1360	2132	-36%
Mustek	599	934	-36%
Mr Price	12669	19646	-36%
Shoprite	10457	15955	-34%
Metrofile	206	314	-34%
Life HC	1737	2600	-33%
Italtile	990	1450	-32%
PSG Konsult	700	1000	-30%

Source: Published share prices, Moneyweb calculations

A quick look at the list immediately raises a list of questions, the first and most important is whether there are any shares that will recover quickly.

‘Bargains’ abound

There are a lot of well-known and (sometimes) popular shares on the list that are trading at a fraction of their 12-month best prices, such as Nampak, City Lodge, ArcelorMittal, PPC, Sun International, Novus, Lewis, Reunert, Telkom, Massmart and a couple of SA’s large banks.

However, bargain hunters need to be cautious. There are often reasons for the large declines seen in share prices.

Stephán Engelbrecht, fund manager at asset manager Anchor Capital, warns that the outlook for the global and SA economy has changed dramatically over the past 12 months and, unfortunately, “for the worst”.

“The Covid-19 pandemic and the subsequent lockdowns across the world have had significant implications for many listed companies,” he says.

“Although it appears as though equity markets have recovered when looking at the index, the recovery has been driven by very specific companies that have been beneficiaries of the lockdowns, like gaming, media, e-commerce industries and precious metal miners. Most companies listed on JSE, and even in the US, are still significantly below their previous highs.”

Engelbrecht points out that smaller companies in particular have been laggards across the globe during this market recovery, adding that Anchor is in no rush to buy SA-listed companies just because they are trading significantly below their 12-month highs.

Earnings impact 

“We believe their earnings will be severely impacted by the contraction in the economy due to the Covid-19 lockdown. Many pundits believe that the SA GDP will only recover to the 2019 level in 2023 and some of these companies may take even longer to recover,” he warns.

“We believe that the share prices of these companies will remain volatile with a dearth of buyers due to the lacklustre SA economy not really providing any incentive for investors to rush in to buy.”

Engelbrecht says that a few shares might look attractive with a medium to long-term view in mind.

Shares to watch

“Companies like Alviva, Telkom and Reunert have been hard hit as investment in the SA economy dried up. We believe that unless you believe that SA will forever remain in a recession, investment will recover eventually.

“Reunert should benefit from an improvement at Eskom, but unfortunately this will not happen overnight. Alviva and Telkom have been hard hit as corporates tightened their belts and focused on cost-cutting, but you can only cut that much,” says Engelbrecht, “and the digital revolution could benefit Telkom and Alviva.”

He says other strong performers from the past, like Curro and Foschini, are also starting to look interesting. “These counters were hard hit due to excessive debt – forcing them to raise new capital. But their business models are sound and they should still benefit from structural changes within the SA economy over the long term.”

He indicated that Anchor will continue to avoid companies exposed to the leisure, travel and gaming sectors until things improve.

Sentiment

Andrew Dittberner, chief investment officer at Old Mutual Wealth Private Client Securities, says that identifying shares that may recover as the lockdown eases requires one to identify areas of the market that have been hardest hit in recent times on the back of the economic lockdown, and then having a resolute belief that the economy will turn around and recover.

“The mood is very depressed with regards to the local economy and most companies that are geared towards local economic growth have seen rapid declines in their share prices.

“We have learnt from the Ramaphoria trade of 2018 that share prices do react very quickly to a change in sentiment, and thus any sign of recovery is likely to be met with many of these SA shares appreciating rapidly,” says Dittberner.

“What is very difficult to do, however, is to firstly invest in such an environment and then to have the patience to wait out a recovery.”

Any to avoid?

Moneyweb posed the question if there are any shares that should be avoided totally.

Dittberner answered that one should start by assessing any company’s financial stability. “This is even more important today, given the current economic environment. Shares to avoid in these times would be shares whose chances of survival are questionable,” he says.

“Investors must be cautious of being lured on the pretence of cheapness alone. There are many parts of the market that look very attractively priced at the moment, particularly when comparing valuations to longer-term valuations. Unsurprisingly, it is the parts of the market that are exposed to the local economy.

“Large capitalisation multi-national industrial shares and resources have generally done very well of late. A stagnant economy for many years have seen valuations grind lower, and the uncertainty surrounding Covid-19 and economic lockdowns have pushed valuations even lower.

“A clear example is banking shares. While banks trade below book value, one needs to ask the question whether the headwinds, which are many, are going to dissipate any time soon,” says Dittberner.

The list of shares that have fallen hard includes many smaller companies, which a lot of investors usually find interesting, sometimes irresistible.

“No company is too big to fail,” says Dittberner, “but size does bring an element of safety that small companies simply do not possess. Larger companies can typically withstand the gravitational pull of the economy given they typically have access to credit lines, the ability to raise capital in the market, larger bank balances and assets to sell should it be necessary.

“Small caps, on the other hand, can be more agile than their larger counterparts. But they need to be able to survive first. Small caps thus do present an opportunity, but investors really need to get their hands dirty and ‘kick the tyres” to ensure they understand what they are investing in and the associated risks thereof.”