Buy shares on credit
Even though asset managers don’t like it
I WAS BAD last week. Very bad. According to many investors, buying shares on credit is the biggest sin and it would be enough to make any asset manager – or wealth manager, as they’re now called – go weak at the knees, especially since I did it with retirement funds.
Why buy shares now? In a detailed research document a few weeks ago, JPMorgan’s SA subsidiary gave prospective investors the go-ahead to buy value shares now. About four months ago, they weren’t interested in value shares. Those are shares, such as our banks and retailers, trading at exceptionally attractive earnings multiples of less than 10, or even less than 8.
The trigger that JPMorgan was waiting for was the inflation rate, which will soon reach its peak of around 13% and will then fall significantly to less than 6% by year-end 2010 if the SA Reserve Bank’s predictions are correct. That could happen. And that’s why JPMorgan is now quite happy for our better class of shares outside the resources sector to be bought again.
Merrill Lynch, another recognised name and opinion-former in SA, last week issued its Fund Managers Survey. According to its research the recommendation of by far the majority of SA’s asset managers is that you should now get rid of cash as quickly as possible and buy value shares, which even a few weeks ago were totally out of favour. According to Merrill Lynch, 88% of SA’s asset managers predict inflation will fall over the next 12 months and that interest rates could start falling by second quarter 2009.
Merrill Lynch says over the past quarter the number of cash bulls among fund managers fell from 44% to just 6%. But it also warns there are now no resources bulls left. That means not one of the fund managers they spoke to is excited about the resources sector. That would mean shares such as Impala Platinum, Sasol and ArcelorMittal shouldn’t be bought: in fact, they don’t belong in a portfolio. Of course, that negativity comes on the back of the oil price having fallen substantially over the past month.
However, there are resources bulls left elsewhere in the world and in SA, especially now that the resources index has already fallen by 25%. Some of the shares, such as Impala, are now more than 30% cheaper than they were two months ago and the share is now again cheap enough to include in a high-risk portfolio.
Three of the big banks and Investec are prepared to sell shares on credit. The so-called instalment shares listed on the JSE are nothing else than a method of buying shares on credit. On ordinary instalment shares the deposit or first instalment is usually 50% of the value of the share, plus interest for the following six, nine or 12 months.
On the so-called
enhanced dividend securities (hot EDS) the deposit is only 25%. Those are of course more risky than ordinary instalment shares, which are in turn more risky than ordinary shares.
I like Investec’s instalment shares. They’re relatively cheaper than those offered by Absa, Nedbank and Standard Bank because they contain the so-called “knock out” clause. That simply means if the ordinary share’s price falls below a certain level, Investec will cancel the hot EDS. The investor will receive the intrinsic value of the share after cancellation but the interest paid in advance is lost. Investec’s hot EDS are therefore even more risky than the ordinary shares available on credit offered by the other banks.
My list was compiled on the strength of the current share price, which must be significantly lower than the highest level at which the share traded over the past year.
Keep away from anything that’s currently near its peak. It’s like a second-hand car that’s still in good condition but the first owner has already faced the pain of a fall in its price. The two that investors should look at are the so-called knockout prices. Remember that if the price of the ordinary share falls to below that level, Investec will cancel the hot EDS.
Look at FirstRand. The knockout price is 1360c. That’s only 17% less than the share is now trading at, and just days ago FirstRand was trading at 1300c. That’s more risky than the hot EDS on Standard Bank, for which the knockout price is 6524c – 27% less than its current share price. Even in the darkest days earlier this year, Standard’s share price never fell to below 7000c.