Are stock prices running afoul of fundamentals?
Thursday, 1 November 2007
Enayet Rasul
A bullish trend in the share market should be ordinarily welcome. It motivates people buy and sell shares to make money and invest in securities. But a bullish trend, fed entirely by the prospect of making a fast buck not supported by company fundamentals, is unlikely sustain itself. It will only create an illusion of a surging market, a house that looks pretty from the outside but not resting on strong pillars or foundation. Such a house will not stand for long. It will inevitably collapse after a time taking the inmates along with it. On the other hand, a house built on a strong foundation, even after its expansion and putting of more stories, not only stands but goes on enriching and making happier its inmates.
The stock markets are no different from the above examples. Time is more than ripe to evaluate and put in place appropriate safety-valve for safeguarding the interests of the investors and ensuring sustained growth of the market. The current unusual trend in the Dhaka and Chittagong stock exchanges should be a matter of serious concern because the trend may be only a transient phenomenon. The short term bullish trend may soon be followed by a longer term bearish market to erode much of the value of capital attracted. No doubt, the success of many, who are making good money in the market now, is alluring others to join the scramble. One is reminded of the 1996 when a similar craze was created by the market before it collapsed. The prospect of becoming millionaires overnight led then thousands to borrow and many spent the resources gained from selling family valuables, even land, to buy shares. But when the market crashed in 1996, most of them gained not only nothing but were much poorer than before. The share scam in 1996 made countless paupers and many miserable individuals. It also dealt a severe blow to the market image that kept investors away from it for long frustrating bids to develop the market. Many reformatory steps were taken since then. In terms if institutional developments and regulatory measures, the market today is certainly better placed than in the mid nineties. But this does not rule out the possibility of a market crash. Some quarters have already raised questions whether the share market is heading for a long lasting depressed period with the 1996 situation repeating. If that happens, the losers would be potential investors wanting to raise their capital from the market.
It is, therefore, very important for the regulating authorities to take corrective action to avert another big collapse that would shatter investors' confidence on market.
The main DGEN or the general index of the Dhaka Stock Exchange (DSE) soared to 2901.99 on October 25, adding 1292 points or 80.30 per cent in just 10 months, to 1609.51 at the end of December 2006. The rise in prices drove market capitalisation to Taka 707.94 billion on October 25, from Taka 315.45 billion at the end of last December. If the growth was caused by new shares with good fundamentals, there would be no reason for worry. But that is not clearly the position for many stocks that have registered a very high rise in market prices.
The growth of capital market, the mobiliser of finance, normally reflects the increase in the activities of trade and industries. But there has been a remarkable downtrend in the economy of Bangladesh during the last ten months. Some economists now apprehend that the projected growth rate of 6.5 per cent for the present fiscal year may fall short by at least two percentage points, if not more. New investment remains shy. Export earnings are falling. The share market usually rises if there are signs of the economy doing well. But the present pessimism, gripping different stakeholders, about the performance of the Bangladesh economy, contrast with the stock market bull run. The two developments are completely contradictory -- one does not support the other. The realities in the ground do not justify on the sustainability of the robust stock market performance. It is, at best, a very short term phenomenon to be followed by a 'correction phase' leading to a market meltdown, at a bewildering pace.
According to analysts, the market is heating up because of sudden and large scale money transfers, from other sources, into it out of an anticipation of quick and higher yield. The banks, giving less interests against deposits, are losing savers. They are also being increasingly attracted to the share markets. Investors in real estate as well as official savings certificates are doing the same for reasons of less returns from them. In the economic depression, even financial institutions, unable to find enthusiastic takers of their surplus liquidity, are joining to make fast money in the capital market. All these factors are working together to create a condition under which more and more funds are being attracted to the share market. As the supply of shares has not increased, too much money is chasing too few shares. Even the least preferred shares traded earlier below their face value, are now being sold at much higher prices with no relationship to their fundamentals. This cannot go on for long.
An increase in the supply of shares could be a way out. Government should promptly offload its shares in profitable public enterprises. It can also consider releasing of bonds in the market, for its various developmental projects. Such actions of the government will yield for it resources and at the same time provide a safety-valve for cushioning against any possible risky developments.
A bullish trend in the share market should be ordinarily welcome. It motivates people buy and sell shares to make money and invest in securities. But a bullish trend, fed entirely by the prospect of making a fast buck not supported by company fundamentals, is unlikely sustain itself. It will only create an illusion of a surging market, a house that looks pretty from the outside but not resting on strong pillars or foundation. Such a house will not stand for long. It will inevitably collapse after a time taking the inmates along with it. On the other hand, a house built on a strong foundation, even after its expansion and putting of more stories, not only stands but goes on enriching and making happier its inmates.
The stock markets are no different from the above examples. Time is more than ripe to evaluate and put in place appropriate safety-valve for safeguarding the interests of the investors and ensuring sustained growth of the market. The current unusual trend in the Dhaka and Chittagong stock exchanges should be a matter of serious concern because the trend may be only a transient phenomenon. The short term bullish trend may soon be followed by a longer term bearish market to erode much of the value of capital attracted. No doubt, the success of many, who are making good money in the market now, is alluring others to join the scramble. One is reminded of the 1996 when a similar craze was created by the market before it collapsed. The prospect of becoming millionaires overnight led then thousands to borrow and many spent the resources gained from selling family valuables, even land, to buy shares. But when the market crashed in 1996, most of them gained not only nothing but were much poorer than before. The share scam in 1996 made countless paupers and many miserable individuals. It also dealt a severe blow to the market image that kept investors away from it for long frustrating bids to develop the market. Many reformatory steps were taken since then. In terms if institutional developments and regulatory measures, the market today is certainly better placed than in the mid nineties. But this does not rule out the possibility of a market crash. Some quarters have already raised questions whether the share market is heading for a long lasting depressed period with the 1996 situation repeating. If that happens, the losers would be potential investors wanting to raise their capital from the market.
It is, therefore, very important for the regulating authorities to take corrective action to avert another big collapse that would shatter investors' confidence on market.
The main DGEN or the general index of the Dhaka Stock Exchange (DSE) soared to 2901.99 on October 25, adding 1292 points or 80.30 per cent in just 10 months, to 1609.51 at the end of December 2006. The rise in prices drove market capitalisation to Taka 707.94 billion on October 25, from Taka 315.45 billion at the end of last December. If the growth was caused by new shares with good fundamentals, there would be no reason for worry. But that is not clearly the position for many stocks that have registered a very high rise in market prices.
The growth of capital market, the mobiliser of finance, normally reflects the increase in the activities of trade and industries. But there has been a remarkable downtrend in the economy of Bangladesh during the last ten months. Some economists now apprehend that the projected growth rate of 6.5 per cent for the present fiscal year may fall short by at least two percentage points, if not more. New investment remains shy. Export earnings are falling. The share market usually rises if there are signs of the economy doing well. But the present pessimism, gripping different stakeholders, about the performance of the Bangladesh economy, contrast with the stock market bull run. The two developments are completely contradictory -- one does not support the other. The realities in the ground do not justify on the sustainability of the robust stock market performance. It is, at best, a very short term phenomenon to be followed by a 'correction phase' leading to a market meltdown, at a bewildering pace.
According to analysts, the market is heating up because of sudden and large scale money transfers, from other sources, into it out of an anticipation of quick and higher yield. The banks, giving less interests against deposits, are losing savers. They are also being increasingly attracted to the share markets. Investors in real estate as well as official savings certificates are doing the same for reasons of less returns from them. In the economic depression, even financial institutions, unable to find enthusiastic takers of their surplus liquidity, are joining to make fast money in the capital market. All these factors are working together to create a condition under which more and more funds are being attracted to the share market. As the supply of shares has not increased, too much money is chasing too few shares. Even the least preferred shares traded earlier below their face value, are now being sold at much higher prices with no relationship to their fundamentals. This cannot go on for long.
An increase in the supply of shares could be a way out. Government should promptly offload its shares in profitable public enterprises. It can also consider releasing of bonds in the market, for its various developmental projects. Such actions of the government will yield for it resources and at the same time provide a safety-valve for cushioning against any possible risky developments.