Colin Firer

Market timing on the Johannesburg Stock Exchange using derivative instruments

This paper investigates to what extent superior returns can be obtained from a market timing investment strategy on the Johannesburg Stock Exchange that makes use of derivative instruments. Traditional timing approaches, where timed switches are made between risky equities and risk-free cash, suffer from various liquidity and cost constraints. Timing using options is proposed as a more practical and efficient alternative. Two timing strategies are considered: bear timing, where put options are purchased in an attempt to protect an equity portfolio from market downturns, and bull timing where call options are purchased to enable a pure cash investor to participate in market upturns. Fair Value Models and Black-Scholes Option Pricing Models are used to price put and call options on the All Share Index and All Share Index Future for the period 1963-1992. Computer simulations are used to simulate the timing decision-making processes of investors with varying abilities in forecasting market movements. The research shows that extraordinary rewards are achievable from timing strategies using options. However, superior accuracy in forecasting market movements is still a critical factor in determining success. Bear timing is preferable to bull timing in efficient and rational markets. Nonetheless, in markets where deviations from the fair value of futures contracts occur, bull timing provides large arbitrage opportunities. A bear timing strategy with a short review period would appear to offer an attractive risk/return trade-off.

Market timing: A worthwhile strategy?

This study investigated the risks and returns associated with market timing investment strategies on the Johannesburg and New York Stock Exchanges. A framework for assessing the risks associated with market timing was developed. It was confirmed that the longer the review period, the lower the potential rewards available to market timers and the higher the required accuracy rates in forecasting. Shorter review periods therefore appear to be more favourable. Potential gains could be reduced by the increased transaction costs which result when the timing interval is decreased. Simulation of distributions of returns at various levels of predictive accuracy indicated that shorter review periods were not as risky as long timing intervals. A measure of overall risk, incorporating the risk of forecasting wrongly as well as the conventional measure of portfolio risk, was established. Plotting the risk/return profile of market timers, given a level of predictive accuracy, indicated that under all levels of accuracy, the simulated portfolio risk was substantially lower than that resulting from a buy-and-hold strategy. It would appear that timing abilities of approximately 70% are required to exceed a risk adjusted return resulting from holding the market index over the 23 year period studied. It was also shown to be riskier, and the rewards were lower, to diversify across time in comparison with a strategy of diversification within each time period. Timing on the NYSE appeared to be less risky than timing on the JSE but this result was perhaps a function of the investment period which was used.

The P/E Ratio and the Cost of Equity Capital

(1993). The P/E Ratio and the Cost of Equity Capital. Investment Analysts Journal: Vol. 22, No. 38, pp. 43-47.

Share price anomalies and the efficiency of the JSE

ABSTRACTShare price anomalies of a magnitude larger than the direct transaction costs of switching from one share to another were detected in 56 out of 60 pairs of closely related shares. Non-isolated anomalies were detected for 49 of these pairs. The extent of these anomalies indicates inefficiency of the JSE.Three factors were identified that contribute significantly to the extent and magnitude of the anomalies. A discriminant function of these factors correctly classified nine out of ten pairs of shares for which no non-isolated anomalies were detected and 45 out of 47 pairs that had non-isolated anomalies.

The benefits of diversification on the JSE

Extracted from text ... Number 46- Part 4 MA Neu-Ner and C Firer The benefits of diversification on the JSE Introduction A fundamental cornerstone of investment theory is the principle of diversification. Risks inherent in an investment are often described as being made up of those risks which are common to all assets, and thus cannot be diversified (systematic or market risk) and those which are unique to the asset, and can thus be eliminated by diversification (firm-specific or non-diversifiable risk). As portfolio size increases, so the risk of the portfolio falls due to elimination of firm-specific risk. Of importance to investors is the ..

Bankers' Views on Securitisation in South Africa

ABSTRACTAsset securitisation is still in the embryonic stage of its development in South Africa. This paper documents the views of a group of senior bankers regarding the likely future trend of securitisation in South Africa. They are not convinced that the benefits of securitisation currently outweigh the costs, but believe that the phenomenon is likely to gather momentum.The primary advantages of asset securitisation are perceived to be that it provides savings on capital, has the potential to increase the non-interest income earned by banks, can improve returns ratios and will provide diversification benefits to investors.Major concerns expressed are that it is initially a complicated and time consuming process with high transaction costs. The reluctance of investors to accept these new securities is expected to be the most significant obstacle to their growth.

A Note on The Estimation of Betas for Single Industry Companies

In order to use the Capital Asset Pricing Model to estimate the cost of equity capital for an unquoted firm, it is often necessary to use the “pure-play” technique to obtain a surrogate beta with an appropriate asset structure for the unquoted firm.This paper identities betas tor single industry industrial companies listed on the Johannesburg Stock Exchange, it is shown that of the 121 such companies less than half have beta values that are significantly different from zero at the 95% level.This represents a serious inhibiting factor in the application of the Capital Asset Pricing Model to unlisted companies in South Africa.

Why different divisions require different hurdle rates

Abstract This paper discusses the concept of a weighted average cost of capital and shows why returns which exceed this cost of capital are required if shareholder wealth is to be increased. The concept is then analysed in the context of a divisionalized firm. Argument is presented to show why different divisions ought to have different hurdle rates for evaluating capital budgeting proposals. Finally the divisional costs of capital of a diversified industrial company are calculated in order to illustrate the principles outlined in the paper.

Should MBA students study the Theory of Finance

AbstractStudents come to business schools to gain the skills necessary to be good general managers. This paper poses the question as to whether there is a benefit to such students to be taught theory—and in particular the theory of finance. After briefly reviewing the field of financial management, the concept of a theory is discussed. This is followed by some thoughts on why, in general, theories should be studied. The theory of risk and return is then presented as a conceptual framework for the study of finance, and it is shown how important this framework is for students of management. Some comments follow on the gap between theory and practice, and finally it is postulated that finance, when taught in a risk-return framework, may be considered to be the key subject on the MBA programme.