Getting into the NSE game

Investment is about taking a risk today for a better tomorrow. An investor sacrifices his or her consumption today for a better consumption tomorrow.

It could be a day, month, a year or years depending on the asset or assets that the investor chooses and the period for which the investor will hold an asset.

The big question is, would you walk at Nairobi Securities Exchange (NSE) today and invest? The news from the NSE is that foreign investors are significantly offloading their shares.

Does this mean a loss of confidence in the NSE or is a case of foreign investors revising their portfolio? As a result of this, the prices at NSE are low.

The way the securities’ market works is that whenever the supply of a security exceeds the demand, the price of that security will fall, and that is what is happening in the market.

Investors would want to invest in a portfolio of assets that enhance their returns.

To achieve this objective, investors must figure out the right time to be holding stocks, the right time to sell stocks and move money to other assets of a lesser risk such as Treasury bills and government bonds.

My bet is that, as of today, some investors would sell shares while other would buy. This is how markets work.

Markets are competitive and investors are of different risk profiles. Some like too much risk, some would not invest unless they are adequately compensated for the risk, yet some are risk indifference.

This explains why in any well-functioning market, buyers and sellers exist at any time.

Risk management is the animal at NSE, but a resolved issue in investment choices is that investors are better off not investing in one asset.

Successful investors spread their investment among different assets to reduce their risk - hence the famous adage, do not put all your eggs in one basket.

In a normal working market, the returns on a risky asset should be higher than those from riskless assets.

This was confirmed by a study in the US by Ibbotson Associates in 1997 that looked at annual returns, risk and from Treasury bills, government bonds corporate bonds and ordinary shares over the period 1926-1996.

Unfortunately, we do not have such statistics necessary to gauge the performance of our capital and money markets over such a long period of time.

We know little about the returns that the investors at NSE should expect on average from various securities. It is high time we did a similar study about the NSE. In markets where securities are correctly priced, the high return on stocks compared to return on T bills is a reward for taking extra risk.

The return on risk-free asset is purely a reward for time, while the return from shares is a reward for both time and risk.

Questions such as what is the average return when the market goes down (bear market) or what is the average return when the market goes up (bull market) remain unanswered at NSE.

The NSE and the Capital Markets Authority must provide answers to these questions because the success of any security market depends on the quality and timely information.

In any case, the institutions that monitor our capital and money market have heavily invested in research departments. In any market, rational investors are constantly in search of an investment system that can produce high returns with low risks at an affordable transaction cost. At NSE, there have been high returns on shares and paltry returns at other times.

This confirms that risk is alive at NSE, but this risk has enabled a class of investors to make lots of money at NSE and lose money too.

 In a market that efficiently prices their financial assets such as shares and bonds, investors are only rewarded for the risk that they cannot avoid, and should not expect to be rewarded for the risk they can avoid.

As an example, the shares in companies that employ substandard managers will perform poorly relative to those with good managers because the capital market punishes poor management.

Employing non-performing managers cannot be a whole market phenomenon, it is unique to individual firms and markets do not reward such because it is unnecessary pain.

The question is: Is it the right time to own stocks? Those seeking to cash in on their stock should go into the market now because the share prices are currently at their lowest, the argument being that they can only go climb upwards from here.

In any case, we are at our lowest and all of us would fight to get out of this mess.  However, the nature of stock markets that even during periods of posture stock returns investors are exposed to high risk.

However, investors who have been in the stock market for a long time are made aware that, in the long-term market tend to reward risk.

A share like BAT’s was selling for Sh51 in October 1996 but is currently selling at Sh790.

This means if you invested Sh51,000 in 1996, your wealth currently stands at Sh790,000, an annual growth of per year of 28.28 per cent per year.

Remember that BAT pays very attractive dividends in each accounting year! However, Unga Ltd’s share that was selling at Sh25 in 1996 now sells at Sh29.

Capital appreciations

East African Breweries share that traded at around Sh42 in October 1996 currently sells at Sh242 and at one time stood at Sh350. Mumias Sugar Company shares have collapsed.

If you added dividends paid by companies to these capital appreciations, you would notice that returns are far much higher.

This is what investors refer to as long-run wealth accumulation. In other words, many investors burn their fingers, but an equal share make themselves a pile of money at NSE. Investing in shares should be a long-term strategy not short-term.

By taking a risk in certain stocks, you stand to gain immensely, which is why investing in the bourse is considered a risky venture.

-The writer teaches at the University of Nairobi