A temporary recovery in share prices
alter a substantial fall, caused by speculators buying in order to cover their
positions is called the “dead cat bounce effect” (“DCB”). Why is it called
“DCB”? Because even a dead cat will bounce if it falls far enough and fast
enough.
During the Great Depression stock market
crash, there was a 47% rally from late 1929 until the early spring of 1930. It
didn’t last. Before that rally, stocks had fallen 45%. Then, after rising
almost 50%, they would go on to crash by more than 80%.
The bear market 1973-1974 cut in half
the index but there was a 20% bounce before it was over. Even the 2007-2009 market crash gave us a
gain of more than 25% which was then relinquished. The bear market from
2000-2002 saw three separate rallies of around 20% before the bottom fell by
more than 50% from the peak.
On a graph/ spreadsheet, it often looks
like market crashes are a straight line down which is not typical.
Source:
A Short History of Dead Cat Bounces by Ben Carlson.
That’s why it is difficult to tell the
difference between a dead cat bounce within a bear market and the actual market
bottom. When stocks do eventually bottom, they tend to see strong gains coming
out of the gate. Markets are usually driven by corporate earnings, business
outlook, liquidity, growth in GDP and speculation, amongst others.
A business may survive with a loss for a
period, but it will not last long without cashflow. Several listed companies in
Malaysia now require restructuring. Small businesses need new cash infusion
from Government or other investors. Government’s direct fiscal injection
amounts to 2.4% of GDP, far below developed economies.
Many businesses assume that the worst of
the pandemic will be over by 4Q, 2020. That may be a tall order with no vaccine
in sight. More likely for a U-shaped recovery that will take 12-18 months from
now. That suggests mid-2021 to Q4, 2021.
The FBM KLCI has rebounded 12.2% as of
April 24 from the low of 1,220 on March 19. Jeremy Goh of Hong Leong Investment
Bank suggests four possible scenarios of the FBM KLCI bottom:
i)
1037
based on a 45.3% decline like the global financial crisis magnitude;
ii)
1029
based on PE of 11.6x (global financial crisis low);
iii)
1236
points based on 1.22x P/B ratio (global financial crisis low); and
iv)
1094
points based on P/B ratio of 1.08x.
The global financial crisis mean for P-E
was 14.6x (tagged to mid-2021 earnings). That reflects both a downturn and a
rebound. It is not easy to predict market sentiment but please remain cautious
in the next few months as markets react to the full economic effects of the
pandemic.
We at MP Capital, remain long on
humility and short on the “dead cat” effect. As such we assume no liability
expressed (or otherwise) on the above range of possibilities. Good luck!
Source:
Hong Leong Investment Bank; Star Biz Report,27 April 2020
Reference
1.
A
Wealth of Common- Sense: A Short History of Dead Cat Bounces, by Ben Carlson,
29 March 2020. ( Blog URL: https://awealthofcommonsense.com/2020/03/a-short-history-of-dead-cat-bounces/)
2.
“Analysts
Cutting Corporate Earnings Forecast”, by Tee Lin Say, 27th April
2020, Star Biz Special.
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