Friday, 8 May 2020

KLCI: Suffering from a “Dead Cat Bounce Effect”?

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

1.     A Wealth of Common- Sense: A Short History of Dead Cat Bounces, by Ben Carlson, 29 March 2020. ( Blog URL:
2.     “Analysts Cutting Corporate Earnings Forecast”, by Tee Lin Say, 27th April 2020, Star Biz Special.

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