Use indices to wisen up your investment decisions
FROM this week, two new derivatives indices come into being on the JSE - the Mining Producers Top 15 Companies Index (MINI15) and the Financial Top 15 Companies Index (FINI15).
While this news may be of much more interest to futures traders, it can help you as a private investor to make better choices when buying shares.
The factor to consider (as if there weren't already enough) is whether a share makes up a derivatives index or not.
These days, just about every share - big or small - is included in the JSE's many indices, but only a select few make up the indices used for futures or derivatives trade. And this is where the action can take place.
Up until now, futures traders have relied on four indices: the all-share index (ALSI) which consists of the JSE's 40 largest companies; the all-gold index (GLDI) which is made up of the eight biggest gold producers; the industrial index (INDI) with its 25 members and the financial industrial index (FNDI), home to 30 companies.
Becoming an index stock is not easy and is often considered quite an accomplishment by the companies that do. Size counts most, as measured by the company's market capitalisation. Also important is liquidity - or how easy it is to trade the company's share.
But the potential downside is that index stocks can sometimes be manipulated and shoved on a rollercoaster ride which has nothing to do with what's happening inside the company.
Even so, some analysts believe they can offer advantages over other shares.
The theory is that because they are highly tradable, investors will be able to sell them when they need to, thus making them more secure investments.
And because there are usually buyers, such as pension funds or index unit trusts, waiting in the wings to pick them up, their share prices may rise faster in a good market. For the same reasons, they may not fall as hard as other shares in a bad market or they may recover faster.
But it is not possible or practical to generalise. Index stocks, for example, were among the biggest losers during October's stock market turmoil, and some days they may fall when other shares, like small companies, are rising.
Being part of the futures indices has certainly done wonders for Dimension Data's share price. Since it was included in the ALSI and INDI in June last year, its price has risen from about R18 to around R26.
The move may have made the counter more liquid and placed it more in the forefront of peoples' minds but, according to financial director Malcolm Rutherford, one concern is the share price volatility that sometimes results from being part of an index.
Because Didata has an extensive share-option scheme, many staff members monitor their worth each morning and can be disillusioned if the share price falls or jumps around a lot.
Futures-related index stocks comprise the largest companies trading on the JSE and most, as such, are out of the average investor's price range.
The rare exceptions are some gold shares and Iscor.
Up until three years ago, the JSE's own indices were only made up by large companies. These days, however, just over three quarters of the 700 securities listed on the JSE are used to compile its indices. The exceptions are pyramid holding companies, debentures, preference shares and options.
To provide a broader picture of the market's performance, the JSE has also added a "mid-cap" index, which excludes the 40 largest companies in terms of market capitalisation and includes the next 60 in size. The rest of the market is included in another index, the "small-cap" index.
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