Doyl Smith, Contributor 
Smith
THE STOCK market for 2005 started with a bang and was reduced to a fizzle. All the indicators were in place for the market to have a great year. From 2002 to the end of 2004 there was an unbroken stretch of double digit increases, climbing from an average market return of 32 per cent in 2002 to an exceptional return of 66 per cent in 2004. Funds flowed into the market moving the averaged daily trade volume from $30 million in 2002 to over $114 million per day in 2004. The Treasury bill rate fell from a high of 28 per cent in early 2003 to a more modest 13 per cent at the start of 2005. The dollar was stable and multiple IPO's were in the air. So why did the market disappoint?
Several unconnected factors served to create the equivalent of a perfect storm, for investor confidence in '05. In sequential order they were:
The February suspension of Dyoll. After a successful rights offer, paying off its FINSAC debt, and growing revenues the company started to generate significant investor interest. This interest grew at a faster pace following the significant purchase by NCB in February 2004 of $561 million in shares at nearly $20 per share. After the suspension and with fears that the company may be liquidated several institutions completely wrote off the value of the shares. The protracted investigation by the Financial Services Commission (FSC) into the question of whether there was insider trading also served to raise investor concerns on the overall market.
During the major April to May earnings season the average company earnings dipped. The just concluded December year saw the fourteen bellwether stocks close the year with an average net profit increase of 93 per cent. In May these same companies reported a more modest first quarter increase of 39 per cent. Investors who had become accustomed over the past twelve months to high double digit and super normal triple digit earnings increases did not view the results favourably.
A further negative influence came from unsatisfied market expectations on Mayberry. With Mayberry's IPO coming to market at $5.05 many were of the view that it would hit $10 within three months. After climbing to $8.20 in April Mayberry's stock price slid below its IPO price in July and continued trading lower, eventually slipping below its book value of $2.31 in November before regaining some upward momentum.
Reports from the meteorological services indicated that the Caribbean was poised to have the worst hurricane season. With the hurricane season starting in June and memories of the unforeseen impact on Dyoll from the last hurricane season, investors worried which companies may be impacted if a large hurricane were to hit the island. Jamaica was hit by hurricanes Dennis (July) and a week later Emily during the season and suffered with rains and flooding from Wilma in October. While there were costs to the island the concerns of damage on a 'Hurricane Gilbert ' scale did not occur.
The year closed with a devaluing dollar moving from $61.70 in June to north of $64.48 in November. With mid year apprehension that the inflation figures may close the year at 20 per cent questions were being asked if the BoJ would be able to source funds at the current low rates or have to increase interest rates creating another negative scenario for the market.
These factors together resulted in many investors, institutional and retail, becoming 'negative news weary' holding back on buying while simultaneously selling positions to lock in portfolio gains. The price to earnings ratio or PE ratio (the overall price that the market was willing to pay per dollar of earnings) moved from a positive, forward looking average of 19.39 times to a much lower ratio of 12.1 times.
In other words, investors that were willing to pay $19.39 per dollar of earnings on average for most companies were now only willing to pay $12.10 per dollar of earnings. A more direct example would be Grace. The market at the beginning of 2005 was willing to pay $17.01 (PE 17.01) per dollar of Grace's $6.93 per share earnings. This equalled a market price of $117.95. With reduced confidence that the company and therefore the average market's earnings would not be growing as rapidly as before by February 2006 investors were only willing to pay $11.46 for the company's earnings per share of $6.89 leading to a market price decline to $78.99.
HOW DID OUR RECOMMENDATIONS FOR 2005 DO?
In our article published at the beginning of 2005 we pointed investors to which sectors would be the best performers for the year and which companies would be standouts. We were bang on with our recommendations with both the best performing sectors, Conglomerate and Communications, and best stocks in those sectors. Lascelles and Pan Jam lead the Conglomerate group while RJR and Gleaner lead the communications sector.
Next week we will look at what to buy in 2006.
All information contained herein is obtained by JMMB Securities from sources believed to be accurate and reliable. All opinions and estimates constitute the Analyst's judgment as of the date of the report. However, neither its accuracy and completeness nor the opinions based thereon are guaranteed. As such no warranty, express or implied, as to the accuracy, warranty, express or implied, as to the accuracy, timeliness or completeness of this report is given made by JMMB Securities in any form whatsoever.
Note: JMMB Securities may make markets and effect transactions, or have positions in securities mentioned herein. In addition, employees at JMMB Securities may have positions and effect transactions in the securities mentioned herein.
Doyl Smith is a registered investment adviser with JMMB Securities. He is professionally qualified with an MBA and has interned with Merrill Lynch, the largest investment bank and brokerage house on Wall Street. He may be contacted at doyl_smith@jmmb.com
