Companies that mainly make their money in South Africa (as opposed to those who sell most of their products abroad) have been hit particularly hard.
Banks like Standard Bank and Nedbank, and retailers like Shoprite and Pick n Pay, are down almost 30% since April. According to historic valuations, they are starting to look cheap.
But not as cheap as South African small and mid-sized companies – which are, in fact, among the cheapest shares in the world.
Keith McLachlan, a small and mid-cap specialist fund manager at AlphaWealth, compared the share prices of these South Africa companies to their book value, the amount left over if a company sold all of its assets and paid down its debts.
On average, South African small companies are now trading at almost exactly their book value.
Historically, these shares were almost always rated much higher than their book value, McLachlan says.
And across the world, large and small shares are currently trading at even higher multiples of their book value than in the past.
In a report entitled “Once-in-a-crisis opportunity", McLachlan details how far behind South African smaller shares have fallen compared to shares around the world, leading to “quite an insane valuation differential at any point in time for any country or market that is not in civil war (SA is not), turmoil (SA is not) or massive, protracted recession (SA is not)”.
“The returns generated from investing at these low valuations could potentially set people up for life. Just ask those people who bought during the trough of the Credit Crisis a decade ago.”
McLachlan says that South African small caps are currently the cheapest shares in the world (apart from some equities in Italy, "that are cheap for a very good reason"):
Medium-sized companies are also among the four cheapest sectors in the world.
McLachlan expects profitability of small and mid-sized companies to recover over the next three years thanks to an improving South African economy, and highlights the following
McLachlan also says the “balanced” Mining Charter and the impact of changes to visa regulations on tourism should boost economic growth.
“Right now, it feels like the bottom in every respect,” he added. “Our local small cap market’s valuations offer a great opportunity for allocation right now. Never waste a good crisis”
“When you invest in small caps you want to do it in a smart and diversified way by screening all the junky ones out and focus on quality and maybe other factors like shareholder yield and free cash flow," says Bright Khumalo, portfolio manager at Vestact Asset Management.
“You diversify these with your mid-cap portfolio and your large-cap portfolio. A small cap-only portfolio is a sure way to induce a heart attack.”
He favours companies with good management teams. Khumalo likes Stadio, AdaptIT, Afrocentric, AdvTech, and Transaction Capital.
Piet Viljoen, executive chairperson of RECM, has a long list of smaller companies that he thinks offer value, including
"The important point to remember is that any one (or even more) of these companies might even go under," says Viljoen. "You just don’t know which one."
"So a sensible strategy would be to buy a diversified basket of the equities of reasonably uncorrelated businesses.
"And then to leave them alone and resist the temptation to trade them. Over time, the winners should outweigh the losers by a large margin."
Also from Business Insider South Africa: