Stock market boost looks like window-dressing

Interestingly, for both of the counters, those gains in share price were on the back of relatively low volumes of trades.

A study of nearly 10,000 stocks on the New York Stock Exchange found that on the final trading day of each quarter since 2004, there was a significant increase in the number of counters that saw their price firm sharply, only to plummet substantially during the course of the following trading days.

Most financial analysts explain this phenomenon by the fact that fund managers employ strategies to enhance the appearance of their fund or portfolio performance. This is usually done towards year- or quarter-end – a time when performance reports and lists of fund holdings are usually sent to clients.

As a result of this window-dressing, known in financial jargon as “marking the close” or “portfolio pumping”, the performance results of funds are made to look pretty, albeit deceptively so. This ensures the portfolio funds earn more in management fees.

Fund managers typically drive up share prices through aggressively bidding for more shares of stocks they already own and in so doing cause a spike in their prices, which inflates the value of their existing portfolio. On the other hand, they may sell loss-making stocks right toward the end of their reporting season.

Window-dressing is mainly carried out in thinly traded stocks whose share prices will tend to fluctuate considerably. In such cases, a fund that has a substantial holding in a relatively small counter can drive up the price of that counter by purchasing as little as 100 shares of that stock at a premium round about the closing moments of year- or quarter-end trading.

By so doing, the value of the funds under management (FUM) will go up and the money manager will realise higher fees, as well as other potential clients.

Ordinarily, any increase in the price of a stock should have underlying fundamentals. It follows, therefore, that any sudden spike in share prices that is not substantiated by an underlying factor in the market fundamentals of a company immediately draws suspicion.

However, for the several counters on the Zimbabwean Stock Exchange that saw their share prices rise significantly in one day, there is barely any information that relates to their company prospects that could have justified the sharp increase in their prices. When one considers the moderately low volumes traded as well as the timing of those trades, one cannot but question if it was a typical case of window-dressing by fund managers in the local market.

As the SECZ tries to investigate whether this was the case, it is not immediately conceivable how they can prove this. The mechanics of the stock market are such that there are relationships between multiple traders across multiple securities and it is not easy to match trades to the traders who made them.

Furthermore, as trading on the local bourse is still manual, it would be complex to prove window-dressing – at least without the SECZ having to go through confidential records and getting the assistance of the stockbrokers involved in trading.

The question, therefore, arises as to whether automation of the local exchange would help curb instances of window-dressing. In more developed financial markets, information about companies and their prospects is readily available electronically and this improves transparency and informed decision-making.

For example, in South Africa, the Johannesburg Stock Exchange has the JSE news service (SENS), which churns out market information on a daily basis. This helps in analysing whether an increase in a stock’s share price is justified by information about the company that would increase investor sentiment towards that company’s future prospects.

‘Limit up-limit down’ price circuit-breaker mechanisms are a feature of most automated trading systems. These are designed to prevent sudden and volatile share price movements and prevent stock trades from occurring outside pre-specified price bands by pausing trades altogether when there is a marked decline or rise in the share price. As a result, order and transparency in the markets is promoted. This seems to make a case for the automation of the local bourse to increase efficiency and curb incidences of window-dressing. That being said, a share price increase generally affects everyone who holds that stock. Therefore, as a result of the rally witnessed on December 31, investors with holdings in ABC holdings (banking and finance), Fidelity and Zimplow enjoyed themselves as the stocks rose 18 per cent, 53 per cent and 33 per cent respectively. It remains to be seen whether the share prices will trail significantly in the coming days.