Capitec’s Corona-coaster ride

• South Africa
• Banking, Capitec, Coronavirus, COVID-19, Johannesburg Stock Exchange, JSE, Lending, Volatility
• March 27, 2020

Capitec has had a volatile few weeks even by current market standards. The bank has been the darling of the market for years, growing from obscurity to become South Africa’s largest bank by retail customer numbers.

So, what’s going on?

Tracking the Corona-coaster.

Capitec fell from around R1,440 per share in mid-Feb to R1,110 by the third week of March, a 23% drop in sympathy with losses in global markets.

Then, something crazy happened.

The share price collapsed from R1,110 to R680 per share, a further 39% drop in the share price, taking the total drop from the R1,440 peak to 53%.

Capitec isn’t just another unsecured lender.

A market move like this cannot be ignored by the management team. They released an announcement to calm the markets and remind people that Capitec is in a stronger position than its Black Friday share price would suggest.

The first useful reminder was that Capitec still expects earnings (i.e. profit) growth between 18% and 21%, so things were going very well before Corona hit.

Management stressed the evolution of Capitec’s business model from an unsecured lender to a fully-fledged retail bank: 

• Only 9% of Capitec’s customers have credit from the bank
• Capitec is almost break-even purely from transaction fee and funeral policy income
• 47% of the bank’s credit is extended to clients earning more than R20,000 per month, so Capitec doesn’t exactly rely on the poor and marginalised  

Capitec is an excellent case study of giving people what they actually want: an affordable bank account.

So, why did the share price drop so sharply?

Management identified three possible causes of the precipitous drop on 19th March 2020:

1. Sell-off by international shareholders with Rand fears
2. Algorithmic trading
3. Banks needing to cover derivative positions

Algorithmic trading (automated trading systems) can send a share price into freefall when certain lower limits are breached. These systems have rules like “sell if the price drops 10%” which then drives the price even lower – this is often the reason for crazy swings after slightly bad or slightly good news.

Banks need to cover their derivative positions when certain limits are breached, which is an extremely complicated topic. Basically, fancy financial structures get put in place in relation to shares and when certain pre-agreed levels are hit, the bank is forced to try sell the exposure and unwind the deal.

Lots of investors being forced to sell at the same time can only send the price down.

What aren’t they telling us, if anything?

Companies don’t often choose to point out the risks in their business. That’s something investors need to identify and make a decision on.

As strong as Capitec is, a major upswing in bad debts would certainly hurt them, even if only 9% of the customers have credit.

Volatility. Volatility everywhere.

The market appreciated the announcement, rallying over 42% to close at R970 per share the next day. Over the next few days it climbed as high as R1,033 per share and dropped as low as R873 per share.

The market is reacting sharply to any newsflow. Capitec’s business is highly exposed to the fortunes of ordinary South Africans, so they bear the brunt of actions taken in relation to the COVID-19 crisis.

Investors who see value in Capitec’s shares will have to be willing to sign up for a bumpy ride.