Quality as an Investment Style: Evidence from South Africa

Quality is a more recently identified systematic factor compared to the likes of value and momentum. Its existence in the South African equity market has been overlooked. This study seeks to fill this gap by assessing quality from an academic and practitioner perspective. Consequently, this study assesses the existence of a quality premium in South African listed equities traded on the Johannesburg Stock Exchange (JSE), over the period of January 2000 to December 2020. The study individually examines three pillars of quality, namely profitability, capital structure (or leverage) and investment. Firms with high profitability, low leverage and low asset growth are assigned to “quality” portfolios whereas those with the opposite are assigned to “junk” portfolios. The quality/junk split is determined by a 33rd/66th percentile split of a standardised z-score ranking of each proxy. Portfolio returns are calculated using both equal and value weights. The results reveal that quality outperforms junk. The largest annualised returns are produced by high profitability and low leverage portfolios. Moreover, quality has a defensive characteristic. The equally weighted quality portfolios display lower volatility and experienced lower drawdowns during the Covid-19 sell-off in March 2020 than the junk portfolios. Lastly, quality also displays a rand-hedge bias, adding further support to the defensive view of quality.