February 2019 Update
Making the News
February is a busy month for South Africans as we hear from both the President and the Finance Minister. As Financial Planners and Investment Managers, the budget speech is listened to a little more closely, although the tone of the state of the nation address should not be ignored.
Testimony at the Zondo commission continues to make headlines as the level of corruption and maladministration is shocking to say the least.
Globally, news headlines continue to be dominated by the trade talks between China and the US as well as the never-ending drama surrounding Brexit.
Digesting the News
In our view, no news in February was more important than Finance Minister Tito Mboweni’s maiden budget speech. While there were few surprises in this year’s budget, the overall tone was not positive with the finance minister offering a sobering view of the country’s finances. Most notable was the financial support that will be provided to Eskom, which in our view remains the single biggest risk to our economy. This view is shared by many and illustrates the importance of the actions government intend taking to right the ship at Eskom and other SOEs as well as across many government departments.
Unfortunately, in an election year we will most likely have to be patient as most of the corrective measures that need to be implemented to fix the problems at Eskom and within the economy at large, will require making some unpopular decisions; the kind that opposition parties will be all too eager to highlight should they be taken before the 8th of May.
The honest assessment of the current fiscal constraints faced by South Africa should not have come as a surprise to anyone, including Moody’s rating agency who are due to update their rating on South Africa at the end of March. Moody’s are the only agency who has left South Africa at an investment grade one notch above junk status, so their assessment of the latest budget (and their direct interaction with treasury) is being keenly anticipated by the market.
Markets in the Month
The local equity market does not seem too fazed by the news flow, delivering another strong return in February, ending the month up 3.4%. The local market was buoyed by strong returns from Resources (+10%) and some of the big Rand hedges (Richemont +17.8%, BAT +9.9%, Naspers +4.3%)
After a very strong January (+9.2%), SA Listed Property continued to struggle as fresh concerns regarding the local economy and the potential collapse of Edcon weighed on the sector. Property companies exposed to both the retail and office sectors came under pressure as over supply and the weak local consumer have significantly reduced growth expectations in the short to medium-term.
The recent weakness in Listed Property has resulted in a negative return from this asset class over the last three years (-0.4% p.a.) and has seen yields on this asset class climbed steadily as these assets trade more cheaply.
Global Equity benefitted from the weaker Rand, rallying 8.8% during the month. Global markets have rallied strongly since bottoming in late December and any positive conclusion from the US-China trade talks could see markets move even higher. The rebound in global markets has not been limited to developed markets, as emerging market equity is also up 6.5% year-to-date.
Impact on Our Portfolios
February was another strong month across all of the longer-term local strategies which were up between 1.2% and 3.0%. CWM Income lagged these strategies slightly (up 0.5%) during the month as portfolios with lower exposure to equity and foreign assets missed out on the higher returns due to their more conservative positioning.
CWM Flexible performed best during the month as higher equity and foreign exposure coupled with a relatively low allocation to SA Listed Property lifted returns. This portfolio continues to deliver exceptional risk-adjusted returns versus peers as well as when compared with pure equity strategies. This is illustrated by the portfolio being more than 2.4% p.a. ahead of its peer group average as well as 0.3% p.a. ahead of the SA Equity market since inception in 2013.
The Rand weakness coupled with higher global equity returns drove the foreign Houseview (HV) funds higher during February. The Foreign Equity HV delivered 8.5%, while the Foreign Balanced HV returned 7.6% during the month. Both HVs remain diversified across developed and emerging markets which is expected to provide significant upside looking forward given relatively attractive valuations across most global markets.
5 Year Returns (p.a.) CWM Local Model Portfolios / Foreign Strategies
The low inflation and low return environment over the last five years has driven the returns from most of the local portfolios below our long-term expectations from these strategies. Despite the relatively modest returns across these strategies, we are reasonably satisfied with their relative performance (i.e. performance versus peers) with only CWM Retirement Growth behind its peer group average over the last five years and CWM Defensive roughly in line.
All of the other local strategies are ahead of their peers since their respective inception dates (2012/13), adding on average, an additional 1.0% p.a. above the peer group average. Similarly, both foreign HVs are ahead of their respective peer group averages over the last five years and since inception. These funds are ahead of their respective peer groups by 1.5% p.a. over the 10 years since their inception.
The last three months can serve as an incredible lesson to all long-term investors. Looking back to the fourth quarter of 2018, we believe South African investors had hit maximum pessimism. We saw this in our meetings with clients, as well as in the discussions we had with asset managers and other industry service providers.
At that point in time, investors were finding it difficult to look forward and were extrapolating the poor returns received over the recent past, far into the future. Fast forward only three months, and SA Equity markets are up 10.8% with global equity up 4.0% and Emerging Market Equity up 7.6%. Investors who capitulated in early December and moved their growth asset exposure into the safety of cash would have received only 1.8%, thereby foregoing additional returns of between 2.2% and 9.0% in only 90 days.
We see this sort of behaviour often, as investors become exhausted by the volatility of growth assets and seek the security of cash. Often this switch is implemented at exactly the wrong time and the investor misses out on great returns, that no one was (or could have) predicted would come.
It is for this reason that we do not try and predict the future or time the market by moving in-and-out of growth assets. Instead, we accept that the future is always uncertain, and in order to received inflation beating returns over the long-term we need to be exposed to growth assets (equity and property) at all times. This means we will have to endure periods of poor returns in order to meet our long-term objectives.
While applying this long-term focus is not the easiest investment strategy to stick to during these periods of heightened volatility and emotion, it does stack the odds of long-term success in the favour of our clients and provides us with one of the few advantages over other investors.