December 2019 Update
Making the News
Trade talks globally seemed to be easing with discussions of a phase one deal on the table to be approved in January 2020.
In the UK, the main issue in December was the British election and its possible impact on Brexit plans.
While on the domestic front, renewed power generation problems at Eskom in December caused South Africans to be despondent despite the appointment of the new CEO there, as well as decisive action to rescue SAA.
Digesting the News
Additional tariffs of 15% on about $160 billion in Chinese exports to the U.S. are expected, as both economies remain locked in negotiations for a “phase one” trade deal. U.S. President Donald Trump announced in October that the initial deal would be completed before the end of the year. He also said it would address intellectual property and financial services concerns, along with purchases of about $40 billion to $50 billion worth of agricultural products by China. When the additional tariffs kick in, some analysts expect this to boost financial markets.
Having secured a majority at the general election, Boris Johnson is adamant on delivering on his pledge to leave the European Union (EU) on 31 January 2020. This improves prospects of a quick resolution to a three-year growth overhang in the world’s second-largest economy, however much work must still be done to prevent more Brexit economic damage.
Markets in the Month
Despite high political and economic uncertainty locally, the Rand managed to appreciate against the major currencies during the year as offshore news flow was dominated by Brexit and trade wars. In December, the Rand rallied against the greenback by 4.4% on the back of easing trade tensions coupled with local interest rates being kept on hold after a rate cut had already been priced in.
SA equities delivered a return of +3.3% in December ending the year, +12%. As mentioned previously, most of the return has been driven by the high momentum in the resources sector and therefore considering how low inflation is at the moment, we have seen local equities grow by 8.4% in real terms. In contrast, a strong final quarter pushed returns from the MSCI World Index to 27% for the year in US$ terms however given the strength in the Rand, this is measured at 24.1% locally.
Listed Property still remains in cautionary territory as short-term returns from this asset class provides little hope for investors already struggling against a tough economic backdrop. Fundamentally there is excess supply in the sector which as a result is trading at very cheap levels. Some asset managers expect that the highest future returns are set to come from property (over the next 5 to 10 years). At Core Wealth, we are of the view that investors should take at least a 5 year view on the asset class in order to see strong returns generated.
Impact on Our Portfolios
Compared to 2018, our models have done well in 2019 participating in most of the upside recovery in the equity markets with the exception of property exposure. Looking over the last twelve months, we note that our aggressive strategies have performed better relative to the conservative strategies.
Since the year has finally come to a close, it is fair to say that our CWM Flexible fund remained the best local model in 2019. The fund is up +10.8% in 2019 and ahead of its peers by almost 3%, benefitting from a strong run in the local equity market.
Other aggressive strategies such as CWM Retirement Growth delivered satisfactory growth in 2019, rebounding well after a difficult 2018. The strategy grew by +8.3% in 2019 however still remains marginally weaker against its peers given the high allocation the portfolio has to property, particularly the Nedgroup Property fund. We have advised clients that the portfolio maintains exposure to these out-of-favour deep value property counters exposed to the SA economy, which may remain weak over the medium to short-term while South Africa works its way through the current low growth conditions.
5 Year Returns (p.a.) CWM Local Model Portfolios / Foreign Strategies
Moreover, our international houseviews continue to dominate performance despite the Rand strengthening throughout the year. As a result, the five year performance still remains strongly ahead of local houseviews. Performance for Foreign Balanced and Foreign Equity were strong in 2019, returning +9% and 11.7% respectively.
While the five year numbers on the local side still remain modest, we are confident about prospective returns as we have seen green-shoots appear with most of underlying managers particularly in the high equity space. Moreover, for clients not willing to ride out the short term noise, our best houseview would be our income strategy which continues to deliver consistent inflation beating returns, and outperform cash continuously. Generally we consider this strategy more appropriate for clients interested in investing for the next twelve to eighteen months, or those who do not wish to take on capital risk over the short to medium-term.
Overall, 2019 turned out to be a very good year for asset classes in both the developed (DM) and emerging markets (EM), especially equity. In the DM space, the S&P500 led the way returning over 31% in USD over the year, the best calendar year performance since 2013. This reflects the strong underlying US economy, and accommodative monetary policy in the US.
While we cannot predict when this bull-run will be over, when we value the underlying companies at an index level, it gives us the conclusion that the index is currently expensive. As we mentioned in previous wrap-ups, a lower allocation to the US is therefore warranted going forward with a more exposure to EM equities given their attractive valuations currently.
With regards to Brexit, our view on the Pound and Sterling denominated assets is dependent on how the scenario plays out. If extensions continue, the pound will get weaker whereas if a final conclusion arises in the coming months, we can see the pound and those denominated assets appreciate. If we look at where sterling currently trades relative to the dollar, it is marginally cheap.
In South Africa, the situation remains worrisome in the short-term. Business and consumer confidence has been low causing the market to look for early signs of a turnaround in both Eskom’s and the country’s fortunes. Going forward in 2020, we believe that small pick-ups in confidence will slowly turn our economy around, as will decisive action taken against those implicated in state capture.
Interestingly, the Rand has held firm all year and has been the best performing EM currency in the final two months of the year. Although the local currency was stronger in 2019, we expect this to not be sustainable as we head towards the end of the first quarter of 2020 with a potential downgrade looming already factored in the price of our local bonds.
Locally, inflation is low and has remained within its target band of 3% to 6%, currently leaning more towards the lower band at 3.6%. This indicates the benign inflationary environment we find ourselves in and high real yields/return expectations going forward as well as potential rate cuts from the SARB.
Aside from the Rand ending the year strong and inflation being at low levels, implementation at the SOEs is needed in South Africa. As we know, the wage bill is a potential way of reducing the country’s expenditure and surprisingly there were comments made by ministers to actually take a decline in their salaries as well. While this won’t have a big impact on the budget, it can improve sentiment and overall be a bargaining tool when negotiating with trade unions.
This coupled with what is currently happening at the NPA will help lift sentiment. While citizens/investors are becoming impatient about the prospects of our country, it is important to note that a process is being followed and like any process, specific measures need to be put in place and various parties (Hawks, NPA, etc.) are all acting on their role to ensure that we see orange jumpsuits sooner rather than later.