May 2021 Update
Making the News
US inflation accelerated to 4.2% during May which was ahead of the Dow Jones estimate for a 3.6% increase. March US spending jumped a better-than-expected 4.2%, while personal incomes surged by 21.1% amid more fiscal stimulus, indicating the heightened level of demand in the economy.
On the local front, daily new COVID-19 cases in South Africa (SA) rose closer to the official threshold of a third wave. To help flatten the curve, President Ramaphosa announced some tightening of lockdown restrictions, particularly around curbing social mobility, thereby moving the country to adjusted level 2 lockdown.
In another unanimous decision, the SA Reserve Bank Monetary Policy Committee (MPC) kept interest rates unchanged at their May meeting. The broad message is that the inflation outlook remains contained, and the balance of risks are such that the MPC can continue to provide policy accommodation to allow the domestic growth recovery to take hold.
Interesting cryptocurrency news: Bitcoin fell 53% in five weeks, and then it rallied 35% in four hours. While these returns might attract some “investors” (which in this context would be considered speculators), it would not be prudent to look at this in isolation of the applicable risks involved. This recent volatility demonstrated a risk of cryptocurrencies currently in that their change in value can be extreme (up & down). This is because, as yet there isn’t a clear way to measure what their inherent value is and therefore understand why price moves occur. Cryptocurrencies are a critical and key development in financial markets and as with any investment its risks and opportunities need to be understood in order to correctly size one’s investment in that asset.
It was good to see positive changes in some areas that have been head winds to the progress of the South African economy. On the corruption front there were arrests in connection with the Vrede Diary, InterPol has agreed to assist with the extradition of the Gupta family to stand trial in SA and most recently South Africa’s health minister stepped down while allegations of corruption are investigated within the Health Department – something that has not been common within the South African government. The stronger commodity prices in the first half of the year and improved economic activity have seen projections for growth for 2021 increasing, some to over 5% for the year.
The Rand continued its surge during May, ending the month 4.4% stronger against the US dollar. This trend has been across the major currency board as strong terms of trade, with a higher reported trade surplus, helped narrow South Africa’s budget deficit (revised forecast deficit of 8.3% of GDP for the year ending March 2022, from 10.1% budget deficit announced by National Treasury in October MTPBS). The Rand is now 21.7% stronger over the last year, currently falling within the purchasing power parity (PPP) fair value range. We expect this trend to continue over the short-term, as the demand for precious metals remain robust, however over the longer-term, the Rand will likely remain undervalued given that historically its performance has been closely linked to the country’s GDP growth.
While global equities ended the month negative in Rands, the JSE All Share Index returned +1.6%, buoyed by a stronger Rand supporting the Financial (up +9.2%) and Industrial (up +0.9%) sectors. The Resource sector lost -1.4% in the month as the retreat in metal and commodity prices, particularly in China, weighed on the sector. Longer-term returns across equity markets continue to support the rationale for having an allocation within any long-term portfolio.
Positivity in the local bond market during May has been driven by three critical factors. Firstly, SA’s trade balance and current account position has improved significantly, thereby reducing its external vulnerability as a country. Secondly, the tailwinds improving the sentiment towards the Rand should keep any risks to inflation from the currency well contained. And then lastly, the boost to economic growth is also a definite positive for the fiscal position, with clear potential for the budget deficit to narrow materially (welcome evidence of this boost was seen in May when National Treasury announced a further reduction in weekly primary market issuance of bonds). The combination of the above-mentioned factors resulted in the ALBI returning +3.7% for May, driven particularly from longer dated bonds (from the R2035 bond and longer maturities) returning above 5% in the month.
Impact on Our Portfolios
The CWM model portfolios benefitted from a resilient local equity market, flattening yields on longer dated government bonds and of course, a stronger Rand in May. Conversely, listed property as well as offshore exposure would have detracted but this effect did not weaken the overall performance of the models.
Tilts within the portfolios, particularly to SA government bonds, has kept the monthly performance of CWM Retirement Growth, RI-Growth as well as RI-Defensive robust. This has been derived through the allocation to Coronation Bond fund which was up +4.2%, outperforming the ALBI by +0.5% and ending the month above its peers in its respective ASISA category.
Additionally, the upweight to PSG across our models during May 2020, when the effects of Covid-19 were still unknown to the financial market, has paid off handsomely over the last year, including the month of May (PSG Flexible and Balanced up +4.4% and +4.0% respectively and are both top of their respective peer groups). Value as a style and exposure to SA Inc. has been a core part of PSG’s portfolio over the last three years, and this has been lifted by improving sentiment.
Going forward, it would be of interest to focus on the outlook for the CWM Models and how expected returns, particularly over the longer-term, will reward investors.
As stated in previous monthly wrap ups, both the recovery from Covid lows (during March 2020) as well as the rotation into value as a style (during November 2020), has materially benefitted the CWM Models with growth asset exposure (excluding CWM Income). If measured over a one-year period to the end of May 2021 (a period inclusive of the Covid recovery and style rotation), this benefit is evidenced by the CWM models, on average, outperforming their respective peer groups by +4.7% after fees.
This is helpful to know, to understand medium-term past performance of the models, particularly over the three- and five-year period, where underperformance averaged around -0.7% and -0.2% respectively. Looking back the underperformance was because of value as a style being out of favour coupled with the allocation to local listed property. Value managers within the CWM models were upweighted to position the models for an expected long-run recovery in the style.
To conclude, while the current financial backdrop has been supportive for the CWM model portfolios, we are aware that markets do not perform in a straight line and one must be cognisant of the various risks against the current financial backdrop (i.e., Covid-19, rising inflation concerns, high country debt to GDP ratios, etc). Despite this, current positioning across the models would stand to benefit from the diversification across various asset classes. Overall, we believe that the biggest catalyst for further outperformance would be a continued surge in value as a style, and this is evidenced by the performance seen year-to-date and over the last year. Since inception, the models with growth asset exposure have outperformed on average by c.+0.6% (net of fees).