Global macro environment still broadly supportive for growth

Markets continued their rally into the fourth quarter of 2021, with South African (SA) equities delivering its strongest calendar year return since 2012 (up 27.1%) and global equities since 2015 (up 28.8% in rands).

These impressive short-term returns (SA equities were up 8.7% over the quarter, and foreign equities 13.2%) have materially improved the risk-return trade-off from equities, with SA equities having now compounded at close to our long-term expectation of CPI+6% p.a. over the past ten years, and global equities at CPI+15% p.a., almost three times as much.

For the year, SA inflation-linked bonds (up 15.5%) and nominal bonds (up 8.4%) also comfortably outperformed SA inflation (up 5.9%) and SA cash (up 3.6%), while SA property (up 36.9%) clawed back much of its prior year’s underperformance, and foreign property (up 39.9%) comfortably outperformed foreign bonds (up just 1.1%).

What have been the drivers of performance?

The strong returns from riskier assets have been boosted by global monetary policy remaining exceptionally loose for longer than perhaps warranted, and economic growth still surprising on the upside. For much of the year, forward guidance from the US Federal Reserve indicated no interest rate increases till at least 2024, while global economic growth in 2021, at an expected 5.6%, is likely to be at a pace not seen since 2006, and remain above trend in both 2022 and 2023, according to the Organisation for Economic Cooperation and Development (OECD).

The South African Reserve Bank (SARB) has also kept short-term interest rates at unprecedentedly low levels (with just one interest rate hike in November, raising the repo rate to 3.75%), while SA growth in 2021 at above 5% has also significantly exceeded expectations from the start of the year.

What shifts do you expect going forward?

The global economy should adjust better to the COVID-19 pandemic as it becomes endemic, while the transition to a greener economy could finally lead to meaningful fiscal spending and an increase in investment, plus demand for commodities. Neither transition is likely to be smooth, but investors should try to position themselves to benefit from both.
Likewise, there is scope for the SA economy to surprise positively, both from the commodities required for the transition to a greener economy (including the fossil fuels that are still needed), and the possibility of structural reforms that would boost investor confidence.

Investors are increasingly interested in how managers are considering ESG risks, including those posed by climate change, and as a multi-manager we are no exception. Here we continue to assess whether our managers are mandated appropriately and have the required skills to benefit from the opportunities the transition to a greener economy entails.

We don’t think that we are now in a permanently higher inflationary world and believe that interest rates in general will remain accommodative.

Against this backdrop, what is the portfolio positioning?

The PPS portfolios were well-positioned in 2021, being overweight SA bonds (and especially SA inflation-linked bonds) and foreign equities and moving to an overweight position in SA equities over the course of the year.

While we modestly reduced foreign equities to overweight last year, our base view remains that the global and local environment should remain supportive of risk assets, and cash is likely to remain an unattractive asset class.

Despite strong returns last year, we still believe we are being compensated to take on SA-specific risk, and that local economic growth and reform could surprise on the upside. In fact, while our global managers have a much larger opportunity set to exploit, SA valuations look more compelling.

The future will always surprise us. Our process consequently forces us to remain diversified, and we deliberately target asset managers that think differently, to best take advantage of opportunities that might materialise.