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Global quest for yield spotlights need for offshore equity exposure

12 May 2014 Wehmeyer Ferreira, db X-trackers
Wehmeyer Ferreira: Heads db X-trackers in South Africa.

Wehmeyer Ferreira: Heads db X-trackers in South Africa.

Currently global markets are experiencing a zero-interest rate environment in the fixed income space. This has resulted in a search for yield across international markets.

This state of affairs is likely to persist; especially in the near term. Investors and their advisers therefore need to be aware of the options across asset classes and understand the benefits of making allocations outside their domestic market.

It is accepted worldwide that the inclusion of global equities as an asset class is crucial for optimal performance. Allocation to global equities also contributes to portfolio balance across the risk spectrum.

All portfolios – whether high risk or risk averse – benefit from global equity exposure, though the asset allocation split will differ, depending on an investor’s risk profile and investment objectives.

Advisers should note that a diversified investment approach is invariably warranted. All the major asset classes, including global equities, should be represented in the mix.

Sub-optimal performance and heightened risk can result if one eliminates an asset class simply because of a lack of comfort or understanding.

Unfortunately, omissions like this tend to occur with offshore asset allocations.

The blind-spot can be addressed by taking time to develop an understanding of what investment opportunities exist offshore and the advantages that accrue from including a range of asset classes in a client’s portfolio.

The benefits are not necessarily in the form of higher returns, but rather arise from a lower risk profile as a result of improved diversification.

Low cross-correlation between asset classes within a portfolio allow for stabilised returns through changing market cycles and adverse market movements or shocks.

The benefit of lower cross-correlation flows through to the portfolio’s overall risk profile by decreasing the volatility of returns, thereby lowering risk.

In a study targeted at US investors, Vanguard showed that allocating 20% to 30% of a portfolio to international (non-US) equities resulted in significant volatility reduction.

On the issue of returns, a report by Fairbairn Capital noted that investing in offshore equity markets (especially those that are less influenced by commodity prices) allowed investors to access investment opportunities that may not be present locally. This is clearly pertinent for South African clients in view of our resource-heavy equity market.

A strategic approach is advisable when deciding a portfolio’s offshore asset allocations.

One cannot blindly group together all equities that lie outside one’s local domicile when considering a global equity allocation.

Closer investigation of specific geographical regions, such as the US or UK, can allow an investor to make an informed choice, achieving enhanced diversification while reaping better results from a risk and a return perspective.

For example, incorporating the db x-tracker MSCI USA Index ETF into a portfolio would give an investor exposure to US listed equities while achieving the exchange rate exposure inherent in offshore investing.

However, if a more risk-averse investor wished to achieve broad global equity exposure, the db x-tracker MSCI World Index ETF would allow him or her to efficiently tap a diversified basket of global equities without committing to a view on a single geography.

From an investor perspective, these JSE-listed exchange traded funds allow for highly transparent and efficient offshore investing.

The focus is on an offshore index, not a specific sector or specific stocks. This makes global equities highly accessible without in-depth study of company performance or industry prospects.

Clearly, offshore allocations are also indicated for those clients who are concerned about continuing Rand weakness. However, the benefits of diversification, portfolio balance, reduced volatility, better risk management and stabilised returns make a compelling case for global equity exposure no matter what state the Rand is in …

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