Local equity returns expected to be modest over the next five years

Global savings have crowded out returns for SA investors.

Expect modest return from local equities over the next five years as the market is at “historically rich” levels and is offering limited value. This is the considered view of Madalet Sessions, economist at Nedbank Private Wealth, which manages assets worth more than R100 billion on behalf of local and international clients.
 
In a presentation used for a countrywide road-show for Nedbank Private Wealth clients, Sessions said that the JSE Overall Index is currently at 16-17 times earnings, making it relatively expensive in comparison with its own history and similar indices in developed markets such as the US and Europe.
 
“The fact is that emerging markets such as South Africa have become expensive when compared with their developed market peers, which are trading on similar price earnings ratios. But a big difference is that a 16 or 17 PE in the US is in line with its historical average,” said Sessions. Drawing on past data and experience, Sessions said that history showed that when the South African market traded on an average PE of 16-17 times, the following five year period delivered fairly modest returns.
 
“On an annualised basis, we expect high single digit returns over the next five years from equities,” said Sessions.

Last year was a standout year for Nedbank Private Wealth’s clients invested in the company’s equity funds, with a performance of 31.5% for the twelve month period to December 31, 2012, against a benchmark performance of 28.7%. Over three years, investors have earned an annualised return of 22.9% and over five years the return has been around 10%. For the first five months of 2013, investors in Nedbank Private Wealth equity funds enjoyed a return of 13% versus a benchmark performance of 7.3%.
 
“2012 was an exceptional year for the local equity market,” stressed Sessions, “but in 2013, emerging markets such as ours look more risky than developed markets. Emerging markets appear fully valued and need to generate strong earnings growth to deliver on expectations of good returns,” she added.
“The bottom line is that the more you pay upfront for a company or market now, the less you can expect as a return subsequently.”
 
Sessions said that markets are priced for low returns as yields on low risk assets (such as the US 10-year inflation linked bond) are very low. Yields on South Africa’s 10-yr bond are down to 6% from 8% just two years ago as foreign investors bid up the price.

She said that with “risk-free” assets in some cases delivering a negative yield, investors have bid up the price of assets and should recognise that only modest returns from equities are likely.
 
Sessions said Nedbank Private Wealth’s research shows that a key determinant of return is the earnings multiple. The change in rating is an important factor in returns earned subsequently 
“Global savers seeking yield have crowded out returns for South African investors. We expect modest returns over the next few years as a result,” added Sessions.