Cautiously optimistic about the prospects
The year 2019 was an emotional rollercoaster for investors, in both local and international markets. South Africa experienced its fair share of economic growth challenges, and not surprisingly, many South African investors were uncertain about where to invest.
FAnews spoke to Reza Hendrickse, Portfolio Manager at PPS Investments, and Kondi Nkosi, Schroders South Africa Country Head, about the investment landscape in 2020 and what investment principles will stand clients in good stead during turbulent times.
The investment landscape in 2020
Aside from the COVID-19 pandemic’s effect on markets, “Many of the key themes which dominated 2019 were expected to spill over into 2020. The most prominent of these included the ongoing flare-ups in geopolitical risk, as well as the debate around the continued reliance on widespread central bank and fiscal intervention delicately supporting economies and markets around the world,” said Hendrickse. “Little did we know that the environment in 2020 would become even more reliant on stimulus efforts.”
“While these were just some of the issues that could impact the path of global growth, 2020 also stood poised to face the outcome of the US presidential elections set to take place in November. A Trump re-election, for example, is potentially a market-friendly outcome, but at the same time it means another term of unorthodox presidential policy,” added Hendrickse. “While these issues were widely anticipated at the start of the year, the most significant challenge that ultimately presented itself in 2020 thus far, has been the emergence of a global pandemic, with far-reaching consequences”.
“The past six months have been tumultuous, and visibility going forward is even more clouded than before, so we prefer not to dwell too much on attempting to forecast the outcome of these apparent binary events. Markets also tend to price in well-known possibilities far ahead of time, and so it’s usually the unexpected developments, such as COVID-19, which end up being more impactful on the investment landscape,” continued Hendrickse.
Looking ahead, Hendrickse said, “While there are indeed risks on the horizon, based on our assessment of current information, we remain cautiously optimistic regarding prospects for the remainder of the year.”
Nkosi sees challenges for the global economy. “There remain both demand and supply side challenges globally on the back of the COVID-19 pandemic and how governments have reacted to it. Our Economics team forecasts global GDP to contract by close to 5.5% in 2020. Whilst we anticipate global GDP to recover by a similar magnitude in 2021, it is dependent on fiscal and monetary policy remaining loose and, on the medical front, a vaccine being successfully developed by mid-2021,” said Nkosi.
Unlocking and identifying value
“In equity markets the differential between expensive growth and quality stocks and cheap cyclical stocks remains high, it is clear that the value is in buying the cheaper end of the market in sectors such as financials and resources. From a regional perspective, we are neutral on the US. With levels having rebounded strongly, we expect other regions to catch up as the global economy reopens. Europe is now our preferred market as the European Central Bank (ECB) continues to support liquidity, while the prospect of fiscal coordination is alleviating political risk. In emerging markets, we remain neutral; the potential for increased trade tensions between China and the US is a headwind, though we continue to favour the cyclical and tech-heavy markets of Korea and Taiwan,” said Nkosi.
“Given that US companies, driven by technology focused businesses, are generally more expensive than in the rest of the world, some managers are therefore currently finding better value elsewhere. Even South African equities are considered better value, but the growth backdrop here is a headwind, while the Rand has a weakening bias. Emerging Markets more broadly are also considered to be an opportunity, but their outperformance relies on a weaker Dollar and a pickup a global growth relative to the US,” added Hendrickse.
“Markets have experienced somewhat of a shake-out so far in 2020, and while risk appetite initially dried up, this seems to now be reversing. Should risk appetite continue to be resilient, it is difficult to see bonds outperforming stocks from here. Regardless, South African bonds are offering reasonable value and a compelling return in a world starved of yield. Within equities, value stocks globally have underperformed growth stocks for an extended period, with the divergence in the performance of technology and defensive sectors compared to cyclicals. Some managers have therefore started exploring this potential opportunity. These value-vs.-growth cycles tend to be multi-year rotations however, and it is difficult to know when the cycle will turn or how enduring it might be. Regardless, evidence suggests that the relative value scale has tilted increasingly in favour of value enjoying a period of outperformance,” continued Hendrickse.
“Local players who invest locally are accustomed to operating with a small universe of investable stocks, which they understand very well. This is a function of the size of our market, which is small in the global context, and which incidentally limits the universe even further for highly style-biased managers. While a number of local managers are proficient JSE investors, not all are able to replicate their domestic market success globally by creating equally compelling global propositions. When we invest offshore, we therefore prefer investing with established managers outside of South Africa. We tend to favour well-established offshore managers who have been operating in global markets for an extended period, compared to South African asset managers who generally are relatively new to global investing. The offshore market is much broader than in South Africa and the demands are therefore different, requiring additional skills and resources in order to have the same edge that domestic managers might have locally. This gap will no doubt be bridged in time as local managers mature and become more adept at overcoming the challenges associated with global investing,” said Hendrickse.
According to Nkosi , “The South African market has plenty of stocks which have earnings outside of South Africa, but the international markets offer a much broader range of sectors and economies to choose from.”
Stand clients in good stead
“In turbulent times, the most important principle is to pick a strategy which follows a strong, differentiated and repeatable process with a well-resourced investment team at a stable investment house. It is very hard to call markets in the short-term but over the long run they have a good track record of helping investors meet their objectives. Many investors’ strategies suffer as a result of the human psyche. Our reactions or behaviors in response to events can and do lead us to make suboptimal decisions in the interest of self-preservation. For example, if there is bad news related to a company or a sector or an investment approach, there is a strong tendency for investors to over-react to the bad news and switch investments at the wrong time in the cycle,” said Nkosi.
“As always, the best defence against risk and uncertainty is to hold a well-diversified and sensibly constructed portfolio that is not reliant on any one particular outcome or state of the world,” said Hendrickse.
“Another principle that investors need to internalise is the fact that despite its volatility over the short-term, equities are an important asset class for achieving long-term inflation-beating returns. It is therefore essential to maintain an appropriate and meaningful allocation that is consistent with one’s risk appetite and investment objective. Lastly, we also believe in an appropriate amount of offshore diversification, notwithstanding the challenge posed by a volatile Rand at times. The South African market is narrow and represents a fraction of the global market, and we believe it is prudent to take advantage of the much broader opportunity set globally,” concluded Hendrickse.
Writer’s Thoughts:
Hendrickse said, while there are indeed risks on the horizon, we can only be cautiously optimistic regarding the prospects for the remainder of the year. Do you agree? If you have any questions please comment below, interact with us on Twitter at @fanews_online or email me – [email protected]
