From “new normal” to “nothing is cheap”
Towards the middle of 2009, analysts coined the phrase “new normal” to describe lower than expected returns going forward. In today’s “nothing is cheap” world, investment return has become even more elusive.
Asked which asset class will provide the greatest return over five years, any financial planner will immediately respond: “equities!” On a sample of randomly selected five-year periods this answer typically holds true. But there are exceptions. In the five years beginning 2006 listed property outperformed equities, bonds and cash by quite some margin. Total returns from this asset class topped 18.1% per annum versus 15.2% from equities, 9.1% from cash and just 7.6% on the all bonds index!
These numbers prove that investors with longer time horizons easily absorb “shocks” such as those caused by the US subprime crisis and subsequent global financial system meltdown. These investors would have suffered only a single negative return year over the five-year period in question. Total returns from equities came in at 41.2% in 2006, 19.2% in 2007, 32.1% in 2009 and 19.0% last year – easily soaking up the 23.2% value decimation of 2008. But the next five years won’t be as “easy”.
The “new normal”
Back in 2009, local stock market analysts warned investors of the “new normal”. They said someone investing over five years from January 2003 probably thought “normal” stock market returns amounted to 15% per annum real. At the time, John Kinsley of Prudential Portfolio Managers said financial advisors would have to reconsider their client’s primary return objectives. In lower return environments you have to advise clients of lower return outcomes from unchanged levels of risk.
Where’s the “cheap stuff”?
As we enter Q2 2011, return expectations are even lower. “With one or two exceptions, being largely emerging and developed market equities, asset classes are at their most expensive levels – or nearly there – for the last 20 years,” says David Green, PPS Investments. His solution for investing in an “expensive” world is to buy into as much of the “cheap stuff” as is reasonable.
Managers should diversify offshore in global developed market equities, using the strong rand. Unfortunately, local investors soon run into regulatory constraints, with most funds mandated to take no more than 25% of their total capital offshore. “Asset managers should use the remaining 75% to gain exposure to a useful and sensible degree of diversification over the rest of the admittedly expensive investment universe,” he says.
Careful stock selection
Gavin Wood, Chief Investment Officer at Kagiso Asset Management believes careful stock selection strategies give fund managers the edge in the return race. “It’s vital for asset managers to look through the windscreen - not the rear view mirror - when making share selections,” he says. That’s why local listed companies with major exposure to emerging markets feature strongly in Kagiso’s equity portfolios.
MTN is their largest shareholding based on its potential to grow market share in its main spheres of operation – and for the “spending explosion” likely to occur in the emerging markets telecoms space going forward. Local media giant Naspers (which dominates the African pay television landscape) also cracks the nod for its stake in the incredibly successful Chinese Internet business Tencent. Kagiso also likes financial sector shares (mainly banks), oil producer Sasol and sugar company Tongaat.
The right choices
The low expected returns from cash, equities and bonds through 2011 will challenge fund managers and financial planners to structure innovative investment portfolios. Getting the correct mix of asset allocation is the first step – and within each asset class, choosing the right opportunity will separate the winners from the rest.
