Challenging conventional investment thinking
How do you stay ahead of the herd when it comes to stock market investing? To find out we attended the RE: CM Shifting Perspectives event, held at the beautiful Summer Place conference centre in Johannesburg, 14 September 2011. RE: CM is a privately owned
The path to consistent long-term market returns is to challenge conventional thinking. During his opening address, RE: CM executive chairman and portfolio manager, Piet Viljoen, discussed the risks inherent in following the herd... Online reference Wikipedia.org describes herd mentality as the way in which “people are influenced by their peers to adopt certain behaviours, follow trends, and/or purchase items.” Applying this phrase to the world of investments provides insight into the value bubbles that frequently develop on stock markets. The tech bubble that developed globally in the late 1990s was a direct result of investors buying companies when share prices were grossly inflated… They completed these transactions not because they thought the company was great, but because everyone else was doing so, and making a mint from it!
Forget chasing growth for investment return
“The first conventional wisdom that I’d like to challenge today is that you need to invest in areas with high GDP growth to guarantee return,” said Viljoen. Over the past few years fund managers have poured billions of dollars into countries like China, India, Brazil and Russia – and other emerging market economies – in the hope of locking in market-beating returns on the back of near double-digit GDP growth. But their premise that high country growth leads to high stock market return is incorrect.
Comprehensive market research conducted by a number of global fund managers concludes that the opposite holds – in other words, high stock market returns stem from countries with slower GDP growth. This trend exhibits over more than 110-years of stock market return and economic history. Viljoen pointed out that the 20% of countries with the lowest growth rates delivered the highest investment returns over the period spanning 1972 to 2009. “And we’ve experienced this phenomenon first hand in South Africa, where, over the past 10-years our market has delivered fantastic returns to investors despite GDP growth of only 3% to 4% per annum,” he said. The local market has delivered multiples of Chinese equity returns over the decade despite double-digit GDP growth in China!
The bottom line is it doesn’t matter what the rate of economic growth is but rather the price (valuation) you purchase your assets at. The difference between developed and emerging market performance can be expanded upon by looking at the handful of South African companies that secured offshore listings between 1998 and 2002. “10 years ago everyone wanted to go offshore,” said Viljoen. “Not just local investors, but listed entities such as Anglo American, Investec, Old Mutual and SAB Miller.” The decision to list in foreign domiciles turned out badly for these companies. PSG (which kept its JSE listing) has outperformed Investec by a multiple of five times since the move… And Sanlam has trounced Old Mutual by a similar margin!
Forget the big story!
Stock markets are full of narratives. A decade ago everyone was going offshore. And today the narrative is that you should be in Africa. Everybody wants a slice of South African companies with ‘doorway to Africa’ status. This explains US retail giant Wal-mart’s decision to snap up a stake in Massmart and Japanese-listed NTT’s purchase of Dimension Data. Viljoen quipped that all one had to do to raise a few million from institutional investors was to hang the Africa carrot...
The problem with this Africa obsession is that investors are taking the bait too late. “In 10 years time we’ll be looking back and admitting that the Africa story was wrong,” he said. The warning to investors is to be extremely wary of the easy-return ‘stories’. “At RE: CM we avoid these narratives because such strong consensus views are always priced in!” As one of the world’s greatest investors, Warren Buffett always says: “You pay a high price for a cheery perspective.”
Finding the miss-priced ‘gambles’
“Investing is about finding miss-priced gambles,” said Viljoen. The RE: CM house view is that emerging markets are too expensive, an assertion confirmed by graphs of market price-to-book levels. The potential of market-beating returns has been priced into these assets already. Yes, you will get growth from emerging markets – and you have to be invested in them to access this growth – but there’s no way a sensible strategy would be snapping up assets at current prices. Viljoen observed: “We have no direct exposure to emerging markets in our global fund at this time – and South Africa’s price-to-book ratio is also pointing to assets in the country being generally expensive.”
The opportunities RE: CM is chasing today include Japan (as an economic region) and offshore companies with multinational footprints. Everything is going against Japan at the moment, and their stock market is priced for the worst possible scenarios. You have a situation today where you can virtually not lose money in Japan – and it will take only the slightest bit of good news to create massive returns. As for companies – the asset manager likes Johnson & Johnson and Intel, both trading on a price-to-earnings multiple of around seven times, and offering handsome dividend yields.
“Investment return and macroeconomic growth are two different things,” concluded Viljoen. “Investment returns and popularity are different too. You will not achieve superior returns if you own what everybody else owns and do what everyone else is doing. To get the best from international stock market investing you must shift your perspective!”
Editor’s thoughts: It is no easy task to balance risk and return when markets exhibit the levels of volatility experienced so far this year. Under such conditions we tend to follow the herd – putting our own and client’s money in the asset classes that everyone else is invested in… Have you ever been guilty of making an investment because every one else is doing so? Please add your comment below, or send it to [email protected]
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