The class of 1999 take an offshore caning
In seven of the last 20 years the rand has rallied or slumped in excess of 20% against the US dollar. Such volatility makes it incredibly difficult to time an entry to or exit from offshore markets. All too often South African investors react in a knee je
If you’ve held offshore equities over the last decade then rand volatility is the least of your concerns. In a presentation titled Offshore Investing – a Lost Decade Anil Thakersee mourns 10 years of dismal offshore investment returns. Thakersee is a portfolio manager at Old Mutual Investment Group SA (Omigsa) Macro Strategy Investments (MSI).
A decade in ‘the doldrums’
Website wikipedia.org says ‘the doldrums’ is a “nautical term for the equatorial trough – with special reference to the light and variable nature of the winds.” When early explorers entered these waters they were ‘trapped’ in becalmed seas for weeks on end. Investors in the Morgan Stanley World, USA S&P 500, London FTSE 100 and Japan Nikkei 225 indices have suffered a similar fate, making little headway over a period spanning a decade. Not one of these indices delivered positive total real returns over 10 years ending September 2009!
Thakersee used three graphs to illustrate the mistakes South African investors make when moving funds offshore. The first graph showed the real value of the rand by assessing it against a basket of offshore currencies and adjusting for inflation differentials. The second graph showed a massive spike in offshore investment flows during periods of rand weakness. These outflows peaked when the rand was undervalued by as much as 25%. And the third graph – one of expectations for US long-term dividend yields – confirmed that outflows from South Africa coincided with extremely poor offshore dividend expectations. “The South African experience has been a perfect storm,” said Thakersee. South Africans sold their currency when it was cheap to invest in offshore assets at a time when they were historically expensive, resulting in a double blow to investment return!
“In retrospect, the peak of offshore unit trust popularity among SA retail investors – the late 1990s and early 2000s – coincided with a period that was not favourable to investing offshore,” said Thakersee. Poor timing cost local investors dearly. In a matrix of asset class returns across the unit trust industry, foreign equities are bottom of the table over five and 10 years. Average annual returns over the five year period were 6% while the return over 10-years was a mere 3% per annum. If you had invested R100 000 in the JSE All Share index in September 2009 your annual average return of 16% would have grown the initial lump sum to R441 381! Over the same period an average annual return (rand adjusted) of just 2.8% from the MSCI World index would have compounded to R131 455.
Accidental protection
The lucky break for South African institutional investors came via the regulatory environment which permitted a maximum of 15% of total fund assets to be invested offshore. To demonstrate how this ‘saved’ local fund managers Thakersee used a notional portfolio invested 85% in the JSE and 15% in the MSCI World index. This portfolio would have returned 14.1% per annum over the 10 year period to turn R100 000 into R375 594.
Should local investors still consider US equities? We can think of six reasons to answer in the affirmative. The first is historic price movements have no bearing on the future, meaning the disappointing decade won’t necessarily be repeated. The second is that US equities are at their most attractive valuation (relative to bonds) in nearly 50 years. A third motivation for continued offshore interest is that US equities are trading below ‘fair’ value. Fourth, you have to consider the real annual return of 7% from US equities going back decades! The fifth motivation is that the recent 60% surge hasn’t returned US market capitalisation to pre-crisis levels. And finally, the rand is overvalued right now! “Current conditions make it a good opportunity to invest offshore for the long-term, or for investors who already have offshore exposure to maintain it,” said Thakersee. He warned against repatriating offshore holdings at this time.
Emerging markets remain attractive too. They offer lower consumer debt levels, better demographics, banking systems less damaged by the sub-prime crisis and smaller fiscal deficits. But developed markets have valuation on their side. MSI’s five-year view for offshore equities is positive. They expect real returns of 8% per annum over that period and have upped the offshore component of most of their funds close to the maximum regulatory offshore allowance of 20%.
Editor’s thoughts: Omigsa’s view on offshore equities is similar to the views expressed by a number of other local asset managers at the end of Q3 2009. A number of rand-denominated funds are taking advantage of the current climate to increase their offshore exposure to the regulated maximum of 20%. Have you taken advantage of recent rand strength to increase your offshore exposure? Add your comments below, or send them to [email protected]
