Investment lessons from the Oroville Dam disaster
Investors, like government officials, are advised not to ignore warnings from experts, be they about cracks in dam walls or cracks in a currency’s valuation.
avery interesting story was unfolding in California in the US as I was writing this article. Among the many interesting sights in the US, you will find the Oroville Dam, which, at a height of 235m, is officially the highest dam in that country. In 2013, however, a crack in one of the dam’s main slipways was concerning enough to experts that they warned of the possibility of a total dam collapse, which could potentially risk the lives of thousands of people.
Government officials saw the signs, but they were adamant that everything was under control. What a great shock it was when it was announced on 12 February that the dam may collapse at any moment, forcing nearly 200 000 residents in surrounding areas to evacuate immediately. While residents have been able to return, by 20 February, everyone was still waiting with bated breath to see what would happen next, and this brings me to my message this week: don’t look for possible solutions to position yourself when the dam breaks, but rather learn a valuable lesson from this story.
In an article titled Nobody can pin down the rand (28 April 2016 edition), after the rand weakened to nearly R17 against the dollar, I pointed out at least three cracks in the valuation of the rand and used these cracks to show why the rand was strongly undervalued at the time. Some of the points I made included that the rand’s fair value was calculated mainly on its purchasing power parity (PPP), the benefits that a possible recovery in the resources sector might hold for the rand and a few technical aspects as well.
Like with the Oroville Dam, these cracks were clearly visible to all. In September 2016, after the rand strengthened to around R14/$, I was asked to perform a follow-up analysis on these valuations and still these cracks showed us that the rand’s fair value remained between R11.50 and R12/$. I also named three shares that could be considered by investors who wanted to benefit from a possible further strengthening in the rand at that stage ( There goes the rand, again, 16 September edition) and they were Capitec Bank, PSG Group and Tiger Brands. Since then, the local currency has strengthened to below R13/$, and the abovementioned shares have grown by 18%, 28% and 11% respectively, compared to the FTSE/JSE All Share Index’s (Alsi’s) growth of 1% over the same period. The reason for their performance can be attributed to the fact that huge locally-based companies have restructured their earnings in such a way that less than 40% of the Alsi is dependent on the rand. These three companies, however, still earn the largest component of their income in rand, which made them stand out as a possible solution for a cracked dam at the time. Unfortunately, this is now history, which means that investors have to decide on the way forward and how to position their personal portfolios following recent happenings. I’m aware that there has already been a rally in both the rand and shares that are strongly linked to the rand, but the fact remains that the rand still seems to be priced fairly cheaply, which means that if you are still invested in a strongly rand-hedged portfolio, you run the risk of underperforming if the countless analysts and economists are correct in their expectations of further strengthening of the rand. When we take a look at all of the Alsi shares’ price correlation to the rand over the last 10 years, we will see that local banks and retailers in particular held a strong correlation with the strengthening of the rand. When we take an even closer look at these shares, we will see that three shares stood out as shares with the highest correlation with the strengthening of the rand over the past 10 years. According to analysts and consensus forecasts compiled by Bloomberg, these three shares will offer the most growth potential over the next 12 months and could offer a valuable addition to personal share portfolios, namely FirstRand, Remgro and Woolworths.
Don’t look for possible solutions to position yourself when the dam breaks, but rather learn a valuable lesson from
Water moving down the damaged spillway at the Oroville Dam on 17 February in Oroville, California.