Investing in Post-downgrade SA
The politics and markets in South Africa are in turmoil. This is uncertainty; this is risk. Predictably, many investors are jittery and are asking, “How should I be investing in this type of environment?”
The first – and most important – piece of advice that I can give is: do not panic. The types of events that we have witnessed over the past year only serve to reinforce the importance of a sensible investment philosophy and process. A well-diversified portfolio is particularly useful in times like these. However, portfolios do need to be rebalanced from time to time.
If you have bonds in your portfolio, then this building block will be under pressure. It is, of course, South African government bonds that were downgraded to junk status so, hopefully, your asset managers have reduced your exposure to bonds.
The rand has come under significant pressure and this is likely to continue, so the high conviction view for the balance of this year is to reduce exposure to randdenominated investments while raising exposure to rand hedge investments. The shares of local companies which earn a large proportion of their revenue in South Africa – such as local banks and local retail stores – are most likely not going to perform particularly well, so you want to reduce exposure to these types of companies in your portfolio as well.
The good news is that some of the equity building blocks of your portfolio are likely to give you good returns. The high conviction view of Citadel is that overseas equities are likely to provide better investment returns than local companies in the coming year. So, you will want to have greater exposure to international companies or those local businesses that are exposed to the global economy. About two thirds of the income that is generated by companies listed on the Johannesburg Stock Exchange is generated outside of the country. Those businesses are likely to perform well if the rand devalues, so you want to have an increased exposure to those types of companies in your portfolio. For example, a business that exports goods from South Africa and earns in foreign currency would be an option to consider.
Hedge funds are often used to reduce the downside volatility of a portfolio and thus reduce the risk. It is like an insurance policy. It may be expensive, but if you have a hedge fund strategy in your portfolio, you probably want a higher percentage of hedge funds now.
Protected equity is a type of investment building block strategy where you do not share in the downside of the market. For example, if the market drops by five percent, your portfolio might only drop by two percent. That means that when the market starts going up again, your portfolio starts at a higher point. In uncertain times, you want more of this in your portfolio.
Uncertain times bring about risk, but having a well-diversified portfolio that considers uncertainty remains an appropriate strategy. Avoid any knee-jerk reaction to market nervousness, and, as always, get skilled advice.