Mar­ket volatil­ity an op­por­tu­nity to buy cheap

The un­cer­tainty stalk­ing the mar­kets is push­ing down prices. The lower the price when you buy, the more likely it is that the re­turns will be high. re­ports

Weekend Argus (Saturday Edition) - - FRONT PAGE -

Slow eco­nomic growth and the ex­pec­ta­tion that mar­kets will de­liver lower re­turns are bad news for in­vestors.

The lat­est fore­casts from the In­ter­na­tional Mon­e­tary Fund (IMF) show that the South African econ­omy is strug­gling to keep up with even pedes­trian global growth, Stan­lib chief econ­o­mist Kevin Lings told the re­cent Lib­erty Cor­po­rate Em­ployee Ben­e­fits Sym­po­sium.

The IMF this month fore­cast that the South African econ­omy will grow by just 0.1 per­cent in 2016 and by 0.8 per­cent in 2017, whereas global growth is fore­cast at 3.1 per­cent in 2016 and 3.4 per­cent in 2017.

Where do in­vestors find good re­turns in this en­vi­ron­ment? At the sym­po­sium, a panel of fund man­agers agreed that growth and re­turns are hard to find, but op­por­tu­ni­ties do ex­ist.

An­drew Lap­ping, the chief in­vest­ment of­fi­cer at Al­lan Gray, said that, in an en­vi­ron­ment where prices are higher than they have been, re­turns will be lower.

Neville Ch­ester, a port­fo­lio man­ager at Coro­na­tion Fund Man­agers, told del­e­gates: “South Africans have had a phe­nom­e­nal 20 years [for in­vest­ment re­turns]; don’t ex­pect a re­peat per­for­mance.”

Rob Forsyth, the global head of re­search for qual­ity at In­vestec As­set Man­age­ment, said: “If we build a port­fo­lio where we are try­ing to beat in­fla­tion by six per­cent, we think there is a 50-per­cent chance we won’t be able to achieve that.” He was op­ti­mistic, how­ever, that a re­turn of in­fla­tion plus four per­cent­age points is at­tain­able.

Are eq­ui­ties still the best in­vest­ment for long-term growth? If you look at per­for­mance track records, in­clud­ing those that go back 100 years, the an­swer is yes, Ch­ester said. “You have to look long term when in­vest­ing. The re­al­ity is that we are deal­ing with a risk that is 20 years out, and, for the long term, eq­ui­ties have been the as­set class to be, be­cause they have gen­er­ated the higher re­turns.”

Ch­ester said volatil­ity and un­cer­tainty pro­vide op­por­tu­ni­ties. He be­lieves you can find value in a mar­ket when there is “so much fear and con­cern that a lot of shares are priced for the worst pos­si­ble out­comes”.

At the be­gin­ning of this year, when the news in South Africa was “hor­rific”, Coro­na­tion bought do­mes­tic as­sets, which looked cheap. “When a lit­tle bit of good news comes along, you can get fan­tas­tic re­turns.”

Lap­ping said: “The price you pay for an as­set mat­ters and is ex­cep­tion­ally im­por­tant in gen­er­at­ing re­turns. If you buy at a low price, you are more likely to get good re­turns, and you are more likely to find a low price where there is un­cer­tainty.”

Forsyth said there were places where in­vestors could find value – it comes down to stock se­lec­tion – but bonds may out-per­form eq­ui­ties over the medium term. “In South Africa, you have got to pick your time-frame and, on a five-to-sev­enyear re­turn, we think bonds will prob­a­bly beat lo­cal eq­ui­ties.”

He said qual­ity com­pa­nies that gen­er­ate sub­stan­tial re­turns on cap­i­tal con­sis­tently were de­sir­able. “We think we can find enough rea­son­able val­u­a­tions off­shore.” How­ever, many of these com­pa­nies are highly sought af­ter, and this is built into their price, mak­ing them an ex­pen­sive buy, Ch­ester said.

“Ev­ery­one knows that the high-pre­dictabil­ity com­pa­nies will de­liver, and this is built into their price. A lot of the global in­dices are heav­ily weighted to­wards the large com­pa­nies; it is hard to find value in this space. How­ever, if you look a lit­tle deeper, you can find com­pa­nies where the price might re­flect value,” Ch­ester said.

Forsyth be­lieves man­agers need a healthy dose of cash so they can in­vest when op­por­tu­ni­ties arise.

Robin Ea­gar, the head of Stan­lib’s multi-as­set fran­chise, had a slightly dif­fer­ent view of eq­uity mar­kets. He said it was a myth that you have to be in eq­ui­ties con­sis­tently, be­cause they al­ways re­cover, and that val­u­a­tions should be high when in­ter­est rates are low.

“There is ab­so­lutely no re­la­tion­ship be­tween in­ter­est rates and re­turns over the cy­cle. We go into the mar­ket on val­u­a­tion – that is, we buy eq­ui­ties based on their price rel­a­tive to the value of the un­der­ly­ing busi­ness. The price must of­fer po­ten­tial for re­turns at a pre­mium to cash, risk-ad­justed re­turns.”

Ea­gar be­lieves in­vestors need to think about wealth preser­va­tion, par­tic­u­larly in light of past good re­turns from eq­uity mar­kets.

Low in­ter­est rates and quan­ti­ta­tive eas­ing have pro­duced an en­vi­ron­ment where in­vest­ment re­turns have oc­curred at the be­gin­ning of the in­vest­ment cy­cle, in­stead of be­ing spread over the cy­cle, Ea­gar said.

As far as fixed in­come goes, Lap­ping said the re­turns in United States dol­lars of South African fixed- in­ter­est as­sets have been ex­cep­tional this year. But if you buy a 20- or 30-year gov­ern­ment bond, you have to ask what could go wrong. “To my mind, there is a lot that can go wrong, and we would rather buy a real as­set. We are very un­der­weight in long-dated bonds.”

Would a down­grade knock mar­kets? Ch­ester said South Africa al­ready re­flects the price of a down­grade. If a down­grade oc­curred, mar­kets would be ex­pected to move on the day, “but we don’t see a ma­jor im­pact on mar­kets. The big­ger is­sue is why we are get­ting down­graded.”

Lings said there was a sim­ple so­lu­tion to im­prov­ing South Africa’s eco­nomic growth: en­cour­age cor­po­rates to spend on fixed in­vest­ment projects such as wa­ter sup­ply and other crit­i­cal in­fra­struc­ture. They have good bal­ance sheets and over R600 bil­lion in cor­po­rate de­posits, but lack con­fi­dence.

“Make the cor­po­rates as con­fi­dent as you can.”

Lings said this would re­quire po­lit­i­cal will and “right now it is not there. If we con­tinue with busi­ness as usual, we will be junk sta­tus. I keep hop­ing we will get past the po­lit­i­cal im­passe and fo­cus on how we grow this coun­try.”

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