Con­sider your op­tions for do­mes­tic as­sets

Business Day - Home Front - - HOMEFRONT - Prieur du Plessis

Rate cuts boost per­for­mance of fixed-in­ter­est as­sets

THE South African Re­serve Bank’s de­ci­sion to cut the repo rate by 50 ba­sis points re­cently came as a sur­prise to many in the in­vest­ment fra­ter­nity. The Bank’s move was not only wel­come but nec­es­sary to add im­pe­tus to the strug­gling econ­omy. While SA unof­fi­cially emerged from re­ces­sion in the fourth quar­ter of last year and growth is likely to ac­cel­er­ate, re­cov­ery re­mains frag­ile.

In­ter­est rate-sen­si­tive as­sets re­acted pos­i­tively to the un­ex­pected rate cut. The listed prop­erty sec­tor also ben­e­fited from the move with a re­turn of 2,2% for the week. How­ever, the most im­por­tant ques­tion re­mains: what are the prospects for do­mes­tic fixed­in­ter­est as­sets?

For­eign­ers have still been rel­a­tively big buy­ers of South African bonds this year, with net for­eign pur­chases to­talling R12,7bn. For­eign­ers are no­to­ri­ously fickle in­vestors and, with the lat­est rate cut, the lo­cal bond mar­ket has be­come less at­trac­tive. There is also a very real threat of the global econ­omy go­ing into a dou­bledip (W-shaped) re­ces­sion due to, among other things, China’s tighter mon­e­tary pol­icy over the past few months.

While lower growth tra­di­tion­ally leads to lower bond yields (and ris­ing cap­i­tal val­ues), this is not nec­es­sar­ily the case with bonds in emerg­ing mar­kets, as yields rise when global eco­nomic growth slows and vice versa. Emerg­ing mar­ket economies are highly geared to the global econ­omy and com­mod­ity prices. Dur­ing global eco­nomic down­swings the risks of in­vest­ing in th­ese economies in­crease, as down­side pres­sure mounts on im­por­tant eco­nomic vari­ables such as their cur­rent ac­counts and cur­ren­cies. If global growth should stall this may well spark a big sell-off in our bond mar­ket by for­eign­ers.

The yields on do­mes­tic bonds are higher than the money mar­ket — the cur­rent yield on the All Bond In­dex is 9,0% ver­sus the money mar­ket’s 6,5% or less. How­ever, nei­ther as­set class looks too at­trac­tive right now, es­pe­cially on an af­ter-tax ba­sis. With the risk of cap­i­tal losses on bonds also a po­ten­tial risk, fixed-in­ter­est in­vestors should stick to flex­i­ble in­come funds, where the port­fo­lio man­ager ac­tively man­ages the ma­tu­rity of the port­fo­lio and strives to limit cap­i­tal losses. An­other fixed-in­come op­tion is a port­fo­lio of vari­able-rate pref­er­ence shares. Th­ese shares pay div­i­dends, the rate of which is linked to the prime in­ter­est rate. Most of th­ese shares still of­fer a higher yield than the money mar­ket and they have the added ben­e­fit of tax-free div­i­dends.

Pref­er­ence shares are still trad­ing at a dis­count to their orig­i­nal is­sue prices, which re­sults in an in­crease in the ef­fec­tive yield. Pref­er­ence share prices vary, but price volatil­ity does not in­flu­ence the in­vestor’s in­come stream as div­i­dends are based on is­sue prices and not mar­ket prices.

The last op­tion for in­vestors is prop­erty that of­fers an in­come stream com­pa­ra­ble to bonds but with po­ten­tial for much higher growth (or losses) in cap­i­tal value. While the re­cent in­ter­est rate cut should boost eco­nomic growth and prospects for im­prove­ment in the prop­erty mar­ket, the prices of prop­erty in­stru­ments have ex­pe­ri­enced eq­uity-type volatil­ity in mar­ket cor­rec­tions. If a dou­ble-dip re­ces­sion ma­te­ri­alises, listed prop­erty in­stru­ments will be af­fected neg­a­tively. Only in­vestors with a time hori­zon of at least three to five years should con­sider an in­vest­ment in listed prop­erty.

Newspapers in English

Newspapers from South Africa

© PressReader. All rights reserved.