Two bad years, but look at the long term

Francois Finlay, head of protected investments at Cadiz Asset Management, responds regarding the Equity Ladder Fund

THE fund’s performance has been very poor over the past two years, but here are a few points to consider.

First, the Cadiz Equity Ladder Fund is not a pure equity fund, so one is not comparing apples with apples. The fund’s value proposition is to provide equity-like returns over the long term with less volatility. The fund’s mandate is to hold protection from downside moves in the equity market in the form of put options on the Top 40 index.

The amount of protection depends on the risks at that point in time. Despite the poor US economic recovery, the continued recession in the eurozone and China growing at sub-par rates, South African equity markets have kept moving up without significant volatility — thanks to historically low interest rates internationally, which resulted in the search for yield and risk, and the weak rand (down 38.4% against the British pound over the past two years).

About 70% of JSE share prices are influenced directly by the rand. Low commodity prices, despite the largest worldwide economic stimulus since World War 2, are indicative of this sub-par world economic growth.

Any money spent on protection in these clearly risky times was thus lost. This was the major reason for the fund’s underperformance.

As a value house, we have

Any money spent on protection was thus lost

had a bias towards resources over the past two years and this also contributed to the poor performance.

The use of Top 40 protection as opposed to the Swix (shareholder weighted index) has meant that the fund naturally has a higher resources allocation owing to the higher resources weighting in the Top 40. Although the resources weighting has rebalanced down with time because of market movement, resources had more than 50% weighting in the Top 40 two years ago.

The remarkable outperformance of industrials over resources in the past two years — 78.4% — will also reverse over time. Resources have returned -9.2% annualised over this two-year period despite the rand depreciating. Resources previously provided a significant rand hedge. This outperformance is also indicative of abnormal times and the sentiment against resource counters locally.

The graph of the Equity Ladder Fund on a longer time frame shows the fund’s longterm performance and the value of the investment proposition.