Asset managers warn against expecting unit trust funds that delivered outstanding performance in previous quarters to continue producing inflation-beating returns in future.
Performance results across the different unit trust categories are again generally good this quarter, and there are even positive returns among offshore funds that had been showing losses for many a quarter.
Over the year to the end of March 2005, the average returns in some equity fund categories were more than 40 percent. The popular general equity sector – where funds invest across all sectors of the JSE Securities Exchange – had an average return of 34.4 percent for the year (before costs), according to the figures produced for the Association of Collective Investments (ACI) by Professor Hugo Lambrechts of the University of Pretoria.
Over the year to March, the average returns in all unit trust sectors, except one – the worldwide technology funds sector – are positive. However, over the longer three-year period, returns from most foreign and regional funds are still negative.
The rand has been strengthening against other major currencies over the past three years, causing losses for investors in most rand-denominated offshore funds over this period.
But this quarter the good returns from offshore equity markets negated some of the effects of the strong rand, resulting in a positive return for funds investing in these markets.
Foreign general equity funds – which invest across global equity markets – showed an average return of seven percent (before costs) for the year to the end of March.
But unit trust industry experts warn against relying exclusively on past performance as a basis for investing. Despite the good returns from certain sectors, asset managers say there aren’t currently any “screaming buys”, and good returns in the year ahead will be the result of carefully selected investments.
Your best bet is to ensure that your portfolio is diversified across markets and asset classes, and at a risk level that suits your needs.
Diversify offshore
Many asset managers are advising investors to make use of the current strength of the rand against other major currencies to diversify their investments offshore.
While market commentators are speculating that the South African Reserve Bank’s decision this week to cut interest rates by 0.5 percentage points was intended to weaken the rand, others say that in the past the rand has weakened initially, but then remained strong.
Nic Andrew, the head of Nedcor Retail Investments, says the fact that local equities have out-performed equities in the United States since May 2001, strengthens the case for diversifying offshore – even if the argument is somewhat contradictory.
In dollar terms, South African equities (as measured by the JSE/FTSE All Share index) out-performed the Standard & Poor’s 500 index by 100 percent between May 2001 and the end of January 2005. (The S&P index is a measure of global markets.)
But, Andrew says, this fantastic performance is history. Now it is time to hedge your bets by investing in both local and offshore markets.
Many investors have recently put a lot of money into local equities and property, which have done well. Now they need to consider whether their portfolios are skewed towards certain assets and take steps to ensure that they diversify across markets and asset classes, Andrew says.
He says that while some offshore equities have also increased significantly recently and are now expensive, there are still opportunities in other markets.
Offshore markets are not a huge buying opportunity, he says, but it makes sense for investors to have some investments in these markets (see below “Reasons for investing offshore”).
Jeremy Gardiner, a director of Investec Asset Management, says Investec believes the global recovery is intact and expects further global economic growth this year, albeit at a slower rate than last year.
Gardiner says the fact that the US Federal Reserve has started raising US interest rates is evidence that the global recovery is sustainable. Ironically, he says, rising US interest rates will be good for global equities.
A rising US interest rate environment does not, however, bode particularly well for global bond returns, but will improve the paltry 1.6 percent which US cash returned last year, Gardiner says.
He says the US dollar remains under pressure because of huge US government spending in Iraq, tax cuts, American imports exceeding exports and the over-indebtedness of American consumers.
But Investec does not believe the US dollar will collapse, because there is too great a vested interest in maintaining the status quo for a wholesale switch out of dollars into euros, Gardiner says.
Nevertheless, Gardiner says Investec believes most of the US dollar’s structural correction has been achieved, and in the future the dollar will be less of a one-way bet.
Local market opportunities
The latest ACI figures show that over the quarter to March 31, investors put more than R3 billion into domestic equity general funds and R1.1 billion into domestic asset allocation flexible property funds.
This is on the back of good performance from both these sectors. The average returns over the past year from the property funds, which invest in listed property, are 41.4 percent.
Andrew says in the local market there are still investment opportunities in carefully selected equities and these should out-perform bonds, cash and property.
Richard Middleton, the portfolio manager of Stanlib’s growth fund, the Capital Growth Fund, says investors should not look for blanket growth from all local equity sectors, because it is likely that 2005 will be a stock-picking year.
Middleton says equity optimists are looking for 20 percent from the market this year, but the picture is unlikely to be uniformly upbeat.
“It looks like a stock-picking year. Some local companies could be reporting profits growth of 25 to 30 percent. We may also see high dividends from some quarters, as some local com-panies are cash-flush.”
Arjen Lugtenburg, a director of Allan Gray, says the latest interest rate cut should be good for companies that rely on domestic spending and, if the cut does weaken the rand, could also be good for companies that rely on offshore profits.
The bond market, he says, had factored in a further rate cut, and recent concerns about that cut not materialising had negatively affected bond prices. The fact that rates had now been cut would therefore have a short-term impact on bond prices, Lugtenburg says.
The rate cut will also mean lower returns from local cash investments.
Gardiner says that better local equity funds achieved returns of between 48 percent and 60 percent last year.
This year Investec expects solid, but more stable returns, he says. Interest rates will be flat this year and will probably rise by about one percentage point next year as inflationary pressures start to build, he says.
Gardiner says it is difficult to predict what the rand will do. Although last year the rand was the third strongest currency in the world, “it won’t always be like that and, at some stage, a gradual weakening trend should emerge, albeit far more stable than before”.
Reasons for investing offshore
Nic Andrew, the head of Nedcor Retail Investments, says the primary benefits of diversifying your investments offshore are:
– Greater diversification, which reduces risk. Investing in international markets gives you access to countries, currencies, asset classes and industries that are not available in South Africa.
– Reduced emerging market risk. South Africa is an emerging market, albeit with pockets of First World industries. By world standards we are a “small” economy, with a relatively illiquid and volatile stock market. South Africa represents less than one percent of the world’s gross domestic product and market capitalisation.
– Reduced currency risk. Economic theory states that you can expect a currency to depreciate in line with the differential between its inflation rate and those of its major trading partners. Although South Africa’s inflation rate has fallen substantially, it still exceeds those of its major trading partners and, coupled with the emerging market risk factor, one would expect, over time, the rand to once again depreciate against these currencies.
Andrew says the long-term average depreciation of the rand against the United States dollar since 1964 is 5.3 percent a year. This period includes the more recent strong appreciation of the rand – since 2002, it has appreciated by over 50 percent relative to the dollar.
While the rand can be volatile over the short term, over the long term it conforms quite nicely to the inflation-differential model.
Maintenance of “hard” currency spending power. It is important that South Africans travelling abroad, or who purchase imported items, such as cars, electronic equipment or, in fact, any product or service priced in an international currency, ensure that they maintain (and grow) their spending power in real terms.
Historically it can be shown, Andrew says, that an offshore allocation improves both the return and risk characteristics of a portfolio over the long term.
By Laura du Preez
Source: Personal Finance
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