South African investors are going off-script in 2023
South African investors are going off script in 2023, as global interest rates are set to continue upwards alongside inflation.
“Many commentators compare today’s low growth, high inflation and high oil price environment to the 1970s and then suggest that fund managers can use these similarities as a magical, historical roadmap to predict market inflection points,” says Jason Swartz, Portfolio Manager at Old Mutual Investment Group’s (OMIG) MacroSolutions capability.
Unfortunately, no rule or historical pattern accurately predicts market peaks and troughs, said the portfolio manager.
Swartz said that the best that fund managers can do is continually assess their asset allocation themes and valuations in light of prevailing macroeconomic conditions and, based on these assessments, ensure that their portfolios contain the correct mix of the following in both domestic and offshore markets:
- Bonds
- Cash
- Equities
- Listed Properties
With inflation and interest rate ‘shocks’ causing certain asset classes to fall simultaneously, there was nowhere for investors to hide last year.
US share prices in October 2022 saw 10% improvement, tempting many portfolio managers to increase their exposure to offshore equities – but Swartz said such buying action would be premature.
“It makes more sense to increase exposure to global bonds in current market conditions,” he said.
With US 10-year yields just below 4%, global bonds offer reasonably attractive entry points relative to both its own history and global equities.
Additionally, this asset class should benefit from tailwinds created by global inflation peaking and increased risks of a global recession in 2023, he said.
“Whether a multi-asset fund outperforms or underperforms its competitors largely hinges on its currency exposure and effectively the ratio of its global to local assets,” said Swartz. “As a result, you need to have a credible view and risk management strategy on the rand versus US dollar, when building a multi-asset portfolio.”
Swartz said that the rand is oversold at current levels of roughly R17.20 to the dollar, and he predicts improvements in South Africa’s fiscal accounts.
“Terms of trade could also provide tailwinds for the currency over the coming months. The rand has a disproportionate impact on multi-asset portfolios, and that’s something we are paying a lot of attention to,” he said.
He added that a stronger level of the rand to the dollar would encourage investors to move more assets offshore because there is still plenty of concern over the country’s performance long term in terms of reform.
At stronger levels of the rand to the dollar, investors would be looking to move assets offshore because, “on a long-term basis, we remain concerned about the country’s performance on reform,” he said.
Low economic growth (forecast at less than 2% for 2023) and weak business confidence are also predicted to weigh on the rand’s long-term prospects.
Armed with this currency ‘view’, portfolio managers can focus on the best return opportunities from domestic asset classes going into 2023.
According to Swartz, South African equity has been cheap for some time and offers compelling value against equities in developed and emerging markets.
“Locally listed stocks have a much better chance of delivering positive earnings growth in the coming year than global counterparts, and these have proven quite resilient in a tough economic environment,” said Swartz.
“Decent earnings from many of these firms will support a compelling price-earnings valuation of eight or nine times forward on the JSE.”
The argument for South African bonds is even more compelling following a disappointing performance from the asset class through 2022, he said.
“There has been a lot of sovereign risks priced into our bonds, and we expect some of that risk to unwind in 2023. The fact that we are close to the peak in interest rates and inflation should support a rerating in the domestic bond market,” said Swartz.
He said that the 11% yield on SA government bonds far exceeds the 6% on offer from a cash or 7% on offer from money market instruments. “If bond yields turn during the year, then it is quite likely that South African bonds could deliver 15-20% return for multi-asset portfolios in 2023.”
“On a risk-adjusted basis, we have tilted our balanced and multi-asset portfolios towards South African bonds. We have actively bought bonds into weakness and are quite optimistic with the resulting asset allocation,” said Swartz.
Commentary by Old Mutual Investment
Read: Rand takes a knock as economists raise red flags over South Africa’s economy
