This could be the time to go against the grain by remaining invested in equities
If the festive season seemed a little less festive, and the cheers on old year’s night a little more cheery, then with good reason. In many ways, 2019 was an abysmal year, the exclamation mark to a dreadful decade that saw our country regress in almost every way. Not even winning the Rugby World Cup could lift the broad sense of malaise.
Who then would want to save in a pension fund that is legally required to invest at least two-thirds of its money locally? Surely, that was going to end badly, especially in 2019?
The economy contracted two quarters out of four, expected tax revenue was revised downwards by R50bn and our budget deficit is set to blow out to 5,9%, double what we consider prudent. Government borrowings will soon exceed 60% of GDP, much more than we can afford, with no sign that this trend of rising debt and interest costs will abate.
Caught in this negative feedback loop, it is no longer a question of if but when Moody’s downgrades our bonds to “speculative grade” and formally banishes us to the junkyard, (though, in truth, we are doing our business there already). What will be the fallout when it becomes official? The image of a fraying rope holding up a piano comes to mind.
Business confidence is near a record low, with consumer sentiment not much better. Eskom often sends us to a place of darkness and despair, throttling our hopes for an economic recovery. And we still have the albatross that is SAA around our necks, with unions opposing remedial actions on SOEs and holding the government hostage with threats of economic sabotage. It all feels hopeless.
Who would want their retirement savings exposed to this toxicity? The online clamour to avoid the formal pension fund system and the regulation 28 asset class limits, so as to invest more money offshore, is getting louder. And yet, despite the year we’ve just had, and with no real prospect that 2020 will be any better, a typical regulation 28-compliant high equity portfolio with 30% offshore (the standard for most long-term investors in corporate pension funds) would have earned about 11% in 2019.
With inflation dropping to 3,6%, these investors earned a real return of 7.5%, before fees. That is a significant improvement over recent years when these portfolios only just managed to beat inflation. The point is not to minimise the economic challenges facing SA. They are huge. The point is that the poor outlook has largely been discounted by local shares and, more importantly, that much of our share market is disconnected from the domestic economy. Our largest listed companies have a global footprint or are driven by extraneous factors such as commodity prices.
It is also that the 30% offshore allowance is material. In 2019, the 25% returned by the MSCI World Equity Index provided a big kicker to local balanced portfolios. No-one really saw that coming either, not after all that talk about rising US interest rates, trade wars and inverted yield curves. With hindsight, investors would have been marginally better off in a defensive cash-and-bonds portfolio form 2014 to 2018. It was one of those rare five-year periods when it paid to take less market risk, and it fuelled the “get your money off the JSE” narrative.
Yet even with this five-year return hiatus in the middle, those who stuck to their high-equity strategy over the seven years from 2013 to 2019 would have come out comfortably ahead, beating inflation by more than four percentage points a year before fees. Despite all that our politicians did to make us less attractive as an investment and tourist destination, and despite the many rotten apples that emerged on the JSE, they would still have been rewarded for taking on market risk.
The lesson, once again, is that there’s no telling which way markets will go next. What we do know is that they ignore current sentiment and look ahead, while we, individually, tend to get mired in the prevailing pessimism and dismiss the investment maxims that we find so compelling in theory; such as to be greedy when others are afraid.
In practice, we’d rather go with the flow. Right now that would mean choosing cash over a high equity portfolio or investing more of our money offshore. But if most of the bad news is priced into local shares, a reversal of some sort will provide spectacular returns.
Such turning points become obvious only with hindsight. Then, the gains will be described as easy money. The only way to earn them though, is to stay the course and be invested when the turnaround happens, because there won’t be a bell ringing it in.
• Eddy is head of investments at 10X Investments.