Cape Town – Local politics is creating more than usual uncertainty, Dave Mohr (chief investment strategist) and Izak Odendaal (investment strategist) at Old Mutual Multi-Managers said on Monday.
For instance, once more, the position of Finance Minister Pravin Gordhan is in question. The rand fell sharply when news broke that Gordhan has been summoned to appear in court in November. He faces a fraud charge for what the CEO Initiative has termed “essentially an administrative and human resource matter” for his role in granting a former SA Revenue Service deputy commissioner early retirement.
They said when investing in such an uncertain environment one should avoid rash and emotional decisions and remember that sometimes the media tends to sensationalise matters.
Focusing on news flow and short-term market movements will only lead to regret later, in their opinion.
“Secondly, since the future is always uncertain, diversify appropriately. Focus on what you know, not the unknown: valuation offers a much better framework for making investment decisions than obsessing about how political scenarios will play out. Rather than seeing market volatility as a period of stress and anxiety, valuation-based investors will look at the opportunities it can offer,” they said.
“The latest bump in the rand and the oil price doesn’t meaningfully alter the expectation that inflation will decline next year and that the repo rate is close to peaking (it probably has peaked). The attractive current yields, therefore, offer the prospect of reasonable real returns. This is important since investors in balanced funds will also notice that their returns over the past year are disappointing, since the main asset classes have not delivered much.”
From a diversification point of view, their strategies remain close to the 25% maximum offshore allowance, which should benefit from any sustained further depreciation in the rand.
“But remember that local equities also have a strong rand-hedge component, benefiting in general from a weaker currency (much like how the UK equity market has been flying as the pound has fallen). Therefore, it might not be necessary to add additional rand-hedge exposure to your portfolio, even if you are worried about the impact of politics on the rand – although in reality commodity prices and global risk appetite play a far greater role,” they said.
South Africa avoided ratings downgrades to junk status in May and June, but scheduled reviews in November and December loom. Bank shares, probably the most sensitive of all shares to a credit ratings change, fell sharply, they pointed out.
“Ratings downgrade risk has been embedded in our financial markets for some time: South Africa’s credit default swaps (CDS) – instruments that investors use to insure against bond defaults and therefore measure risk – trade at the same level as sub-investment grade Turkey, Brazil and Russia,” they explained.
“The rand remains historically weak on a real trade-weighted basis. Our bond yields (and spreads over US equivalents) have been elevated for some time. Despite the 14% year-to-date rally in the All Bond Index, the 8.9% yield on the government 10-year bond is only back to where it was in early December 2015. A year before that it was at 7.5%.”
To maintain SA’s rating, the ratings agencies want to see a better economic growth outlook, reforms to sustain faster growth over time and improvements in the management of state-owned enterprises to prevent them from further draining the fiscus through bail-outs and guarantees – among other things.
“The latest developments would cast doubt on this happening. S&P Global, which has South Africa’s foreign currency bonds on the lowest investment grade rating (BBB-) with a negative outlook, expressed concern this week that politics could interfere with policy,” they said.
“But the government’s credit rating is far from the main factor in determining long-term returns for investors. Starting valuations, commodity prices, US interest rates and global risk appetite are all independent of the credit rating and will impact the extent to which your capital grows or not.”