Evaluating the JSE’s performance over the past 12 months

Following the market rebound after the Covid-19 crash in March 2020, Louis Niemand, investment director at Ninety One, explores the prospect of current valuations improving further.

NOMPU SIZIBA: For the longest time investing on the JSE has not been a very appealing prospect, given that annual returns on the exchange have been far from robust and have compared badly with global markets. But, following the rebound from the Covid-19 crash in March 2020, progress on the exchange has proved better than expected. Although the country’s economic fundamentals remain weak, what are the prospects of current valuations improving significantly further?

Well, to give us a historical and forward-looking take on the fortunes or otherwise of the JSE, I’m joined on the line by Louis Niemand. He’s an investment director at Ninety One. Thanks very much for joining us, Louis. Now, returns on the JSE have been far better than expectations. So, what’s the performance been over the past 12 months?

LOUIS NIEMAND: Over the past 12 months we’ve actually seen extremely strong runs on the JSE, but we’ve got to understand that the market is coming off an extremely low base. So, if you seriously talk about the things that have changed, it’s been calculated on the extremely low base that we saw since the Covid crash. From that low base the market is up – the Alsi Index is up about 54% for the 12 months to the end of March [2021], which a lot of investors would not have imagined when looking at the market crashing at the end of March last year.

NOMPU SIZIBA: Yes, this is obviously a very far cry from the market sell-off that we saw in March last year right around the globe, and of course the valuations’ rebound has been very strong.

LOUIS NIEMAND: It has been extremely strong. What is also quite key is that during the Covid crash global markets as well as South African markets lost about a third of their value. Normally, when we see markets losing a third of their value, it takes two to almost three years for markets to recover that huge loss that they actually saw. This time around, global equity markets recovered all their losses in the space of about four or five months.

In South Africa, when we got to about November/December we’d recovered all the losses and since then markets have actually propelled even further and earlier this year, by February, we reached all-time new high levels which I think is quite pleasing for a lot of investors to see.

NOMPU SIZIBA: Yes. Given your analysis about what usually happens if markets lose a third of their value and of course in this instance the rebound was quite positive and fast – do you think that’s just because of the Covid crisis and because once people began to see the possibility of vaccines, that just brought on that much more optimism, and that’s why we saw the significant rebound?

LOUIS NIEMAND: Nompu, that is definitely the case. What we normally find is that when you have this significant market crash, like a 30 or 40% correction in the markets or a market crash, it’s normally the result of a broader financial crisis. This time around what we have actually seen is it was the result of a specific pandemic and a specific systemic risk that wasn’t caused because of a financial crisis. Therefore, as soon as markets got a sense that the pandemic could be brought to an end because of vaccines, it gave them hope that economic conditions could actually improve and that things could eventually return to normal.

Coupled with that, we had very strong synchronised global support to financial recovery by the means of monetary support as well as fiscal support from governments across the world. That gave markets the support that they needed, which actually boosted this very sharp and very strong recovery.

However, this recovery wasn’t actually a broad-based very quick recovery in all market sectors. The first phase of this recovery, basically until November, that first seven months, was actually globally very concentrated to only the sectors that initially benefitted from the pandemic, the typical stay-at-home sectors. In our local market, the only sectors that really recovered in those first seven months were shares like Naspers, which had benefitted from their Chinese company Tencent, where the Chinese people actually played more cellphone games during the lockdown period. And then also our resources sector, because China came out of the lockdown more quickly and therefore the demand for commodity shares and for commodities was quite quick to recover. That boosted our commodity shares and our resources sector on the market quite quickly. So, the initial phase of our markets covering the first seven months would basically be concentrated and very narrow. It was basically Naspers, Prosus, as well as our resources shares.

However, in the first week of November, with the announcement of vaccines being rolled out and being approved across the world, we then started seeing a broad-based recovery where sectors that are linked to the broader economy really started participating in this rally. We actually started seeing all other cyclical sectors of the economy in markets across the world and in South Africa also participating in this rally and we started seeing the bank shares, your listed property shares, your small retail shares, all those sectors of the economy and those sectors of the markets really start gaining momentum as well.

NOMPU SIZIBA: It must be quite tricky to take a view on the JSE because, prior to Covid hitting, in the years preceding that the JSE was said to have moved sideways with lacklustre returns. It struggled to breach the 60 000-index points mark. But of course, now it’s well in excess of that and could seriously hit 70 000-index points sometime soon.

LOUIS NIEMAND: I think a lot of investors almost lost faith in equities as an investment, because we actually went through a number of years with our market being extremely range-bound – and it went nowhere. A lot of investors felt disappointed, and they felt that they were taking on the risk of investing in equities and for that risk they felt you had to be rewarded. But the investments went nowhere for a number of years. And still today, after the recovery that we saw over the last year, if you look at your investment at a five-year term, you barely, barely outperformed cash over a five-year period. So you still feel disappointed about your investment.

The reason for that is, if you look back at the market five years ago, our market was at an expensive level. The typical valuation method that you could look at is a price-to-earnings ratio, where you look at the value that you paid, and the price that you pay for our market, for the shares, relative to the earnings that the companies are delivering. And on any price-to-earnings methodology our market was at a good one or two standard deviations too expensive. As we said, and as a lot of asset managers were telling investors five years ago, listen guys, just scale down your return expectations because our market was too expensive, and when you buy something that is too expensive you have to scale down your return expectations because your return is going to be lower when you buy something that is too expensive.

However, when you look at the current valuations on our market, even though the market had a really good run over the past year, at current levels our market is trading at a good one or just over one standard deviation below its long-term value. So, at current valuations the market is actually offering very decent values. At these levels you can say that from these levels the market is actually offering decent value and you should be getting a decent return from the market, and the market should compensate you for taking on the volatility and the risk by investing in equities.

NOMPU SIZIBA: The big counters that generally have an impact on the JSE’s direction tend to be more offshore-facing and less SA-linked. Those would include the likes of resources counters – you mentioned those – and the industrial giants, Naspers and Prosus. Given that, what’s the outlook for local equities? Could we breach 70 000 on the Alsi this year?

LOUIS NIEMAND: Hopefully we can, and it will be excellent if we can see it. But the market doesn’t always go up in a straight line, and we’ve already had a very strong start to the year with the all-share index up 15% in the first three months of the year. Normally after such a very strong run, it’s normal for the market to take a bit of a breather. So we won’t be surprised to see a bit of a sideways move where the market is taking a bit of a breather before we have another leg up.

In terms of the broad-sector perspective if you look at the market, the resources sector remains extremely powerful, and the gains on the resources sector remain very, very strong. That has been partly powered especially by the diversified miners, Anglo and Billiton, where demand for commodities, especially iron ore coming from China, remains very strong. And then our domestic platinum sector continues to benefit from demand for the platinum and the PGM [platinum group] metals.

On the flip side, as this global economic growth gains momentum, we have actually seen a bit of a lacklustre demand for gold, which is typically a more defensive or safe-haven asset. So we’ve actually seen [that] the gold counters and the gold shares have lagged a bit, and there has been a downgrade in the earnings expectations for the gold counters. The gold shares have lagged a bit over the past few months, basically the past six months. But then on the flip side the rest of the commodity sector, especially oil, Sasol, over the last year has come from a very low base and this year has recovered significantly – and in the Top 40 shares, Sasol has been by far the best-performing share, gaining over 400% since the end of last year.

NOMPU SIZIBA: I feel sorry for those people who sold out of Sasol when it went all the way down to, what, R23/share.

LOUIS NIEMAND: Exactly, but it is extremely difficult, because you can just think for yourself, at the end of March last year most of us were thinking the end of the world was here. It’s such a difficult call to make. You see the oil price just keep on dropping, and at such a low oil price Sasol was not a feasible investment. At that stage none of us had any indication at what point in time the oil price would go up, and there was just no visibility of where the oil price would be going and where it would settle. So it was a very difficult call to make on Sasol at that point in time.

But then again, if you had the guts, and you had bought Sasol at R23/share, at that point in time with the low oil price –

NOMPU SIZIBA: You’d be laughing all the way to the bank.

LOUIS NIEMAND: All the way to the bank. The other area of the market which is quite interesting – you’ve spoken about the domestic SA Inc-type shares, those shares linked to the domestic market – a lot of those shares of course came under pressure for a lot of last year. As the economy was slowing down because of lockdown and the consumer being under pressure and the economy being under pressure, a lot of those shares have been struggling. It’s only recently, since November, as conditions started to improve, that some of these share prices have actually started to come to the fore. But again, also because of the low base that some of these shares have been in, over the 12-month period they have seen some decent gains. The more cyclical ones in particular have really shown a decent return over the 12-month period.

We continue to see some good value in a lot of these SA Inc counters, but you have to be a lot more careful, and you’ve got to do your homework. A lot of these companies continue to operate in very difficult environments. You have to be a bit more careful as to which specific shares you are buying, because it is a tough environment that they are operating in. So take a bit more care. But we do find some individual opportunities that look very attractive.

What is quite interesting on the flip side is that the shares that you would normally add – those that fell in March last year – this is the area that you can go and hide. And a share like British American Tobacco, those typical steady-Eddy shares that you normally feel are a safe place to go and hide, when a pandemic breaks out and this is your typical safety net or safe-haven shares, if you invested in that safe-haven share in March last year, your 12-month return would have been only 2% over the last 12 months to the end of March. Again, all the cyclical shares have shown extremely good returns from that low base over the 12-month period, whereas the defensive shares have actually basically shown a zero percent return over the 12-month period. It has not been an easy call.

NOMPU SIZIBA: That was Louis Niemand. He’s an investment director at Ninety One.

Brought to you by Ninety One.

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The markets have never looked more frothy and expensive in history.

One has to question why the JSE has a retraction on the last day of the month, 10 out of 12 months. 1st day of the next month its back up again. Intrigues me.

And what is the JSE performance over the last 5 years. My guess is it probably matched putting your money in the money market.

FTSE/JSE Alsi is 50.43% total return 5 years to the day. Allan Gray MM Fund 41.86%.

Why does South Africa not make it law, for companies like Facebook, Google….to list on the JSE??

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