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Offshore 30% cap effectively lifted

‘This is the biggest relaxation of exchange control this country has ever had’ – economist Mike Schüssler.
Low-cost asset managers can now sell more of a broader range of offshore products, with better growth prospects than those in SA. Image: Dado Ruvic, Reuters

A seemingly nondescript change to regulations has effectively resulted in the biggest relaxation of exchange controls in South Africa’s history.

The move, announced last month in an explanatory note put out by Treasury in the Medium-Term Budget Policy Statement has lifted the cap for South Africans to trade in foreign assets. 

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“All debt, derivatives and exchange-traded instruments referencing foreign assets, that are inward-listed, traded and settled in rand on South African exchanges, will be classified as domestic. The classification of all inward-listed shares denominated in rand remains domestic.”

This means if a locally-listed firm holds offshore assets, there is no longer a limit to how much they can hold, as long as they trade these assets locally and in rand.

Mike Schüssler chief economist at economists.co.za says this seemingly ordinary statement is very far-reaching.

“This is the biggest relaxation of exchange control this country has ever had,” adds Schüssler.

The change is huge because it effectively does away with foreign investment caps of 30% if the investment is listed locally and is traded in rand. This means local pension funds, which collectively have an asset pool of around R4 trillion – pending the aforementioned provisions – are no longer limited in how much they can invest abroad.

This move does not apply to offshore investments that are directly held or holdings on foreign exchanges, as no changes were made regarding those caps under Regulation 28 of the Pension Funds Act.

The Financial Sector Conduct Authority (FSCA) noted on November 13 that: “All remaining foreign classified debt and derivative instruments as well as exchange-traded funds referencing foreign assets, that are inward listed on a South African exchange and traded and settled in rand, will be reclassified as domestic, provided they meet all eligibility criteria.”

“Further guidance will be provided from the authority in this regard and no presumptions pertaining to Financial Sector Conduct laws should be formed on the reclassification.”

The changes were confirmed in the South African Reserve Bank’s Exchange Control Circular No. 15/2020.

The explanatory note says in order to support South Africa’s growth as an investment and financial hub for Africa, this move is part of “far-reaching reforms to modernise the capital flow management framework” first announced in the February 2020 Budget.

If the Treasury note is to be believed, more changes like this are on the way.

“These reforms will result in the phasing out of current exchange control regulations to be replaced with new regulations under the Currency and Exchanges Act, 1933.”

Treasury says it is engaging with industry associations to “explore measures to strengthen specific mechanisms to enhance SA as a Gateway into Africa.” This will possibly see the creation of non-rand denominated listing instruments, collateral for derivative exposures, and possible mechanisms to enable financial services providers and asset managers to manage collective investment schemes of foreign assets from SA.

A regulatory task team made up of the Prudential Authority, FSCA, Financial Intelligence Center and Sarb, will work with stakeholders to finalise proposals for a possible announcement on Budget Day.

Caught by surprise

The change, which caught everyone by surprise, also re-classified foreign exchange-traded funds’ (ETFs) domestic assets as domestic assets, says Sygnia CEO Magda Wierzycka.

“It’s a gentle relaxation of foreign exchange controls, which gives South African investors and the economy a much-needed boost, whilst retaining the overall limits on how much South Africans can physically externalise.”

Wierzycka says: “The circular goes as far as to list the categories of investors who can now treat these instruments as domestic, including institutional investors, trusts, partnerships and companies.”

This change is a particularly good move for low-cost asset managers like Sygnia, as it allows them to sell more of a broader range of offshore products which have better growth prospects than those in South Africa.

“The mechanism of allowing investors to diversify their strategies through index-tracking ETFs not only enables the potential for more attractive, lower-risk returns, but also does so in a low-cost manner. Given the pedestrian returns from domestic equities and listed property in particular, a boost in investment performance is a boost to the economy.”

Uncapped

The 30% cap has long been an issue for institutional investors, as it has limited their investment options in the JSE, which has seen the number of listings on it shrink from  410 ten years ago to 341 today.

Read: There are still opportunities in local shares

Wierzycka notes that as the shares of many of the listings are illiquid, the investment options available to investors are a lot more limited than the total number of companies on the exchange.

Naspers and Prosus, on the back of their Tencent exposure, constitute 21% of the JSE – this is also a problem for investors. With the 30% cap, they have to limit how much they can invest in other offshore entities, as many are already exceeding this cap buy holding a single share.

Wierzycka says people below age 55 will likely benefit the most from the change, as they are still building up their savings.

Those over the age of 55, however, who have accumulated significant savings can also gain from it as they can “convert from a retirement annuity to a living annuity and invest 100% of their living annuity’s asset offshore.”

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COMMENTS   31

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Now…amend Reg28 to speak to this, CR17.

Unless I am missing something, there is no need to amend regulation 28. See reg 28(3)(i). It just refers to offshore exposure limits as set by the Sarb. The 30 percent is set by the Sarb.

And then my reading of the article is that this 30 percent will remain but you can invest in rand denominated offshore funds. So effectively can have more than 30 percent.

Interesting developments.

I just hope my good friend Mike Schussler would mention the “R4trn local pension funds asset pool” much less in the media.

Because there’s people from ANC-govt reading articles like these. The secret is now let out of the bag…

Not to be “that guy” but you need to understand that offshore investments and local products with offshore exposure are two completely seperate things.
The marketing material will not disclose this-your funds are not offshore-beware.

Would you mind explaining explaining your comment?

Hi FSCA came back:
“The FSCA communication clearly requires of the investment industry not to make assumptions in relation to their own governing legislation and to await clarification. The SARB Exchange Control Circular was issued by SARB to regulate exchange control and not to determine Financial Sector legislation, following the Finance Ministers/National Treasury’s aim to permit increased flows. The FSCA was not involved in the process and was not aware that is was going to be published. The FSCA needs time to evaluate its impact and determine the correct Financial Sector application.”

More pressure on the JSE, pensions and Rand.

Where is the incentive to invest local?

Worst time possible.

This article is not correct – Reg 28 still applies to RA’s and pension funds

The changes have nothing to do with Reg 28, it has to do with the look through principle. Years ago we used to load up RA PSP’s (personal share portfolios) with the DBX trackers, as they were not seen as offshore assets. This only lasted a while and then Reg 28 clarified that the locally listed DBX tracker is actually considered part of your offshore allowance.

This SARB ruling states that even if the JSE listed instrument tracks offshore assets, it is still considered a local listed security.

You are still restricted to 75% in equities and a maximum of 30% offshore (as in physically offshore and priced in foreign currency) however the local ETF’s which track offshore indexes or have offshore thematic themes’, as considered local securities.

Logically it makes sense. keeps all the capital in SA and more importantly on the JSE where there is still the chance it may switch back into local listed securities.

It has everything to do with Reg 28 – Reg 28 can be changed by the Minister of finance at any time (for example to enforce prescribed assets etc) This change has more to do with relaxing forex rules than circumventing Reg 28. I would love for this to be true but I cant see treasury allowing this.

Reg 28 is till effective – This article is clear as mud.

The article is actually quite clear. Reg 28 still applies, but any investment in an inward listed ETF, tracking assets such as the S&P500, will be regarded as a local investment. So the 30% (40% if you add Africa) allowance for foreign investments becomes academic. You can now invest 30% (40% with Africa) directly offshore, and the remaining 60% into inward listed foreign investments. You just need to get the asset allocation right.

I doubt if this was what they intended – This will essentially render Reg 28 meaningless – In a day or two treasury will clarify this “mistake”

Can someone please explain what the catch is here . . . ?

The catch is – The SARS will be taxing you on your offshore profits multiplied by the movement of the rand because your offshore investment is rand-denominated. The government, through its “independent” Reserve Bank, is in charge of the currency via the interest rate and QE mechanism. In essence, this gives them the power to extract tax contributions from the offshore investor by simply lowering the interest rate to weaken the currency. Even if you make zero profits in dollars, but the rand depreciates by say 10%, you will be taxed at your marginal rate on zero real gains.

The SARB is not stupid. By scrapping the limits on rand-denominated offshore investments, they enable themselves to generate an income from your offshore investment by simply weakening the currency. Look at it from an alternative perspective. By scrapping the foreign investment constraints, SARS will break its dependence on local businesses for taxes generation. SARS will be able to tax foreign businesses via the rand-denominated profits of the local shareholder in the foreign company. They go this route because the local economy is not large enough to sustain the Revenue Service. This move provides access to developed economies for SARS. Revenue generation at SARS went global by exporting their source of revenue, the taxpaying investor. The investor is the worker bee that flies to the USA and Europe to collect honey for the queen bee that sits in Luthuli House.

This is the difference between rand-denominated offshore exposure and dollar-denominated offshore exposure. With the former, the taxable amount is determined in rand, while with the latter the taxable amount is calculated in terms of dollars and then transferred to rand at the average rate that is determined by SARS. In the latter case, you are not taxed on a weakening rand.

Clever hey? It is a win-win nonetheless as the investor has more options now, and you are only taxed on profits anyway.

Its a far better evil than what we currently have sensei – and if you structure your investments where your pension withdrawal (Income tax) is limited and supplemented by sale of assets (CGT), dividends at 20%, your effective tax rate can be quite low

Paying tax on profits sure beats paying no tax on dead duck (JSE)

Good points Sensei but theres no tax on the growth and income within an RA, Pres Fund etc before maturity so you are referring to the income when I turn it into an annuity? SARS take their income tax then sure and on potentially higher values because you have been more offshore and potentially had greater returns so your point does hold true then at that stage.

Good points guys and thank you for the reply. I am actually referring to private investors who will be paying Capital Gains Tax and speculators who will be liable for income tax on trading profits. Regarding pensions and annuities, the tax will be calculated on capital gains over the entire investment period, plus estate duties if I understand it correctly. The tax issue is not my field of expertise so I stand to be corrected.

I welcome this move from SARB because it is a step in the right direction. It proves that SA is indeed and an investable destination that respects property rights.

Very good point on tax.

At present, if you bought Apple at $100 and rand 12 but sell at $150 and rand 15 your taxable gain is (150-100) x 15 or 750. It is not 150×15 – 100×12 or 1050

they give they take….watch how they take 10% for government projects next year

Holding thums

Holding thumbs

Holding thumbs

Holding thumbs

Holding thumbs

I’ve already submitted a switch request on one of mine at Sygnia. Will let you know how it goes 😉

“This means if a locally-listed firm holds offshore assets, there is no longer a limit to how much they can hold, as long as they trade these assets locally and in rand” – so your asset manager’s ‘ownership’ of an asset can be anywhere in the world, yet my part ownership of that can only be in ZAR? Fine, AM’s can now hunt for more assets overseas but my investment is still a function of the $/ZAR rate and even worse, the ZAR is subject to the excesses of the ANC? Or am I too doff for all of this financial wizardry

You have figured it out in no time, while the government officials have been struggling for years to grasp the concept. Someone is doff, but it is definitely not you.

Methinks it time SA Funds follow the example of the American & UK listed funds that hold over $15bn in Bitcoin for their customers…the best performer by a country mile in Asset Repricing response to Global Reserve Banks’ printing presses.

What am I missing?

“All debt, derivatives and exchange-traded instruments referencing foreign assets, that are inward-listed, traded and settled in rand on South African exchanges, will be classified as domestic.“

only reads to me that locally listed runt denominated funds are now deemed domestic, not that my pension fund can now buy as many Apple shares as it wishes???

I actually think this article got it wrong. Don’t think this applies to pension funds specifically. It will probably be clarified sometime soon. If I was a desperate government trying to keep money in the RSA cookie-jar, then this would be a good way to do that legally. But I just don’t think that is what this is.

so cashing in a RA and paying the tax was the wrong advise…oops

The most important factor when investing offshore (especially as a pensioner) is to make certain that your investment is Rand-denominated – lots of the products punted by fund managers was subject to 100 5 exchange rate risk – Yes it’s fine when the Rand weakens but what happens when the rand strengthens (about 4%) from its recent lows against the USD.

In 2018 we started to invest offshore (Euro Stoxx 50) via the Glacier by Sanlam Euro Stoxx Capital Protector. The single most important factors that I considered when we made the choice to invest in it for 5 years was – Your capital investment was guaranteed and (BNP, Paribas issued the guarantees and obviously they are managing the exchange rate risk/movements) – with whatever products that catch their fancy, but most probably USD/ZAR derivatives, etc).
My main concern now is that most fund managers etc will now jump to cash in on this massive opportunity etc – the first question that should be asked is how all the relevant risks associated with these types of products will be secured.

No ”mom and pop-shop” selling these products can guarantee all the relevant risks (credit risk, liquidity risk, asset-backed risk, foreign investment risk, equity risk, currency risk, counterparty risk, market risk, liquidly risk, etc.). It’s now more important than ever before to acquaint yourselves with the counterparties that you place your investments with.

Surprising that our local ETF industry is relatively small and some counters illiquid.

Maybe this will start changing now?

Question for Magnus:

If we are able to invest more offshore via etf’s within retirement annuities does this mean you will close your Brenthurst Balanced and Cautious funds which are bound by regulation 28 as these funds wont be needed anymore.

With you talking about all these low cost options i dont know why we would need a Brenthurst Balanced Fund charging a TIC of 2.02% and a Brenthurst Cautious Fund charging a TIC of 1.62%.

Just want to see if you will lead by example and through all your claims.

End of comments.

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