Local balanced funds – the typical fund investors would use to save for retirement – have generally had a tough two years and underperformed their benchmarks.
Admittedly, two years is too short a timeframe to assess performance, but since some managers have also missed their targets over longer periods of time, this is a concern. And for investors already in retirement, who may be drawing from underperforming balanced fund strategies, capital erosion is a worry – particularly during the first few years of retirement. If an investor draws 4% income per annum, inflation is 5% and fees are 2%, the fund has to deliver at least 11% or the investor will be drawing capital.
How likely are balanced funds to achieve a CPI plus 5% benchmark over the next two years? This was the topic three asset managers debated at the Investment Forum 2018 at Sun City.
Paul Bosman, portfolio manager at PSG Asset Management, likened unit trust performance to a vessel that had to be propelled across the ocean.
“You’ve fitted it with motors but you actually can’t control which motor fires when. Your job is to make sure that there are enough motors on this boat and in a working condition. If they all fire at the same time – that normally doesn’t happen – but then your numbers look very good in the short term.
“You actually can’t control the timing of performance. You have got to make sure you have got various pockets in your portfolio that can deliver returns in different market conditions.”
Bosman said there were plenty of motors in PSG Asset Management’s balanced fund. These included domestic industrial stocks – some have already rerated, but others were still relatively cheap. Government bonds still offered a great opportunity and there were almost “too many opportunities” globally.
The table below provides an indication of the asset allocation differences between the fund managers on the panel.
|Aggressive Assets – Local||60||42||43|
|Constructive Assets – Local||23||37||29|
|– Bonds – other||9|
|Aggressive Assets – Offshore||7||20||26|
|– Foreign Equities||7||20||26|
|Conservative Assets – Offshore||10||1||2|
|– Foreign Bonds||2||1|
|– Foreign Cash||8||1||1|
Omri Thomas, portfolio manager at Abax Investments (responsible for the Nedgroup Investments Opportunity Fund), said the underperformance of some balanced fund strategies over the past two years had to be seen in context. Most balanced funds had 25% of their assets offshore and since the rand strengthened significantly, this was a big drag on performance.
“I think that headwind won’t be there going forward.”
South African investors are in the fortunate position that real returns from bonds – even though they have rallied – and cash were still fairly high. Local equities on the other hand, had split into three stories – Naspers, rand hedges and domestic stocks.
“Only recently the domestic stocks have really run hard and we still think there is some value left in domestic stocks. You can still get a proper equity risk premium from the South African market,” Thomas said.
But Kurt Benn, Absa Balanced Fund manager, argued that the domestic equity market was quite expensive – led by a number of re-ratings.
While Naspers was a big driver, one also had to take into account that the disposable income of a lot of middle- and upper-income South Africans have gone backwards over the past four years as a result of tax hikes.
“Our view is that the market has certainly run well ahead of where the fundamentals are.”
Although there was an expectation that GDP growth would improve locally over the next two to four years, the ruling party would have to ensure a stable policy environment for this to materialise.
“There are risks out there and we think the prices that you pay right now for domestic assets are too high given those risks.”
Benn said on the global side, valuations were stretched. At the same time, investors were facing a quantitative tightening environment led by the US raising rates three – possibly four – times this year, and again next year.
“That never ends happily for markets where the P/Es [price/earnings ratios] are in the stratosphere.
“Our view is that we go into capital protection mode. We are much more conservative looking forward. I think from a [CPI] plus 5 perspective… we are going to struggle because the assets that normally do the heavy lifting for you over a three- or five-year horizon, are overpriced.”
But Thomas argued that there was definitely a change in sentiments towards investing back in South Africa. Amid policy and political uncertainty, a lot of local companies hoarded cash or made offshore acquisitions over the last few years.
“It will take time but the sentiment is towards it [investment in industrial South Africa] so I think we are going to see an acceleration in earnings growth from domestic business.”
Although Bosman has no retailers in his portfolio, he emphasised that it was not due to concern about the health of the South African consumer. Instead, he was worried about share prices in the sector, fuelled by “hot money” trying to get back into the country. Competition was also intensifying and this was expected to erode profit margins over time.