SIMON BROWN: I’m chatting now with Prandhana Naidu, Global Equity Fund co-manager at Melville Douglas. Prandhana, I appreciate the early morning time. The debate (is) around investing offshore. We know that offshore is becoming particularly important. South Africa is such a tiny space in the global economy; our GDP is less than 1%. We need to be offshore. Is there a sense that most South Africans probably risk being overexposed to our local market in that they’re not looking enough at offshore exposure?
PRANDHANA NAIDU: Good morning, Simon, and morning to the listeners. Absolutely, Simon. You correctly say South Africa is less than 1%, from a global GDP perspective, and I think the opportunity set for great investments is so much wider offshore. This allows you to sort of cherry-pick the most attractive investments, of course taking it into consideration on a risk-return adjusted basis. It really gives you access to innovative, exciting, and fast-growing industries that are becoming increasingly more and more accessible to all South Africans.
Historically it was accessible only to clients with a lot of money and extra, sort of to save. But it’s becoming increasingly accessible to more people who are just looking to broaden their investment exposure.
SIMON BROWN: What about the phrase coined by Peter Lynch in his 1980s book, ‘One Up On Wall Street: ‘diworsification’’, which is simply having too many stocks. The inverse of course is simply having not enough stocks. I suspect a lot of South Africans go offshore and they buy Apple, they buy Tesla, and kind of pause at that point, maybe (with) one or two other things. Is there an ideal number, an ideal range that we should have for a proper diverse portfolio, as to how many stocks we should be looking at?
PRANDHANA NAIDU: It’s a great term, ‘diworsification’; he was basically using it to describe management teams that spread their time and resources far too thin and it becomes a distraction as opposed to meaningfully contributing to your end goal – in this case enhanced returns. So there isn’t an exact number. Based on modern portfolio theory, you can see the benefits of diversification tend to decline after sort of 10 stocks.
But at Melville Douglas we feel that’s a little bit too aggressive. It takes only one or two of those stocks to completely blow up your investment track record. So we have a fairly concentrated portfolio.
For the Global Equity Fund, we say anywhere between 25 and 35 stocks feels appropriate to us. That’s allowed us to make money for our clients through the compounding effect of sustainable returns, without having any one stock massively skew the outcome of that return.
SIMON BROWN: I take your point. It seems a lot, but if you’ve only got 10, one goes bust and that’s a 10th of your portfolio. Of course, when we think offshore we tend to kind of default to the US and to equities, but actually, there is the question around asset allocation, and there’s a market beyond just the US. We can perhaps park China aside, but there are great assets in Europe. There’s Latin America, there are other markets in Asia where we can actually look to build up that portfolio that gives us some sort of geographic (spread) and also, as I said, some sector differential.
PRANDHANA NAIDU: Absolutely. So – at Melville Douglas at least – how we start looking at it is we don’t screen per region. We just want to identify and be focused on bottom-up fundamental research.
We just want to identify the best companies that have strong secular growth drivers, irrespective of where they happen to be listed.
Of course at this point in time, as most investors would have, there is a natural bias towards the US; but that may not always be the case going forward. So we just follow the best-listed companies, the well-managed companies where there are strong secular drivers for growth. Of course, different countries come with different risks, so we just bake all of that into the valuation, and the end goal is just to get the best ideas for our clients.
SIMON BROWN: I like that. If it’s the right stock the geography is not unimportant, but it becomes less important.
The last question. What about that holding of just US dollars? In some senses, it’s a bit of a boring asset class, a bit of a boring investment, but as a long-term investor, it will work for you with the depreciation of the currency. As someone who might one day have offshore expenses, be they a holiday or something like that, is there a place in a broader portfolio for just the US dollar?
PRANDHANA NAIDU: Simon, I think for most of our clients, and why you really want to invest offshore is to get exposure to these attractive fast-growing equities. So the global equity investment is sort of the selling point. If you think about what cash is giving you offshore now, it’s close to zero. In some European countries, it’s negative. So it’s not very attractive at this point in time.
What clients often do is that they use the offshore investment in dollars or hard currency to then match that hard currency expense that they may have some time down the future.
SIMON BROWN: I take your point on that. We’ll leave it there. That’s Prandhana Naidu, co-fund manager of the Global Equity Fund at Melville Douglas. I think that the 25 to 35 number probably shocks a lot of people, but it is around. You’ve got to diversify and you’ve got to get that space right. I think the key point, obviously, is we can use some ETFs to really get that, and then do that satellite core approach.
I appreciate the early morning time.
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