We posed seven questions to three unit trust managing institutions, asking them to put their mouths where their money is and outline their strategic thinking past and present.
Fedsure
1 Fedsure Asset Management aggressively increased the weightings in resources for Fedsure unit trusts funds. Index weight, however, was never reached. – Patric Ho, chief investment officer, Fedsure Asset Management
The Fedsure Worldwide Flexible Fund of Funds was heavily exposed to commodities during 1999 and hence its return of over 50% for the year. While the Resources Index returned more than 100% I would not be comfortable having more than 50% of this fund exposed to commodities for long – they are too cyclical an investment.
The Fedsure Balanced Fund of Funds is a managed prudential fund for conservative investors, including pensioners. As such it would be inappropriate to invest a significant portion of the maximum 75% equity exposure in commodities. The fund nevertheless had a relatively large exposure (over 25% of the equity portion) to commodities for much of 1999. – Brett Bishop, Fedsure Funds of Funds portfolio manager, Edge Investments
2 If we are talking about a 25%-plus correction, then I think that the probabilities are fairly low (given the [United States Federal Reserve chair Alan] Greenspan touch), but I do think that Wall Street may see a 10% to 15% correction on the basis of higher interest rates, slower growth and earnings, and on an earnings yield/bond yield relative basis. – Ho
If there is a major correction on Wall Street it will certainly affect the Johannesburg Stock Exchange (JSE). There are undoubtedly some economic and valuation signs developing on Wall Street that worry us. At this time we have not adjusted our equity weightings for them, but we are watching the US carefully. – Bishop
3 Assuming no major disruptions to world markets, I would suggest that the equity market will continue to rerate until fears of higher domestic interest rates place a cap on equity valuations. The recent 100 basis-points cut by local banks should provide further support to the local market in the short term. Most sectors are expected to perform, but commodities, gross domestic fixed investment industrials, IT as well as financial services and healthcare should provide above-average market returns. – Steven Brown, chief economist, Fedsure Asset Management
4 We do anticipate further exchange control relaxations, probably to be announced in the February budget, pushing offshore holdings up to 20% or 25%. A total relaxation would prove “investor friendly”, given beneficial capital inflows, as well as being supportive of the local currency. – Brown
5 Highly risk-averse investors should limit their unit trust fund selections to fixed- interest funds and particularly money market unit trusts. One must remember that no unit trust fund provides a capital guarantee.
Cautious investors should consider a combination/spread of fixed interest, prudentially managed, flexible and general equity funds. Prudentially managed and flexible funds allow the fund manager to asset allocate and thus the benefit of switching out of an asset class in the event that they believe that that class of assets will underperform. A general equity fund provides access shares listed on the JSE and thus a broad spread of equities, thereby providing a degree of equity diversification and opportunity for capital growth.
Adventurous investors should consider asset (for example, gilt) and sector specific (for example, resources, financials or IT) funds. – Brown
6 This can depend on the amount to be invested. A small investment should be placed in a single fund whereas a larger investment can be spread across a range of funds. One must remember that a unit trust provides a degree of diversification by investing in a spread of underlying instruments (be they bonds or equities and cash).
Fund of funds unit trusts are ideal for investors looking for a spread of funds, but do not want to have to make the fund selection decisions themselves. – Brown
7 We will search for new investment themes and possible rerating situations and undervalued/ lower-risk situations. We’ll also be looking for situations where the discount to net-asset value could narrow, and take steps to lock in profits. – Ho
We at Edge Investments believe that asset allocation and sector selection will continue to boost the performance of all the Fedsure funds of funds in 2000. Going into 2000 we have an almost full equity invested position, with heavy focus on technology, media and financials. However, our process allows us to change this position at short notice. – Bishop
NIB Asset Management
1 Investors in our NIB Mining Resources fund certainly didn’t miss out. The fund, our primary vehicle aimed at this sector, delivered a staggering 132% for the year to December 31 1999, placing it first in the domestic equity mining and resources sector over one-year and five-year periods. Because the fund was fully invested at the very beginning of the year, it was able to gain a significant head start in the early stages of the resources run – a start that has seen it outperform its nearest rival by more than 14% for the year to December 31 1999. Most fund managers were underweight in resources counters in comparison to the All Share Index, where the sector accounts for 30% of the index.
But we don’t believe it is necessary or prudent to match this weighting, given the volatility of resource shares. Plus, the index is somewhat skewed by the fact that in South Africa, the mining houses are also investors and hold a lot of resources shares. The underweighting of commodities in portfolios was also driven by the fact that fund managers and investors were nervous about the sector following the poor returns of 1998.
We believe that conditions were unique in 1999: the commodities boom was partly a reaction to the Asian crisis and the threat of deflation. These conditions have now been resolved, and are unlikely to be repeated.
2 Obviously if there is a correction it will affect the local market. And we think there is an above-average chance of this occurring. We’re not quite sure what will trigger it, but the conditions for it to happen are there. To begin with, the US market has been pushed up by a small number of very highly rated technology shares. If those ratings go down, the market as a whole will be negatively impacted. Secondly, alternative investments are opening up. Now that the Asian crisis has passed, US investors are once again looking at foreign shares for better returns. And the US bond yield has risen from 4,7% to 6,7% offering a further investment alternative.
The good news is that while the JSE will be affected, it is unlikely to derate as dramatically as the US market because our market is far less expensive than the S&P500.
3 The equities market should perform very well this year, particularly financial and technology stocks.
We think the renewed growth in the economy will result in the bond market reaching a cyclical peak somewhere in the second half of the year. While there will be at least one further interest rate cut in the early part of the year, economic growth will trigger interest rate increases later on.
4 We expect a further easing of exchange controls, but not necessarily this year. Once this occurs, local investors will want to invest more offshore and there may not be enough replacement buying by foreigners to counteract this. Should this occur our markets are likely to fall. At the moment, there is significant foreign interest in our market, but foreign interest comes and goes.
In the longer term, the further relaxation of exchange controls will indicate that the government is confident about South Africa’s prospects for the future, and this will be reflected in better asset prices.
5 Risk-averse investors should consider money market funds over bond funds this year, while cautious investors are likely to be best served by a fund which offers a mix of assets, such as a flexible or balanced fund. As always, adventurous investors will look at specialist funds. This year, emerging company and growth funds should perform well.
6 Provided the fund is sufficiently diversified, either in terms of asset classes or the range of equities it holds, investing in a single fund is often the better route for the ordinary investor. It’s simpler the stay on top of a single investment than to manage a number of different ones. For investors with the time and expertise to manage their portfolios more actively, a spread of investments is appropriate.
7 The short answer is that we’ll increase our exposure to financial and technology counters at the expense of bonds. – Richard Anderson, chief investment officer, NIB Asset Management
Standard Bank Unit Trusts
1 In the past most South African portfolio managers have, when deciding their equity benchmark, overweighted the Financial and Industrial Index relative to the Resources Index. The Financial and Industrial Index gave the best risk-adjusted return over the longer term and has outperformed the JSE All Share – which has a higher weighting in commodity stocks – and proved less volatile.
This means that some investors may not have shared fully in the commodity boom in 1999 if they were invested in general equity funds such as Standard Bank’s Mutual Fund, which had reasonable exposure, but was underweight in the sector. However, investors should note that after underperforming the JSE All Share for most of last year, the Financial and Industrial Index recouped all its relative underperformance in November/ December and has so far led the stock market in 2000.
Longer term, we remain convinced that commodity stocks will underperform the broad market as they rarely provide long- term earnings growth. However, as the world’s commodity cycle continues to improve, they can certainly hold the gains they made last year for 12 months. – Anthony Katakuzinos, managing director, Standard Bank Unit Trusts
2 Investors perceive Wall Street to be expensive and a downward correction of 10%to 15% from current levels would be viewed as positive. Portfolio managers are worried about the possible speed of any downward move in US markets rather than the direction. Such a fall could have a brief negative impact on South African markets, but with declining interest rates – rather than rising in the US – we believe the bull market in equities in South Africa has at least another one to two years to run. – Katakuzinos
3 The year-end run has trimmed our equity return projection from 40% to 24% for 2000. This still compares favourably to our forecast of 15%for bonds and 12%for cash.
We continue to see value in banks and above-average earnings growth for the sector. We are also overweight in life assurers, which traditionally respond well to lower interest rates and rising equity markets. We believe retail stocks have run too far and are due for a pullback. However, consumer cyclicals such as media and transport should begin to reflect stronger overall growth.
On the debit side, I don’t expect resource stocks to take the limelight again in 2000 and gold is still, for us, an underweight hedge.
In the domestic market, I would caution against being underweight in IT stocks. Strong earnings growth from IT companies in the US is going to continue to underpin ratings in South Africa, where we have a number of high-quality companies to invest in. IT is the fastest-growing industry in the world and investors need to be fully invested longterm, even though prices look a little overbought at the moment. – Norman Mackechnie, chief investment officer, Standard Corporate and Merchant Bank
4 We are expecting some relaxation in exchange controls after the budget with the 15% limit increasing to between 20% and 25%. What this will mean is that we will reopen our International Equity and European Growth funds for further additional investments. But this will not be a long-term reopening and they will have to close when the new limits are reached. – Katakuzinos
5 For highly risk-averse investors, a low- risk unit trust, such as a money market or income fund, is advised. These funds are the least volatile, aiming for capital stability and reservation rather than high growth.
The investor who is prepared to accept the high risk attached to equity and specialist funds, may opt for gold or emerging/small companies funds. Unit trusts diversify risk over a range of equities/financial instruments. The more specialised funds are associated with higher risk/ higher reward levels.
Medium-risk investors could opt for a general or index fund, which covers the whole market. These funds are suitable as a core holding in any equity portfolio and should show consistent long-term growth. – Katakuzinos
6 A unit trust portfolio depends on a number of issues, such as the investor’s needs, risk profile and available resources. A spread of unit trusts is the ideal with general equity funds but also specialist funds, bonds and money market funds. This gives a truly balanced portfolio. For investors with fewer resources a general fund or a managed fund, which covers the market, is recommended. – Katakuzinos
7 We intend to remain fully invested in our equity funds as we move into 2000 in anticipation of a strong market. – Katakuzinos