With no clear idea of where world markets are headed, and as equity prices fall, fund managers have little to say
Neil Thomas
As local unit-trust investors start to assess the extent of the knock they took over the third quarter, here’s a quote from United States fund manager John Holden: “It’s very difficult as a manager right now. There are so many moving parts that can happen right now with this market.”
Holden, who runs the $75-million Touchstone value plus fund, somehow manages in typical American bad English to say it all and say nothing at the same time.
Then again, what can fund managers says as equity prices fall around their ears and there’s no clear idea of where world markets are going, except they’re going to be down for a while longer?
The US market, favoured home for much local money last year and earlier this year as unit-trust investors poured all they could into offshore funds, really took a smack over the last quarter, much of it coming after the terror attacks in New York and Washington.
Over the quarter one of the chief indicators, the Standard &Poor (S&P) 500, lost 16%, bringing the loss for the year to date to 21%. Even worse, the tech-heavy Nasdaq index dropped by a massive 30% over the past quarter.
The US mutual fund industry, Big Brother of the local unit-trust industry, declined by a depressing average (for equity-based funds) of nearly 20%, resulting in investors pulling money out of mutual funds, a net outflow for the third month in a row.
It’s the longest period since 1990 that money has flowed out of the mutual-fund industry.
Back home, predictions that the local market would weather the international equity storm better than many other markets proved correct. But it did not do much better. The Johannesburg Securities Exchange (JSE) all share index lost 12% over the quarter, and early results from S&P’s Fund Services indicate that the overall unit trust industry went down by 4,7%.
The relatively “better” average for unit trusts is a little misleading, considering that mining and resources shares, where much of the pain was felt over the quarter, make up about 40% of the all share index. The 40 largest shares on the local exchange, represented by the Alsi 40, were also the hardest hit, being the more liquid shares and therefore the obvious exit point for investors wanting to get out of equities or the South African market.
With Brazil and Argentina plunging by more than 40% and 50% respectively, emerging markets are not a popular place for international investors, despite concerns about the US market. Up to the end of the third week of September the average return for the South African unit-trust industry was a negative 8,8%.
Damage control came though only in the last week as the all share gained 10,1%, leading most other indices higher. And, one suspects, there was also the usual last-minute patching in the final few trading days of the quarter to lend some respectability to unit-trust results.
So far this year, though, unit-trust investors are hurting. The average industry return is only 1,3% for the year to end September. Investors would have been better off with their money in the bank, which is what outflow figures suggest a lot of them are starting to do.
If these poor returns persist it may start to challenge some of the accepted “truths” about unit trusts: like are they a secure, inflation-beating investment? At the moment many are not.
Or that, over time, equities always offer better returns than other asset classes. Top performing funds over the quarter were invested in fixed-income and bonds, led by the Marriott global income fund (a return of 18,4%), then Rand Merchant Bank international bond (17,8%) and Old Mutual global bond fund-of-funds (17,1%). Over one year the table is still led by Sage Resources (31,2%), but the funds behind that are fixed income and bond funds.
Even the top of the five-year ranking a reasonable time frame for the small unit trust investor is dominated by resources and bond funds.
That calls into question another unit-trust “truth” that the small investor should not try to time the market. Resources shares and bonds and gilts require an element of timing. I’m not suggesting that unit-trust investors should chop and change their funds on flimsy evidence, but to successfully invest in resources and bonds does require timing based on economic and market fundamentals.
Yet, even as equities come under the most serious scepticism they have been subjected to in the past decade, a number of fund managers sense bargains at these prices. They are probably right: it’s just nerve-racking trying to make an informed investment decision under present circumstances.
Here’s another quotable quote, this time from Investec Asset Management’s chief investment strategist, Piet Viljoen. He says of Investec’s strategy going forward is that it assumes that “uncertainty is now certain”. How does a unit-trust investor make decisions amid this certain uncertainty?
Viljoen goes on to quote Baron Rothschild: “Buy when you hear the cannons roar!” Well, at least that’s clear advice, and writing this as the bombs are being dropped on Afghanistan seems the time for battle-hardened investors to consider buying equities again.
It was assumed in the old bull-run days that the easy way to get diversified equity exposure was simply to buy one of the many domestic general equity unit trusts available, but their performance has been so lousy that investors probably have to be a little more selective.
Bonds and resources have been the top performers over the past five years, but I would be a little reluctant to put new money into these funds now.
Bonds could still have some way to go and the shortage of gilts and expected launch of new corporate bonds should keep returns stable and fairly attractive. But much of the excitement around bonds over the past couple of years has been around the lower inflation rate story.
South African ReserveBank governor Tito Mboweni should meet his inflation targets next year, but at the same time commentators are pointing out that prolonged conflict in the Middle East could heighten the war mentality. And under these conditions keeping a lid on inflation tends to be one of the first casualties as economic priorities shift.
Resources shares are already under pressure and, with gold among a few exceptions, will suffer if the US meltdown becomes a full global recession. They have been the driving force behind the JSE for the past few years, but it looks like the cycle has topped now.
What’s left? Offshore funds aren’t an option in the short-term, though the principle of diversification and a hedge against the local currency remains. Similarly, the large blue chips, particularly the shares with a dual listing in London, are being pounded and will remain under pressure until world markets stabilise.
Viljoen, who also runs the Investec opportunity fund, says he is holding no foreign equities, no foreign or local bonds, and is avoiding the over-valued large caps. Instead, the fund’s equity exposure is limited to local companies with strong cash flows.
Investec value fund manager John Biccard is also focusing on domestic shares, those geared to local gross domestic product (GDP) growth that offer high and secure dividend yields. His reasoning is that the collapse of global GDP prospects and foreign-share prices since September 11, coupled with local interest-rate cuts, “make high dividend yield stocks even more attractive”.
Which shares are these? Biccard mentions HLH, Ceramic Industries, Grintek, AVI, Ocfish, Sasol and Tongaat-Hulett. One sector he’s avoiding is financials because of their “indifferent” performance.
The Investec team seems to be in the war-investment mode, but that’s probably not surprising their annual investment conference opened on September 11. They were going to look at the collapse of the New Economy and the transition to Old Economy shares. Instead they watched the investment world change fundamentally as the planes slammed into the World Trade Centre towers.
The local-looks-good story is compelling, but it’s more a case of maybe we will suffer less than the rest of the world.
Whatever happens, though, will affect our market as well. There may be bargains in the equity bin, but the uncertainty makes any investment decision difficult.
All of this lends weight to the introduction of hedge funds into the unit-trust industry, something it is pushing for. At its annual conference lthis month the Association of Unit Trusts admitted that hedge funds are a serious threat to unit trusts, and hopes to have them introduced to unit trust funds next year when legislation the new Collective Investments Schemes Bill is in place.
There are hedge funds available to local investors, though they are not as yet recognised by the Financial Services Board.
Nedcor Investment Bank launched an international hedge fund-of-funds at the beginning of October and Coronation and Investec have hedge funds available. Standard Bank is also expected to launch a suite of hedge funds soon.
The problem up to now has been that hedge funds tend to be too expensive, in terms of minimum investment levels, for the small retail investor. But that could change if they are incorporated into unit trust funds. In fact hedge funds can be the lifeline unit trusts desperately need if they are going to stop the exodus of small investors.