Reza Hendrickse, Portfolio Manager at PPS Investments
The South African (SA) equity market took a breather in June, after having risen for seven consecutive months. Overall, the FTSE/JSE Capped SWIX ended the quarter marginally higher (+0.6%), weighed down by resource shares (-5.1%) which shed some of its previous gains. Financials on the other hand were up strongly (+8.1%), with the listed property sector posting another solid gain (+11.1%), while industrial shares were largely flat (+0.1%), having to contend with the stronger rand. South African government bonds outpaced equities this quarter. Nominal bonds performed particularly strongly (+6.9%), beating inflation-linked bonds (+3.0%), notwithstanding higher inflation.
After having lagged SA somewhat in recent months, global equity markets received a boost in June, ending the quarter higher in rand terms (+3.8%). Developed markets were the main driver of performance, with US technology shares being the strongest area of the market. Global listed real estate participated in the rally, delivering a solid gain this quarter (+6.3%), taking the asset class to new all-time highs. In contrast, global bonds underperformed growth assets (-2.4%), with interest rate markets digesting higher US inflation and a hawkish US Federal Reserve. Rand strength posed a headwind for offshore assets this quarter (-3.3%), and even more materially over the past year (-17.8%), with the combination of dollar weakness and a positive trade balance supporting the local currency.
How are the portfolios positioned?
The portfolios remain well-positioned to participate in the current opportunity set, while being cognisant of the challenges as they evolve. One such challenge includes weighing up the merits of domestic equity compared to global equity, each of which is appealing at the moment but for different reasons. The portfolios have long been overweight global equities, which although are now expensive, continue to present a far richer universe of opportunities and a window of better economic prospects. In contrast, SA equity which remains at a neutral allocation in the portfolios, is inexpensive, but economic prospects are cloudy beyond the current hopeful near-term horizon. Although the risk-reward profile for equities in general has deteriorated slightly given how strongly markets have run, the risk of a recession is low, and the relevant portfolios therefore have meaningful exposure to both asset classes. Furthermore, we envisage taking advantage of the tactical opportunity presented by SA equity in the foreseeable future.
The other opportunity we see is in South African bonds, which offer the prospect of higher than normal returns, adequately compensating investors for their associated risk. The SA government faces well-known hurdles, but our continued overweight bond position in the portfolios speaks to various encouraging developments that we believe improves the SA risk profile compared to the recent past. These developments include: better economic growth and trade, mining sector strength and the anticipated tax windfall, improvements on the political front, such as tackling corruption, as well as the economic reform initiatives, all of which are positive for the fiscus. SA bonds, both nominal and inflation-linked, therefore remain attractive, with yields that are significantly more appealing than SA cash, given where short-term rates are.
Looking ahead, we remain optimistic about the near-term prospects for the global economy and hence the return potential of growth assets. Although the effects of the COVID-19 crisis are still being felt, and further waves locally are likely, the impact will be less severe. Investment markets are also still well-supported by stimulative monetary policy led by the US Federal Reserve, which will remain a feature until both inflation and employment are back to where they should be. Locally, we continue to look for signs that green shoots might become more deeply rooted, while overall, we remain deeply committed to our diversified multi-manager approach that seeks to deliver compelling investment outcomes over the long-term.