Some South African investors have noticed volatility in their portfolios; others have seen news about rather more dramatic volatility in global markets. 10X’s Head of Investments Chris Eddy unpacks what is happening and explains why South Africa is in the least-worst category for once.
With US inflation at levels not seen in 40 years, the US Federal Reserve (the Fed) has been forced to raise interest rates aggressively from zero. This has removed the stimulus that has supported markets over the last decade, and prompted a selloff in risk assets as the market recalibrates for a higher interest rate environment.
When markets sold off in response to central bank tightening in decades gone by, when inflation was benign, the Fed could always take their foot off the peddle. But not this time around, when they have few choices but to keep tightening until inflation has come under control.
It is also not that surprising (although it will surprise most South Africans) that South African assets are providing some shelter from the global storm.
The beneficiaries of the wash of excess global liquidity over the last decade were primarily US equities, with valuations reaching record highs, and global bonds, with yields reaching record lows. Other, more speculative areas also benefitted significantly – from non-profitable technology funds all the way through to crypto assets. Now the beneficiaries of excess have become the victims of the dearth of liquidity.
South African equities and bonds were not the beneficiaries of the previous decade of excess. They remained appropriately priced for the associated risk and, accordingly, have been relatively resilient in the face of increased global volatility.
Probability of negative returns over different time periods: SA Equity
It is important for investors to understand that investing in growth assets, like equities, means the probability of having negative returns nearly once in every three years. Market volatility, as we are currently experiencing, is par for the course when investing for the long-term.
Having said that, the current record high inflation has tied the hands of central banks, meaning that this volatility could be with us for some time, at least until inflation is brought under control.
One of the causes of current global inflation has been stronger commodity prices. Since South Africa is a commodity exporter of significance, the elevated prices have provided support for the Rand, which is flat for the year to date.
Asset class performance in Rands to 18 May 2022
Global assets, highlighted in blue above, have been the largest detractor of performance year to date. With developed market equities returning -17.1% in Rands. On a comparative basis, SA equities are down only 1.9%.
The attractive yields on offer from SA government bonds have provided a buffer with both nominals (+0.3%) and inflation-linked (+1.4%) up since the start of the year, whilst returns to global government bonds are deeply negative, selling off -11.7% since the start of the year as global yields have risen. Globally, the implication of this is that there has been almost nowhere to hide, as both global bonds and equities have sold off.
Whilst still below inflation, the local interest rate increases mean that returns to SA cash are also set to improve.
It is not that surprising that South African assets have provided somewhat of a shelter from the global storm although it will, no doubt, come as a surprise to most local investors, unaccustomed as we are to being in the “least-worst” category.
The wide disparity of returns between asset classes demonstrates the need to remain well diversified across asset classes and geographies, whilst systematically rebalancing towards an appropriate long-term strategic asset allocation ensures that you are buying low and selling high.
The table below provides portfolio performance to the 18th May 2022:
Given the market performance, the various 10X portfolios are performing as expected over the short-term, with those with a higher allocation to growth assets, like the 10X High Equity Index Fund (-4.9% YTD), having fared worse than portfolios with a high allocation to defensive assets, like the 10X Defensive Index Fund (+0.5%).
The living annuity international investment choices have experienced deeper drawdowns year to date, given their higher exposure to developed market equities. The importance of diversification and holding a portion of the investment choice in local assets is evident, limiting the impact of negative offshore market returns.
Despite the volatility during 2022, all portfolios and investment choices are showing satisfactory 1 and 2-year returns, which is evidence of the strong run we have experienced since the lows of 2020.
Looking ahead, one can expect the heightened volatility to continue as the markets digest the inflation dynamic and what it means for central bank policy. We caution investors against reacting to short-term market movements, especially given that daily moves can be as much as 3% in either direction.
Rather focus on the things that are within your control, including ensuring an appropriate asset allocation for your investment time horizon, diversifying within and across asset classes and geographies, and keeping your fees as low as possible.
The content herein is provided as general information. It is not intended as nor does it constitute financial, tax, legal, investment, or other advice. 10X Investments is an authorised FSP (number 28250).
