Martine Damonse, an investment specialist from Allan Gray, provides an overview of the Allan Gray house view and a brief comment on the Allan Gray Stable and Balanced Funds that are held within the Nedgroup Investments Select Range.
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Excess returns from SA equities over cash: At the end of December 2020, for the 5-year period, an investor would have been better off in cash than in equities, which is a difficult place to be. At Allan Gray, the most important thing is the price you pay at the beginning - price is the most important determinant of future return. In 2015, the equity market had very good returns, so it's not unexpected that this moved downwards over the last 5 years, as the starting point (i.e. price paid) was high. Today, the exact opposite is true. On a 1-year and 5-year basis, the starting point of equities is attractive as the price is so low.
FTSE/JSE ALSI vs the MSCI World Index: On an absolute basis, it's been difficult to be invested in equities over the last five years. On a relative basis, for the last 10 years the world market has done better than the SA market. This is also a difficult conversation to have with your clients. Clients and investors tend to extrapolate what happened in the recent past and put those thoughts into the future and believe the SA market can never do well because it hasn't done well for 10 years. If you looked at the previous 10 years, the JSE did better than the MSCI, so in the decade prior to this, the experience was the exact opposite. Over the last few months into 2020, there was a sight reversal again with the JSE doing slightly better than the MSCI. On a relative basis, your starting point for the JSE looks quite attractive even relative to the world market and this is true on an absolute basis as well.
The JSE/FTSE All Share Index: The 33% drop was evident in March followed by a momentous recovery moving towards new highs on the JSE market to around 68 000 points at one stage. We did not think that the market was expensive prior to Covid and had started building some positions in some SA domestic companies at that stage. During the pandemic, that hurt as South African companies together with the SA fiscal situation were punished. Over the last few months, with the Biden win and the announcement of vaccines in November, the market turned to favour a little more cyclical and a little more emerging market, which worked well for our positioning within our portfolios.
The impact of the largest shares on the Index performance: If you split out what has done well on the JSE, there's been a small band of stocks that have driven the market upwards. The four biggest stocks on the market - Naspers (including Prosus), Richemont, BHP and Anglo American – actually drove the returns of the market. If we removed precious metal miners, which have also done very well in the last 2 years, from the ALSI, the performance would have been even more depressed. While we do have favourites in some of those big stocks – Naspers is one of our biggest holdings – what we're finding attractive is represented by the more depressed bucket of shares. We're exceptionally cautious about what we've chosen in the SA market, but there are very attractive opportunities up for grabs, even after the reversal and South Africa doing well after November. We don't have huge holdings in BHP and Anglo. When we look at companies, we don't choose them because they're big in the market, but rather from a bottom up basis they look attractive. One of the biggest drivers of return and profit for BHP and Anglos is iron ore, so the price of iron ore is very important for them. Over the last few years, we found that the iron ore price was quite high, with it almost doubling from January 2020 to January 2021. Even though on a relative basis it hurt not to have more in Anglos and BHP, if you normalise these prices, we are happier owning something like Glencore, which is also a diversified miner, but they have a very different commodity basket. They own no iron ore, but have large positions in copper, coal, zinc, nickel and cobalt, all well placed to support a decarbonizing economy.
The Financial Index relative to the All Share Index: Another place where we're finding quite a bit of value is in the financials. Banks have traded on reasonably low multiples, even before Covid where we did have a small position. After Covid, we topped up on some because they were trading as depressed businesses when in fact our banks in SA are incredible businesses. They are well capitalised and are well suited to offering good returns in the future. We think the next few months and years may be tough as earnings look depressed based on the economy slowly opening up, but we do think that for the price that we paid, these are incredible investments. We also own the holding companies, such as Remgro and Reunert, which fall into the financials and which we think are incredible opportunities for investors.
The SA 10-year government bond nominal growth: The SA 10-year bond is offering exceptional returns on both a nominal and a real basis unlike anything else in the world. With the spike in February 2020 and as yields moved to around 11%, we increased our weighting towards long bonds, taking advantage and locking in some good returns for our clients over that period. Even though the market has readjusted and yields have gone down a bit, the inverse relationship between the bond price and bond yield has come into play. You would have lost a lot of money in March if you had lots of long dated exposure, but these have since performed reasonably well.
Government bonds offer a poor balance of risk and return: At the moment, global government bonds in developed markets especially are giving you less than a 1% yield. The risk that you're taking, which is duration, is ticking upwards to a nine-year duration. If there's a 1% increase in your yield, the price of your bond will go down by 9%. That's a big risk to be taking. In our portfolios on the global side, we own no global government debt, which has been a hard thing to do. These have performed well through quantitative easing. As yields have moved downwards, prices have gone upwards. A difficult place to be, but fundamentally we don't think this makes sense for a long-term investor.
US v everywhere else: performance: The offshore market looks like very similar to the local market in some respects. You've got this massive outperformance by the big stocks in the US – the FAANGS and low volatility stocks that have been incredible performers. On an equally weighted basis, stocks on average have only recently reached their 2018 numbers. On a global basis, even though we think that the US, for example is on a top down, the indices are quite overvalued. There are pockets of value to be found offshore, but mostly among the world equally weighted stocks where you can get lots of return and many things that we think are still depressed.
Global Balanced Asset Allocation
Offshore equity is the largest component of the Orbis Global Balanced Fund. We think the US is expensive and therefore have a very underweight position in US equity of 28%. This can be compared to our allocation of 57% in the 60/40 Index. We are finding emerging markets quite attractive with a big overweight position in those of 23% versus zero in the 60/40 Index. We don't own any global government debt, but do have some inflation linkers. For us having a very different offshore side compared to the market is probably the biggest relative opportunity within the Allan Gray funds.
Allan Gray Balanced Fund asset allocation
The SA component is invested in select SA shares (domestic earnings), which look attractive and we are cautiously adding to this, together with SA bonds and cash and property. Our SA focused risk will struggle the most if the Rand blows out. On the flipside, if EM does well, this portion will benefit the most. Our offshore, Africa, precious metals and SA shares (foreign earnings) will benefit from Rand weakness as they mostly have a Rand hedge component. Our SA share component includes Glencore, Naspers, British American Tobacco and Sibanye.
Allan Gray Stable Fund asset allocation
SA bonds and cash and offshore bonds and cash account for almost 50% of the fund. For a more cautious investor, it's not surprising that we have more exposure to assets that are a little less volatile. We have a Rand hedge component with offshore exposure.
We do think the South African market is offering opportunities. On the offshore side, even though it's been a tough time for Orbis, they are well positioned to take advantage of any normalization of the big trends we've seen in the market recently, such as value, growth, cyclical versus defensive, the big gaps between expensive and cheap, etc.