South African investors who ventured into offshore markets have had little reward over the past 10 years. Besides considerably weaker returns from major developed world markets relative to those from South Africa – the S&P500 total return index delivered one percent a year in US dollars relative to the local market’s 20 percent a year in dollars, according to Gavin Wood, the chief investment officer of Kagiso Asset Management – the strengthening rand, at 14 percent for the decade against the dollar, also played havoc with local investors’ offshore returns.
But Wood says looking at past returns and expecting them to continue is wrong – you need to anticipate what may happen in the decade to come. Often, the returns of the past are not repeatable, he says.
Looking ahead, many asset managers are anticipating lower returns from local markets than investors have enjoyed in the past.
While the local economy is expected to grow at a rate of 3.4 percent, ongoing urbanisation is expected to continue to drive faster growth in Asia, Latin America, the Middle East and even Africa.
But asset managers are divided on whether to invest directly in these economies’ financial markets or tap into their growth through global companies listed on developed market stock exchanges that have become relatively cheap following the credit crisis.
Asset managers are also pointing to great opportunities in global listed property, as many good companies have been sold down but are paying higher dividend yields than listed shares in major stock exchange indices such as the Dow Jones industrial average.
Many bond fund managers are now finding value in offshore corporate bonds – a market that requires its own expertise – while avoiding government bonds in over-indebted nations.
The opportunities and pitfalls in the changed investment world can be difficult for the uninitiated. Knowing which regions and asset classes to choose requires in-depth knowledge.
One solution is to entrust these decisions to a professional asset allocation fund manager.
Pieter Koekemoer, the head of personal investments at Coronation, says asset allocation decisions are the most important investment ones and it is best to leave this to a manager who has deep skills across asset classes and markets.
A professional manager can compare the relative attractiveness of asset classes, has greater access to information and is in a better position than an intermediary or individual to decide in which asset classes to invest, he says.
It is also easier, Koekemoer says, for asset managers to be dispassionate and rational about investment decisions. Individuals, on the other hand, often make emotional decisions about investing offshore.
Tristan Hanson, the head of asset allocation at Ashburton, the offshore manager in the FirstRand Group, says that if you invest in offshore funds of your own choice you are, possibly without being aware of it, making asset allocation calls. If you choose only one fund, you restrict yourself to that market only, when there are so many opportunities to take advantage of.
Hanson says a global balanced fund offers you better protection from the risk of your investment underperforming and should produce more consistent returns that compare favourably over the long term with those from the more volatile asset classes.
He says there has been a divergence of asset class returns over the past five years and an almost tectonic shift economically from developed to developing countries across the globe. Emerging markets in particular have grown in size and are now much more investable, offering more opportunities.
Hanson says there are now a lot more investment opportunities that fund managers can take advantage of than in the past. Markets have grown and new ones have developed and new investment instruments have also been developed.
Asset allocation fund managers spend all their time trying to understand these shifts, he says.
The arguments for diversifying across countries and asset classes remain, and South Africans should view diversification as an insurance policy which, at the current comparative valuations and the value of the rand, has become cheaper, Hanson says.
Koekemoer says although it seems counterintuitive, the increased opportunities in fact lead to more rather than less risk.
He says in global equity markets, unlike the case in South Africa, transaction volumes are driven by speculative, algorithmic-based trading by the likes of hedge funds and proprietary trading desks in banks, in response to the flow of news. This can make global equity markets more difficult to navigate.
Another issue fund managers can take care of for investors is currency risk. Koekemoer says a fund manager must decide whether to hedge out the risk of trading in a particular currency. The cost of continually hedging out currency risk can counteract any gains, he says. But a fund manager may see a long-term fundamental currency risk that can be hedged to the fund’s advantage.
Charles de Lame, the senior associate partner for the London-based manager Sarasin & Partners, which offers asset allocation funds to South Africans, says a balanced fund is designed to grow capital in a diversified and risk-aware manner. It should offer you a complete and tax-efficient investment solution.
De Lame says a manager of a balanced fund should have a fluid but systematic approach, should focus on key economic, market and thematic trends and should “finesse valuation, timing and sentiment issues”.
Paul Cluer, the managing director of Foord Unit Trusts, says managing risk is a complex undertaking that involves not only the selection of securities but also the dynamic allocation of assets. There are times when a manager can add alpha (returns above those delivered by the markets) from its asset allocation and times it can add alpha from its stock selection. To take one away from a manager would detract from its performance, he says.
You have the choice of investing in global asset allocation funds in rands (rand-denominated funds) or in foreign currencies (offshore funds) using your R4-million offshore allowance.
You are free to invest in any fund you choose from around the world, but for your own protection it is better to choose a fund that has been approved by the Financial Services Board (FSB) as one that can be marketed to South Africans. These funds have representatives in South Africa and comply with similar requirements to those applying to South African funds.
Rand-denominated asset allocation funds are either foreign funds or worldwide funds. Foreign funds must invest 85 percent of their portfolio in foreign markets at all times, while worldwide funds can invest in South African markets and international ones without restrictions.
There are now only about 27 global asset allocation funds denominated in foreign currencies that can be marketed to South Africans. The number has dropped off steeply – the Association for Savings & Investment SA (Asisa) says about 36 funds deregistered in 2010.
The availability of rand-denominated and offshore asset allocation funds has, to some extent, been curtailed by problems arising from South African collective investment scheme regulations falling out of step with developments in the international regulation of collective investments.
Peter Blohm, a senior policy adviser to Asisa, says funds domiciled in the European Union are now governed by the Undertakings of Collective Investments in Transferable Securities III (Ucits III). Ucits III introduced broader investment limits for funds in Europe, but in some cases these are now broader than what the FSB considers suitable for South African investors.
The Collective Investment Schemes Control Act sets the requirements for foreign funds wanting to market themselves in South Africa.
Blohm says South African funds of funds that invest in foreign funds - as many offshore asset allocation funds do – must invest in funds that also comply with local regulations and are thus capable of being registered here. Offshore funds that have amended their prospectuses in line with Ucits III are no longer able to register in South Africa or be used as underlying funds in locally registered funds of funds. This has reduced the number of offshore funds available to locals and has prevented a number of local managers from registering offshore funds, including global asset allocation funds.
Nevertheless, there are still good options available should you wish to invest in one of these funds, particularly from managers with a South African link or a long history of managing assets for South Africans.
For example, this year Ashburton’s Replica Euro Asset Management Fund, domiciled in Jersey, won the Raging Bull Award as the best locally registered offshore asset allocation fund for its performance over three years to the end of 2010. This fund restricts itself to investing no more than 50 percent of its portfolio in global equities.
Another top-performing offshore asset allocation fund is Investec GSF's Global Strategic Managed Fund (Accumulating). Unlike the Ashburton fund, this fund has no constraints on its asset allocation.
South African investors also have access to the Sarasin CI Globalsar Dynamic USD Fund.
Most local fund managers, including smaller ones such as RE:CM and Foord, run rand-denominated global asset allocation funds. Foord says it has shown that you don’t have to have a large investment house to invest successfully in offshore markets.
Investec’s offshore fund can be accessed through a rand-denominated foreign asset allocation fund, and Sarasin’s asset allocation skills can be accessed through Nedgroup’s Global Balanced Feeder Fund.
Nedgroup recently launched a Global Cautious Feeder Fund managed by JP Morgan that limits its equity exposure to 50 percent.
Coronation has also launched a more conservative foreign asset allocation fund, the Global Capital Plus Fund, with an expected exposure to equities of 40 percent, to complement its Global Managed Fund, with an expected equity exposure of up to 65 percent. Both funds are also available as US dollar funds.
Allan Gray offers its investors access to its offshore sister company, Orbis, through two foreign asset allocation funds, one investing only in Orbis’s absolute return funds and the other in Orbis's more risky equity funds as well.
RMB's International Balanced Fund of Funds was the top performer in this sub-category over five years to the end of December. This fund invests in underlying Ashburton funds.
In the worldwide asset allocation flexible sub-category there have also been some new entrants.
Foord, for example, has launched a “best-investment view” worldwide asset allocation flexible fund, the Foord Flexible Fund of Funds, which invests into Foord’s offshore balanced fund and a local asset allocation fund.
RE:CM has changed the mandate of its flexible fund to make it a worldwide flexible fund, investing as it sees fit in local and global markets.
The top performer in worldwide flexible category is Flagship’s IP Worldwide Flexible Fund of Funds.
Cluer says a global asset allocation manager managing South African and offshore assets can control both risk and diversification and can balance the correlations and interactions of the different markets.
Cluer says Foord delivers its best returns to investors who give it a full mandate to invest in both foreign and local markets.
This article was first published in the 2nd quarter 2011 edition of Personal Finance magazine.