Reading the mixed signals
This article was first published in the first-quarter 2012 edition of Personal Finance magazine.
As the new year kicks off, financial markets are experiencing paradoxical and perplexing times. The news is mixed, with companies reporting solid results, while individuals and governments struggle with increasing levels of indebtedness. It is a unique, and interesting, situation in which to have to make investment decisions.
The euro and the eurozone will probably survive, despite the unpopular changes that will have to be introduced to deal with Europe's financial problems. These will include increasing the retirement age and major reductions in spending on welfare and education. China should continue to produce enviable growth, perhaps at a slower pace. Growth in South East Asia should also remain positive. Japan may well stay in the rut of no growth in which it has been for the past 23 years.
The United States has a veritable mountain to climb. Household debt as a share of gross domestic product peaked at 100 percent in 2007 and is now at about 90 percent (according to Thomson Reuters Datastream). An alarming statistic is that, for the first time last year, the direct taxes paid by households were less than government benefits received – the implications of this are unmistakable. The biggest problem for the US is the huge level of indebtedness – household, corporate and public – which will have to be dealt with one way or another.
Stock markets tell their own story. Most markets reached their peaks in 2007 and, despite everything, are still within hailing distance of those highs. The two major exceptions are Japan and South Africa. Japan peaked in 1989 but had a mini peak in February 2007; on November 1 last year, it was half that level.
An interesting feature of the US market is that the 2007 high was just a smidgen above the previous all-time high reached in the spectacular technology bubble of 2000, so the Standard & Poor's 500 (S&P) has been treading water for a decade. Some argue that the US is tracking Japan and will mirror its era of virtually no growth. We certainly hope this does not come to pass, because it would have very negative consequences for financial markets, but if you run a graph tracking the MSCI Japan index and the S&P 500, the picture is alarming (see link to graph at the end of this article).
Volatility has been exceptionally high over the past few years – a trader's dream. If the ebb and flow of positive and negative news and the skittish market sentiment continue, we can expect more of the same this year for international markets, but the risk must be to the downside.
What are the implications for South Africa? Generally, we tend to follow American and European market sentiment, but our markets have remained firmer, partly due to high resource and commodity prices, and political and economic stability. As an Afro-optimist, I expect that this will again be the case this year, but we cannot rule out the possibility of nasty headwinds.
The greatest risk is probably a political shock, which could result in massive outflows of foreign capital from our bond and equity markets. Clearly, this would be bad for our markets, and it would create further pressure by reversing the cash flows that have been an important factor in financing our current account deficit. This could increase our cost of funding and put pressure on the currency.
I am a proponent of continually accumulating shares, but we are in the very curious position of witnessing high levels of profitability from many listed multinationals, while facing unpredictable and subdued economic growth and high levels of sovereign debt in the developed world. It is certainly a time to be cautious and to look for value and opportunities.
Stock picking, such as I do in this column at the start of every year, is for the foolhardy. The word means showing boldness or courage but not necessarily wisdom or good sense. When there is a clear economic outlook and stable conditions, the task of choosing the shares that I think will perform best in the coming year is relatively easy; it is far more difficult in times of trouble and turmoil. But, once a tradition has been started, one must soldier on.
Even though I had anticipated tough times, the domestic portfolio that I selected in March last year produced a really mixed bag of results in the seven months to October 28. Performance ranged from a gain of 32.9 percent from British American Tobacco to a very disappointing minus 15.31 percent from Anglo American plc. Of the 10 shares in my portfolio, half were up and half were down. During the seven months, the FTSE/JSE All Share index was up 0.73 percent, and my portfolio returned a credible 4.84 percent (based on the assumption that R100 000 was invested in each of the 10 shares).
I believe that 2012 will be another difficult year, but I am going to make only one change to the portfolio: remove Investec and replace it with Anglogold Ashanti. In my 25 years as a stockbroker, this is the first time I can remember recommending gold shares. The reason is simple: if the worst happens, the gold price will run, the rand will fall and South African gold shares will rocket. It is an insurance policy and certainly not a long-term hold.
The portfolio remains high in rand-hedge qualities, resources, consumables and food.
For the sake of academic completeness, it is interesting to note the performance of the three shares that I threw out last year: Aspen was up 20 percent (silly me), Bidvest was up six percent and Tongaat Hulett was down five percent (but it lost 17 percent in US dollars).
The spread of returns from the offshore portfolio was even greater, with only four shares up and six down, reflecting the fact that the American, European and Japanese markets were down and the JSE was mildly positive. The biggest loser was Amedisys (American), which gave up 60 percent (in US dollars), while the best performer was GlaxoSmithKline (European), which gained a modest 18 percent (in British pounds).
The extraordinary impact that the currency has on performance is well illustrated by the fact that the total return (including dividends) of Park 24 was 13.4 percent in Japanese yen, but, in rand terms, it was 47.5 percent. Toyota was down 21.07 percent in yen but down only 1.81 percent in rands; Apollo was up 15.5 percent in US dollars and 32 percent in rands, while HSBC was down 14.18 percent in British pounds and actually up 3.27 percent in rand terms.
As a long-term holder of shares, I have decided not to make any changes to my offshore portfolio.
For those who want to invest more money abroad, I think that, on a five-year view, the following London-listed shares look attractively priced in this market: Johnson & Johnson, Vodafone, Burberry, Standard Charter and BSkyB.
* David Sylvester is a stockbroker with Investec Wealth and Investment.