OPINION: Prudence and private markets
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JOHANNESBURG – South Africa has one of the most advanced financial services industry compared to most of its developing country peers. Our banking industry, as regulated and supervised by the South African Reserve Bank, follows the most recent, advanced and leading global standards. The country’s public markets exchanges, such as the JSE, compare favourably with some of the best exchanges in the world.
Assets under the financial services industry are valued at R9.4 trillion, including R2.8trln in long-term insurances.
The South African investment management industry, with R8trln assets under management, is the largest on the African continent.
Regulated by the Financial Sector Conduct Authority through important regulations, such as Regulation 28 of the Pension Fund Act of 1956, as amended, the asset management industry has historically maintained prudent capital allocation discipline across various asset classes.
The net effect of this has been positive risk-adjusted returns for the public.
There is no doubt that global investors consider the robust building blocks of the South African financial services sector when they decide to invest in our country and the rest of the continent. In turn, flow of investment capital into the economy enables economic growth for the benefit of all.
Asset managers, as guided by Regulation 28 and the various role-players (for example, pension fund trustees and investment professionals), have typically allocated the largest component of their assets under management to listed equities (usually more than 50percent), followed by listed bonds, property and global equities and bonds, and usually a small allocation to alternative asset classes (including private equity).
However, one of the unintended consequences of the successes of JSE-listed South African companies and the exchange is that, through their growth of foreign, non-South Africa exposure, which naturally provides for diversification (a crucial component of generating risk-adjusted returns), the exchange has become increasingly less reflective of the South African economy.
For an example, most asset managers who manage the listed equities track specific benchmark or index, such as the JSE-Swix index. The effect of this arrangement is that, by default, funds are allocated to some of the large companies with significant foreign exposure.
An extreme example of this is perhaps Naspers, which has an exposure to the Chinese market through its 31.1 percent Tencent holding. If one uses the JSE-Swix index as a benchmark, then for one to hold a neutral position relative to this index implies a 24.5 percent allocation to Naspers, which has very little exposure to South Africa, except through its subsidiary, MultiChoice.
If we assume that 50 percent of the circa R8trln is in local listed equities - that is R4trln. If we estimate that asset managers are positioned neutral on Naspers relative to the index, then this translates into R1trln. Even if we were to assume that many managers are changing benchmarks to the Swix Capi, the exposure would still imply a large exposure to Naspers at about R400 billion.
To put this into context, according to the National Treasury, South Africa's national budget for 2017/18 was estimated to be R1.412trln. This means that the allocation to Naspers is equivalent to roughly 70 percent of the national budget, if we use the JSE Swix as the benchmark or 28 percent allocation, assuming the Swix Capi as the index.
Examples of other companies with limited revenue-generation from South Africa include, but are not limited to, Glencore, SAB-InBev and BHP Billiton.
The implication of all this is that, over time, the JSE has become increasingly less reflective of the South African economy. This means that a significant amount of the circa R8trln capital mentioned earlier does not benefit the local economy.
This has resulted in a situation where, for an example, JSE rallies when the local currency weakens and in effect becomes a “hedge against the local currency,” increasing allocation to unlisted, private markets as part of the solution.
To cure this challenge, the asset managers will need to find creative ways of diversifying their investments, such that they generate great returns for their clients, while at the same time diversifying their risk exposure.
While more funds are allocated to listed equities, the reality is that alternative asset classes have received small allocation. According to the Southern African Venture Capital and Private Equity Association, the size of the South African private equity market in 2017 was only R158bn, excluding the Public Investment Corporation (PIC).
Goal 8 of the UN's sustainable development goals, to which South Africa subscribes, aims “to promote inclusive and sustainable economic growth, employment and decent work for all”.
Moreover, according to South Africa’s National Development Plan (NDP), the employment scenarios planned by the commission suggest that most new jobs are likely to be sourced in domestic-orientated businesses and in growing small and medium-sized firms.
If one considers that South Africa is a country in dire need of capital investment in the real economy to stimulate economic growth and create the much-needed jobs, perhaps a slightly different view and capital allocation between public and private markets in “the real SA economy” is warranted.
We are of the view that asset managers could prudently increase allocations to the private markets and still generate acceptable risk-adjusted returns. We think an increased allocation to the unlisted markets across all sectors of the economy will unlock and avail trapped and much-needed capital to stimulate inclusive economic growth. In time, some of these companies could find themselves in the public markets indices.
The PIC sees great value in investing in private markets. Together with the help of its key clients such as the Government Employees Pension Fund, Unemployment Insurance Fund and Compensation Commission, the PIC has been incrementally allocating more capital to the unlisted markets across key sectors of the economy (such as social infrastructure, energy, economic infrastructure, agriculture, manufacturing, etc), in line with the country’s growth blueprint, the National Development Plan.
We have a strong conviction, backed by evidence, that this approach has the potential to ensure sustainable long-term returns and achieve transformative, inclusive economy growth. Imagine what huge impact would be achieved if all the asset managers increased their allocation towards private markets.
Dr Daniel Matjila is the chief executive of the Public Investment Corporation.
The views expressed here are not necessarily those of Independent Media.