Market overview and drivers

The South African economy has been plagued with bad news over the past three years.  Strikes choked the economy in 2013 and 2014 and the Euro crisis added fuel to the fire, while 2015 growth seems to be retarded by load shedding.

Market overview and drivers

The South African equity market had a diverse month.  Resource shares gave back most of the returns generated in February which were down 8.9% mainly due to a strong US Dollar.  Financials, driven by banking

During the transition period from an STC regime to the current Dividends Tax regime, SARS has allowed for STC credits to reduce the Dividends Tax liability for shareholders who receive dividends.  On 1 April 2015, this transition period comes to an end.  

At this stage, we have capacity in excess of R2bn and are working on new investments to provide for the expected growth of the funds in the near future.  If you are planning to invest in either of these funds in the next two months we encourage you to act quickly, investments will be accepted on a first-come, first-served basis.

Macro themes

Our Macro theme discussion this month focuses on major commodities, some of their drivers and the impact on the domestic market.

Macro themes

Expanding on the themes discussed in the August overview, let’s focus on the possible path of US interest rates and the impact on South African long bond interest rates.

The correlation between US 10 year sovereign bonds and South African 10 year bonds is very high.  The domestic 10 year bond asset pricing starts with the US 10 year bond yield, adding the inflation differential between the two countries and the South African sovereign risk premium.

August was characterised by extremes, basic materials sold off aggressively while industrials (notably telecoms and healthcare) performed very well.  Banks had a weak month driven by Capitec, Standard Bank and Barclays Group Africa.  The Perpetual Preference Share Index lost 1.4% due to the African Bank event, though the rest of the prefs on the index did well.  Global developed world markets and emerging markets had a positive month being up 2.2% and 2.3% respectively.

The FTSE/JSE All Share Index (Alsi) returned 23% per annum over the past three years and 30% over the past year.  The major underlying sectors delivered similar returns over the past year while resources lagged over the three year term but caught up over the past 12 months.

The funds that were placed on RWN are:

When the switch from Secondary Tax on Companies (STC) to dividends tax took place on 1 April 2012, the legislation allowed a transition period for companies to pass on existing STC credits.  This transition period comes to an end on 31 March 2015.  Unused STC credits will have no benefit after 31 March 2015 and this could have a negative impact on dividend returns.

On the positive side, after-tax returns received by investors in the Sanlam Alternative Income Fund (SAIF) should not be affected by this change.

Let me explain…

Global markets remain the main catalyst for domestic equity performance, supported by the weak Rand.  Interestingly the Rand USD exchange rate was range bound throughout the last quarter, trading at between R10.29 and R10.83 and ending the quarter at R10.64 (1% weaker than the starting exchange rate of R10.53).

The FTSE/JSE All Share Index (ALSI) return was strongly driven by a recovery in Naspers (+17.6%), supported by British American Tobacco, MTN, Sanlam and a recovery by the food producers.  Both developed and emerging markets performed well, driven by improved global risk appetite.  The domestic property market is being constrained by low consumer spending and interest rate expectations.  Perpetual preference shares added a placid 40 basis points after a spectacular recovery over the past 3 months.

• higher after tax returns; and
• significantly increased capacity for investors.

The after tax return increased, on average, by 0.46% over the first 6 months of 2014.

In addition, Fitch Ratings has recently affirmed SAIF’s National Fund Credit rating of 'AA- (zaf)' which confirms the high credit quality of the fund. This rating has stayed unchanged since 2008 and underlines the fund’s stable credit profile.

Emerging markets have seen cash inflows, now that the so called ’taper tantrum’ has subdued.  The risk on game is being played by global investors, the majority of the investors are seeking higher yields than what are offered in developed markets.

March delivered a strong month as performance in the equity markets steamed ahead.  The domestic market was driven mainly by telecommunications, retailers and banks and was supported by a normalising Rand, positive talk from the South African Reserve Bank MPC and cash flowing back into emerging markets.

February was a fantastic month, with all equity indices firing on all cylinders. There was exceptionally strong performance in the gold sector, consumer service and financial sector.  Construction and food producers performed negatively.  Food producers are experiencing severe strain due to them having to absorb a lot of cost pressure and not being able to pass these costs down to retailers and consumers.

January was characterised by aggressive sector rotation.  Industrial and financial shares were sold down aggressively in favour of resource shares.  Gold shares (+27%) were the best performers, followed by base metal miners (+5%).  General retailers (-12%), food retailers (-12%), telecommunications (-9%), financials (-7%) and industrial shares (-7%) sold off aggressively.

The weak Rand supported the resource shares and selected Rand hedge industrials, but stocks like SAB and BTI sold off.  The financial and industrial shares were driven by emerging market growth fears.

The 2013 calendar year ended on a high note.  The FTSE/JSE Shareholders Weighted All Share Index (SWIX) delivered a solid 20.9% for the year and 6.1% for the last quarter.  Industrial shares (notably Naspers) were the biggest contributor to this performance. Health care, consumer goods and consumer services also had an excellent year and quarter.

Basic materials’ (resources) performance was flat.  Gold and platinum mines detracted value while base metals added 6.5% for the year and 3% over the last quarter.  The performance was mainly driven by index heavy-weight, BHP Billiton.

Global macro events were the main driver of the equity market via the Rand.

November was generally a negative month for the JSE.  However, developed market equities and the JSE preference share index ended the month in positive territory.  The rest of the market was flat or negative due to the fear that the US Federal Reserve Bank would reduce their current $85 billion per month spend on asset purchases.

Markets across the board performed positively in October.  The FTSE/JSE All Share Index is up 26% over one year, supported mainly by financials and industrial shares.  Listed property ended the month up by 3% and added 18% over 12 months.

After a very volatile third quarter we look back and take stock of what happened and try to understand what  the possible scenarios facing us over the upcoming medium and long term are.

• assisting the school to improve their facilities,
• offering them our guidance and
• providing them with financial resources. 

Umnqophiso Pre-Primary School is situated in the disadvantaged community of Lwandle. Lwandle is in Strand, which is within the larger Helderberg basin in the Western Cape.  They cater for four to six year old children and offer after school care in the afternoons.  This school has an incredible team of teachers who are responsible for 180 pupils.

USA and Europe have been driving the global economic indicators up over the past two months, whilst China has been tapering the positive momentum. The stronger than anticipated (but still way below trend) growth caused an aggressive steepening of yield curves and some anticipation of higher than expected inflation. In the domestic market we have seen a sell-off in bonds, inflation linked bonds, properties and preference shares.

The evaluation of investments on a pre-tax basis has become the norm in South Africa.  Fund factsheets and newspapers only show pre-tax returns and fund managers analyse performance on this basis too.

Internationally, the focus has shifted to showing both pre- and after-tax returns.  Since 2001, the U.S. Securities and Exchange Commission (equivalent of the FSB) has required publication of both pre- and after-tax returns.  They justify this disclosure requirement by listing the concern that “…fund investors who are subject to current taxation may not fully appreciate the impact of taxes on their fund investments…”.

The FTSE/JSE All Share Index retraced most of the gains made in May.  This was driven by a strong draw down in basic industries. Gold and platinum sold off aggressively as exchange traded fund (ETF) investors capitulated further on long positions. The SPDR ETF, representing around 50% of the gold ETF market, reduced its holdings to around 31 million troy ounces from a high of 43 million troy ounces in December 2013.

Market performance

Fitch Ratings has affirmed the Sanlam Alternative Income Fund's National Fund Credit rating of 'AA- (zaf)'.  This announcement not only indicates the high credit quality of the fund – the fact that the rating has remained unchanged since 2008 speaks volumes about the stability of the credit profile of the fund.  View the press release issued by Fitch Ratings.

Global markets have been playing the risk on, risk off game over the past couple of years after the great recession. The perception of future growth has been the main driver - this was generally a function of stimulus pumped into the market, or a new crisis evolving.

Global Purchasing Managers Indices (PMI), a good proxy for future growth, are barely at expansionary levels. However, this is very region specific. The JP Morgan global composite PMI (at 52.5), has been improving over the past year but is losing momentum as the shorter term gains are getting smaller.  A value over 50 represents growth expansion, so this is not a bad thing.

The main pillars of the legislative framework for collective investment schemes’ portfolios in South Africa are the regulations enacted in terms of the Collective Investment Schemes Act (CISCA), the Financial Advisory and Intermediary Services Act (FAIS) and the Companies Act. In the case of the funds that we co-manage with Sanlam, and the other portfolios in South Africa offering tax efficient returns, the other key legislative pillar is the Income Tax Act.

Index returns

Index returns

Returns

The name of the Sanlam Dividend Income Fund of Funds has changed to the Sanlam Diversified Income Fund of Funds.

Returns

Returns

Recent figures released show that South Africa faces a major shortfall in terms of its savings rate. Our national savings rate is 14%. This is not sufficient to fund the current fixed investment of 18% of GDP, let alone the 25% planned to place South Africa on a more meaningful path to economic growth.

Market Prices

Sanlam Optimised Income Fund

In October last year, the Sanlam Optimised Income Fund was launched.  The aim of this fund is to achieve similar returns to listed preference shares, with half their volatility.  It is ideal for investors who require a medium term investment offering a tax efficient total return.

Market Prices



The Equity market performed exceptionally well over the past year, given the global crisis.  At the time of writing this post, the market added another 3.95%. However, sector performance has diverged substantially. Industrial and Financial stocks excelled. Listed Property, listed in the Financial sector, is up 34.8% over the past year. General Retailers is up 51.7%.
 

June was a positive month. Equity markets bounced back, driven by a less negative sentiment. The Citigroup Economic Surprise Index jumped up a bit but is still at extreme lows. The question at these levels is, “How much worse can it get?”  The answer is, “We don’t know!”

Global market drivers are still centred on some of the major themes discussed last month:

Three major themes are currently driving global markets:

Financials were the top performers in February after a busy reporting month. In general, the market rewarded the sector adding 4.6% (or 1.14% of the 2.74% that the Swix 40 delivered). Basic Materials delivered a wide dispersion of returns, with most of the Platinum counters and Mondi recovering while Gold shares retreated. Impala Platinum was down for the month, driven by strike action. A hundred and thirty eight JSE listed companies reported from January to date. On a semi-annual basis EPS growth was up, year on year, by 20.51% on a share weighted basis.

Equity markets across the globe delivered good returns in January. Supported by commodities, positive news flow from Europe and positive surprises by economic indicators, investors took on risk and drove equity markets. US credit spreads are still at elevated levels at January month end. The US Industrial 10 year AAA – BBB spread was trading around 134 basis points compared to the 95 basis point average of the last 2 years, but off the October 2011 highs.

Meet our new team member

Ora recently welcomed Tienie van der Mescht as a non-executive director, adding years of  experience and knowledge to the team’s skill set and shared insights. Tienie told us more:

Pre tax returns remain the objective for investors in deferred tax products like pension, provident and preservation funds (generally referred to as compulsory investments).  However, flows into these types of investments are declining as an increasing number of investors require investment solutions outside of these deferred tax mechanisms (generally referred to as discretionary investments).  For these investors, tax efficient returns are becoming attractive.

The FTSE/JSE All Share Index year closed on a sombre note. However, the divergence of the sector indices’ performances was high. Financials and Industrials did fairly well in a very difficult market. They finished the year up 7.9% and 9.2% respectively. Resources closed the year down -8.1%. December was a dull month with Resources down -5.7% and Industrials and Financials almost flat. The Property sector did well, delivering a total return of 8.8% for the year in line with the All Bond Index being up 8.8%. Developed markets (-4.8%) outperformed Emerging markets (-18.4%) driven by Dollar strength and risk aversion. Domestic Preference Shares ended up 8.4% for the year, after a disastrous start. Risk appetite increased in the final quarter delivering the majority of the returns.

November was a placid month in the domestic market.  Most Equity indices ended in positive territory, except for a -0.9% for the JSE Listed Property Index. However, the MSCI Emerging Markets Index retraced aggressively. The draw down was mainly driven by Dollar strength, as reflected in the positive month (+2%) for the MSCI Developed World Index. Demand for preference shares was high and resulted in a strong month.  This was mainly driven by changes in tax legislation.

After the month of horror in September, October surprised all on the up side. Performance was strong across asset classes. The turnaround was driven by positive news flow from Europe supporting risky assets. Commodities corrected somewhat, but Hot Rolled Steel and Iron Ore had a weak month. Iron Ore traded to below $120 per metric ton, driven by Chinese destocking. It subsequently recovered to $147 per metric ton in a very volatile market.

These dividend income funds may attempt to unwind their structures and convert to investments that will not be affected by the proposed tax amendments. The problem that they may face is that their FSB approved supplemental deeds and the limited availability of suitable investments may not allow them to do this. Failing this strategy, they may choose to offer their investors alternative pre-tax investment options similar to those offered by the rest of the market.  (This is a follow up feature, read the first post here.)

These funds are aimed at high net worth discretionary investors and companies. Discretionary investments are investments made in addition to investors’ pensions, provident or annuity investments. Discretionary investors aim to maximise their total after tax returns as tax can erode up to 40% of investment returns. Therefore, investments should not be evaluated on a pre-tax basis. The value of discretionary investments in the South African unit trust industry has steadily grown over the past decade and amounted to R342bn as at 30 September 2010.