MARKET & FUND COMMENTARY 04.2014 Over the course of a strong quarter ending April 2014, the JSE All Share Index rose by 9.6%, with large caps marginally outperforming small caps. Resources (RESI20) rose 8.5%, industrials (INDI25) rose 7.6% and financials (FINI15) the star performers over the quarter returning 19.7%. Globally, equities maintained the February surge, with the MSCI World Equity Index (US$) rising 6.4% while the Global Government Bond Index (US$) rose 2.3% during the quarter. Declining SA yields, on the back of foreign inflows over the course of the quarter, boosted returns on fixed income assets, with the All Bond Index returning 4.6% and the SA Listed Property Index rising 12.2% on the back of a return to risk-taking and corporate activity in the sector. The Rand appreciated by 5.4% against the USD during the quarter, while gaining 2.8% against the GBP as jitters surrounding emerging and commodity markets faded. SA CPI increased by 6% in March on a year ago with wages, fuel, ZAR weakness and electricity prices expected to push inflation through the upper CPI target band in the year ahead before declining gently into the SARB target band towards year-end. Table 1: Total return of selected SA indices to 30 April 2014 Quarter 1 Year 3 Years 5 Years 10 Years SA Equity 9.6 30.1 17.8 22.2 20.1 Top 40 9.4 32.5 17.5 22.1 19.8 Small Caps 8.8 23.8 22.0 23.4 22.6 Resources 10 8.5 36.4 3.4 11.8 15.0 Industrial 25 7.6 32.6 29.0 31.5 25.2 Financial 15 19.7 26.3 23.4 24.3 18.6 SA Property 12.2-3.6 18.1 19.2 23.1 SA Bonds 4.6-3.0 8.5 8.9 9.3 SA Prefs 3.8 8.5 7.2 7.9 - SA Cash 1.2 4.8 5.0 5.6 7.0 Rand / US Dollar -5.4 17.1 17.1 4.5 4.3 Rand / Euro -2.8 23.3 14.5 5.5 5.8 Rand / GB Pound -2.8 27.2 17.4 7.3 3.7 Source: I-Net Bridge & Cordatus Capital A combination of mounting domestic inflationary pressures and the longer-term trend towards rising real rates globally is expected to force the SARB to continue raising interest rates during the course of 2014, albeit at a slower pace than earlier envisaged; despite the desire to remain accommodative in the face of slowing growth. In addition, broad domestic equity valuations, current account data and foreign perception as to policy and labour instability in SA are expected to keep risk at elevated levels. Remain diversified Remain protected!
While some ZAR stability / strength in the short-term is likely on the back of improving capital flows, a foregone election and trade / deficit data, we expect the ZAR to have a weakening bias for the foreseeable future. When coupled with relatively more attractive valuations to be found internationally, we retain material offshore equity exposure within segregated client portfolios and the unit trust funds we manage, as appropriate. Our view of the global financial complex over the medium-term is still firmly in place. Namely, that equity and property exposure is preferred, with longer-dated Government bonds and cash, our least favoured asset classes. Capital flows remain critical (continued inflows are a precondition for the ZAR to stabilise, never mind recover) to the prospects for emerging market currencies and assets, with SA being particularly vulnerable (despite recent good news) in this regard given the budget & current account deficits we currently run. Importantly, we see inflows as a lagging indicator which reflects emerging market sentiment, not a driver of sentiment. Locally, economic growth has moderated as consumers face tighter credit conditions, household debt levels become elevated and confidence has weakened due to the impact of industrial action and the recent hike in interest rates. We expect SA real GDP growth of between 2% and 3% over the next couple of years on the back of a recovery in the primary and manufacturing sectors, which while encouraging, is insufficient in our opinion to deal effectively with the employment, unrest and deficit problems we face. SA needs to transition and grow! In the face of overwhelming economic challenges, both locally and abroad, the environment within which change must take place may be a bigger challenge than lack of execution. Table 2: Returns on Cordatus Portfolios ending 30 April 2014 Month Quarter 6 Months 1 Year 2 Years (ann) 3 Years (ann) Cordatus SA Equity Portfolio 2.9 10.4 9.3 25.6 21.9 18.8 3 Laws Climate Change Equity Pres Fund 2.7 6.7 4.3 19.3 - - Benchmark [1] 2.7 9.6 9.0 30.1 22.9 17.8 Cordatus Global Equity Portfolio [GBP] 0.5 3.4 1.1 7.6 12.0 - Benchmark [2] GBP -0.2 3.7 1.4 7.9 15.1 - Prescient Wealth Balanced FoF A1 1.8 5.5 7.4 23.4 20.8 - Benchmark [3] 1.6 6.2 6.7 19.7 20.1 - Prescient Wealth Income FoF A1 1.0 2.8 4.0 7.9 10.8 - Benchmark [4] 0.6 1.7 3.4 6.9 7.2 - Cordatus Worldwide Flexible Pres FoF A1 1.7 4.7 7.6 - - - Benchmark [5] 0.8 4.1 6.4 - - - Cordatus Worldwide Flexible Pres Fund A1 1.4 3.2 8.8 - - - Benchmark [5] 0.8 4.1 6.4 - - - A current fact sheet for each of the above portfolios is available at www.cordatus.co.za\downloads. Returns for periods longer than 1 Year are annualised. The Equity and Global Equity Portfolios are segregated mandates run according to specific client income, risk and return objectives. Benchmark [1] = 100% All Share Index TR, Benchmark [2] = 100% MSCI World Index TR [GBP], Benchmark [3] = 50% JSE ALSI + 25% ALBI + 15% MSCI + 10% SA Cash TR, Benchmark [4] = 100% SA Cash Index + 2%. Benchmark [5] = CPI + 5% Despite the virtual reality created by the US Fed through QE and restrained interest rates, we are not ready to announce the end of the world is nigh. We are however very concerned about the consequences of an end to US Fed largess and in line with our constant risk-management strategies we have increased cash holdings within portfolios and taking a more active role in currency exposure management than we have over the past year. Page 2 of 6 Cordatus Capital Monthly Investment View April 2014
Table 3: Broad Asset Allocation of Cordatus Portfolios ending 30 April 2014 Manager CORDATUS CORDATUS CORDATUS CORDATUS CORDATUS CORDATUS Portfolio Global Equity SA Equity WW Flex Fund WW Flex FoF PWM Bal FoF PWM Inc FoF Currency GBP ZAR ZAR ZAR ZAR ZAR South Africa 0 100 46 70 78 94 Equity 0 86 41 47 47 7 Property 0 0 0 1 4 7 Bonds 0 0 0 7 11 39 Cash 0 11 3 15 16 36 Other 0 3 2 0 0 5 Offshore 100 4 54 30 22 6 Equity 88 4 47 23 18 3 Property 5 0 0 3 0 0 Bonds 0 0 0 1 2 1 Cash 7 0 7 1 2 2 Other 0 0 0 2 0 0 EDUCATING THE EDUCATED Over the years we have been inundated at Cordatus with information and pundits proclaiming to have the answer to everything relating to investment markets. Every now and then during the course of scouring the world for intelligent life we come across investment professionals who have no other aim than to educate the educated. Kevin Cousins of MACROtimer.com provides just such a platform for the interested investor. The following piece is reproduced with permission. (www.macrotimer.com) May 8 2014 The Cash on the Sidelines myth I often see commentary to the effect that given the large investor cash holdings, we can expect buying of equities to support the market. This analogy is logically flawed and often used by pundits who should know better. For every buyer there is a seller. It is impossible for market participants in aggregate to increase their equity weightings through trading. The seller of the equities you buy has an increase in cash of the same magnitude as the equities added to (and cash subtracted from) your portfolio. IPO s and other share issues can move cash from market participants to corporates, and share buy backs send it the other way. But the main way the proportion of assets invested in equities changes is through price moves. A strong performance by equities in a year when other financial assets deliver lower reurns will sharply increase the aggregate equity exposure, and a big decline decrease it. So as market heuristics go, cash on the sidelines really sucks. A far better way to think about the market is by type of participant. For example imagine we have two types of market participants value orientated institutions and trend following fast money. The value players buy cheap and sell expensive. The fast money buys what s going up and sells what s falling. Big moves happen when an expensive share tops out and starts falling, or a cheap share bottoms and starts rising. In both cases there are no natural buyers and sellers respectively, until a substantial price move has occurred. Like all heuristics this is of course a gross simplification, but it provides a far better mental picture of the market than the cash on the sidelines narrative. These days, a third type of participant needs to be considered to improve the heuristic the passive investor. The last Morgan Stanley flow data I saw stated that more than 70% of the cumulative foreign investment in SA stocks came via passive mandates, and I believe other EM s are similar. The value investor always bought too early and sold too early, and endured performance pain as Page 3 of 6 Cordatus Capital Monthly Investment View April 2014
momentum players pushed prices much lower or higher than anticipated. The impact of passive flows appear to be further exacerbating this cycle. CHARTS & GRAPHS WE FIND INTERESTING AT THE MOMENT GRAPH 1: FNB House Price Index the residential market has held up relatively well, despite the constraints facing consumers. With house prices rising 8.6% (nominal) and 2.6% real for the year to March, expected further interest rate hikes are expected to frustrate current trends. Source: RMB Global Markets Research GRAPH 2: SA export growth while production has been slow to respond to a weaker ZAR, promising signs of the required rebalancing are evident. Source: RMB Global Markets Research Page 4 of 6 Cordatus Capital Monthly Investment View April 2014
GRAPH 3: Market Returns Concentration the top 10 shares on the JSE by market capitalisation, delivered 78% of the return on the All Share Index over the year to 31 March, with the top 20 shares delivering 91% of the ALSI return. Source: Momentum GRAPH 4: Foreign Transaction 2005 to March 2014 net inflows to equities this year supporting the market and the ZAR. Source: Momentum Being cognisant of the risk, return and investor profile of individual mandates, we would remind investors who have entrusted Cordatus with their long-term wealth management requirements that performance (see page 1) over the next decade is unlikely to match that of the past 10 Page 5 of 6 Cordatus Capital Monthly Investment View April 2014
years! The price you pay for any asset is important and our portfolios (as shown in Table 3) reflect our view on relative valuations, reversionary trades and the need for protection. Regards, The Cordatus Team Craig, Rolfe, Kim and Arthur DISCLAIMER Cordatus Capital (Pty) Ltd is an authorised Financial Services Provider [FSP # 21263]. The content of this presentation and any information provided may be of a general nature and may not be based on any analysis of the investment objectives, financial situation or particular needs of the client (as defined in the Financial Advisory Intermediary Services Act). As a result, there may be limitations as to the appropriateness of any information given. It is therefore recommended that the client first obtain the appropriate legal, tax, investment or other professional advice and formulate an appropriate investment strategy that would suit the risk profile of the client prior to acting upon such information and to consider whether any recommendation is appropriate considering the client s own objectives and particular needs. Any opinions, statements and any information made, whether written, oral or implied are expressed in good faith. The products discussed in this presentation, may or may not, be regulated by the FSB. Page 6 of 6 Cordatus Capital Monthly Investment View April 2014