Tuesday, 25 June 2013 - 20:00

 

Charts

Local or Global Equity?

The rand has been in a broad weakening phase versus the US dollar (and other hard currencies) over the past 30 months, which has been exacerbated in the past 2 months. The rand has weakened by over 30% against both the USD and EUR since the end of 2010, with chart 1below indicating how this has been a one way bet for a while now.

Chart 1: Rand vs USD and EUR

The rand weakness over this period has resulted in excellent rand returns for any investment based in developed markets. Seed clients have joined in this performance as all of our Funds and portfolios have been overweight global assets over this period.

Now that the rand is trading relatively close to its long term fair value, the relative attractiveness of the underlying asset classes becomes more important when making the decision to allocate between local and global assets.

When looking at the relative attractiveness of the local stock market (as proxied by the ALSI) to global markets (simply using the S&P500 as a proxy), we take a whole range of factors into account (of which the relative attractiveness of the currencies is but one input).

Chart 2 below shows the relative performance of the ALSI versus the S&P500 over the past 25 years when both are measured in USD – i.e. a like for like comparison. Clearly there have been periods where the S&P500 outperformed (notably the end of 1994 – to the end of 2001) and the ALSI outperformed (2001 to the end of 2010).

Chart 2: Relative Performance (in USD) of ALSI vs S&P500

Since the end of 2010, until now, the ALSI and S&P500 have each done approximately 30% in their local currencies, but the rand weakness has meant that the S&P500 has outperformed. There is still some way to go for the S&P500 to reach its 25 year ‘fair value’ versus the ALSI, and we have seen in the past that markets typically overshoot fair value (both on the way up and on the way down).

With developed markets coming off a low base, after the poor performance from these markets for much of the first decade in the 21st century, we expect that there is a lot more value in developed markets when compared to emerging markets. The relative PE multiples reflect this view, and can be seen in chart 3 below:

Chart 3: Relative PE of ALSI vs S&P500

Save for a brief period in 2009 when US profits fell spectacularly (profits fell by over 90% from January 2008 – July 2009, only to rise by 963% over the next 18 months) the ALSI has been expensive versus the S&P500 on a PE relative basis since the end of 2006. We expect that this relative differential will move closer to its long term average over time – the ALSI has typically traded at a discount (i.e. lower PE) to the S&P500 as a result of the extra premium required to invest in SA companies.

As mentioned at the start of the report these are merely a few of the factors that we look at when making the decision between local and global equities. Further factors would include looking at non US markets, and the fact that there are more opportunities within the broad global equity universe when compared to the relatively concentrated local market.

Seed clients have been underweight local equity since the beginning of 2013, and this has helped the relative performance of our Funds year to date. We continuously monitor the relative attractiveness of equity markets, as well as their attractiveness relative to other asset classes.

Take care,

Mike Browne

www.seedinvestments.co.za
info@seedinvestments.co.za
021 914 4966

Tue, 25 Jun 2013

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