Over the past few months, the epicentre of the COVID-19 outbreak has shifted. Perhaps early on the hopes were that the outbreak could be put behind us swiftly. This has not proven to be the case and the disease has shown itself to be a truly global pandemic. Countries that were affected first like China and the developed economies, have largely seen their cases level off, while the epicentre of the pandemic has now moved to the US and emerging market economies.
The policy responses by governments have had profound economic impacts. Shelter-in-place and lockdown measures aimed at containment have decimated economic activity and the ensuing global recession has been faster and deeper than that experienced in the 2008/2009 Global Financial Crisis (GFC). Meanwhile, we have also seen unprecedented monetary and fiscal stimulus measures introduced by policymakers around the world to counteract the impact on economies.
As shown in the charts below, interventions announced by the US, the Euro area and Japan are substantially higher than during previous crises. Fiscal support measures are especially noteworthy as they have been significantly larger than overthe last decade. In combination, these measures have the potential to be highly inflationary once the demand and oil price shocks have made their way through the global system. While much remains uncertain, we are increasingly intrigued by the possibility that the future could look very different to the most recent experience.
The combination of monetary and fiscal stimulus has driven the recovery of risk assets
The immediate response to the pandemic was a widespread fall in virtually all mainstream asset classes. Uncharacteristically, even gold plummeted as investors rushed to liquidate positions and move into cash. Broad market indices have subsequently largely recovered, although mostly due to a strong recovery in a fairly narrow grouping of global shares. While volatility is typically expected from equity markets, the local bond market experienced its own roller-coaster ride over the lockdown period.
It is interesting that the long-awaited Moody’s downgrade and subsequent exclusion of South African government bonds from the FTSE World Government Bond Index (WGBI) barely moved the market, and that bonds went on to strengthen over the rest of the lockdown period. With 10-year bonds broadly back to where they were at the beginning of the year, it appears that this event had been adequately priced in.
The performance environment has been exceptionally tough over the past 18 months
More recently, the performances of our equity and multi-asset funds have lagged our benchmark and peer group.
The current underperformance can be attributed to three broad areas:
- We do not own Naspers, Richemont and British American Tobacco, which are widely owned, large constituents in the index and that have generally performed well over the past 18 months.
- Many of the undervalued local shares that we own continue to be marked down and are still deeply out of favour.
- Our foreign holdings underperform the market leaders, which include many of the large-cap internet companies. We own excellent companies with good prospects, but so far they haven’t kept up with the market leaders.
Generally, it has been a challenging market for valuation- oriented investors seeking mispriced shares in areas that are out of favour. Our article Why it is a bad time to give up on contrarian investing highlights why we believe our approach remains on track.
While the most recent journey has been painful, it must be said that we consider the outlook to be promising. We believe the opportunity from this point is immense for disciplined investors willing to retain a long-term, patient mindset and allocate capital to good, but undervalued, securities. It is rare that all components of a balanced portfolio (local and foreign equities and bonds) are simultaneously priced as attractively as they are right now.
Graph 4: Extreme valuation anomalies
A consistent investment process is serving us well in navigating the current uncertainty and noise
We have not experienced a pandemic like the current one in living memory, and it has brought about an exceptional amount of uncertainty and noise. It is important to acknowledge that the environment is fluid and to focus on what we know is certain, rather than falling prey to emotional decision-making. We also know that normality will return to both our lives and markets at some point in time: no crisis lasts forever.
We therefore continue to apply our 3M process and allocate our capital to our best ideas, and that we believe will offer our clients the best opportunities for future returns.
While the recent experience has been disappointing, we expect this will prove to be temporary and believe our funds are set up for excellent, differentiated performance going forward.
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Click here to read the next article: Why it is a bad time to give up on contrarian investing by Shaun le Roux