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Investment Views

Podcast: Facing the headwinds

5 April 2019
Author: Hannes van den BergCo-Head of SA Equity & Multi-Asset, 4Factor

Hannes van den Berg sits down with Lindsay Williams to wrap up the first quarter of 2019 for South African investors.



Lindsay Williams: It is the end of the first quarter so it is that time when you have to look back at various asset classes’ performances – underperformers, over-performers, outperformers, the economy and, of course, the JSE Securities Exchange and other equity markets worldwide.

With me is Hannes van den Berg, who is the Co-Head of SA Equity and Multi-Asset at Investec Asset Management in Cape Town. Generally speaking, how has the quarter been, Hannes?

Hannes van den Berg: Good-day, Lindsay. Yes, it has been an interesting quarter with the volatility that one saw last year continue into 2019. The equity markets at least recovered some of the very tough Q4 that we had towards the end of last year, markets up just over 6% in general but inside the sectors there have been a lot of sort of different performances from different sectors and a lot of stock-specific issues as well on the South African side. The Resources Index is up 15% for the year but the General Retail Index is down about 18% for the year. So it has definitely been an interesting ride for the first 3 months.

Lindsay Williams: Yeah, it has indeed and there have been some stock-specific stories as well as sector-specific stories that have been really interesting and I am just wondering what your attitude is when you get some of the – they’re not disasters but they certainly haven’t been very pleasant. What is your attitude as a portfolio manager when you see something like this? We have been used to it in 2018 but it has continued into 2019.

Hannes van den Berg: Yeah, you are right. There definitely were a lot of landmines last year and, to a certain degree, we saw a few of them continue into this year. A stock like Aspen really, it is down about 33% year-to-date and it is down 60-odd percent over the last 12 months so that continued. With investors being nervous around their balance sheet and the debt and they are selling some business units and, you know, the market wants to see them complete these transactions. So there is the risk of balance sheet and working capital issues around some of their operations as well.

A stock like Tongaat came out and said that they also have to restate some of their prior year financials and they have also appointed PwC. We heard similar stories just over 12 months ago with Steinhoff in South Africa, so investors don’t like that. EOH, another company where they got international contracts cancelled with Microsoft and, subsequent to that, certain investigations into various other contracts that they signed over time.

Then just fundamentals as well in the South African economy. When some of the retailers started reporting – gave us their sales updates in January and subsequent to that started reporting in February and March, I mean stocks like Shoprite are down – it is a well-loved stock and a well-followed stock, especially by foreigners as well – it is down 20% year-to-date. Truworths is down 24% year-to-date; Massmart down 24%. Mr Price, a stock that foreigners also closely follow and like is down 27% year-to-date.

That just shows you (I mean you and I spoke a bit about it) sentiment in South Africa is not great. Businesses, when it comes to capex spending, when it comes to employing people, the consumer sentiment with the rolling blackouts and load-shedding that we have recently had in March, that’s not helping and that is reflecting when these companies report to the market.

Lindsay Williams: And if you have a look at the retailers and you look at the state of the economy, there is one indicator called the Leading Economic Indicator (LEI), which isn’t looking good for the next 6-9 months or rather its level predicts that the South African economy is not going to do well for the next 6-9 months, maybe even beyond.

The other thing is, of course, that the rand has started to go today into the 14.70’s and it was 14.25 a week ago. 50 cents is a big move. It is inflationary if it stays around there and what is also inflationary is an increase in the fuel price, which takes money out of people’s pockets and therefore the retailers really have got another headwind to get over.

Hannes van den Berg: Agree and we have recently had meetings with a lot of retailers as well as the food manufacturers and food manufacturers are all indicating that inflation is coming through the system in maize prices and bread prices and various other groceries and they have to put this through the system. So there is definitely a lot of stress between food manufacturing, food retail and the consumer as these inflation – you spoke about the rand, I mean fuel and gas prices, that just adds onto the inflation problem and that just puts the consumer under so much pressure.

You asked about the market. We spoke about the negatives. The difference between a bank and a retailer, and this is where load-shedding also plays a big effect, is that a retailer needs to make a sale today and tomorrow and the day thereafter. They need footfall. They need people to come into their shops. A bank is a bit different. Yes, the banks also struggle because your volume and your activity and your economy is slower but at least they have got a book of interest income that keeps on coming in on their income statement.

So the banks after the sell-off from a valuation perspective are starting to look a bit interesting. So there are opportunities in selective banks and then, as you said about the rand, stocks that we didn’t own necessarily last year because of fundamental and macro reasons (bottom-up and macro reasons), we started to go into stocks like Anheuser-Busch and British American Tobacco, which gives you some defensiveness and you benefit when the rand weakens.

On the other side, at Investec we, through our value products but more recently in our own Investec Equity Fund and in our balanced products, have gone into platinum. The platinum sector is definitely on the other side of the scale and there has definitely been an opportunity with the palladium price being up 15% but put that into perspective – it is up 49% over the last 12 months, so it is up 14.5%, 15% for year-to-date but almost 50% over the last 12 months. Stocks like Impala, Sibanye Gold, Anglo Platinum, they are up 40% and 70% year-to-date. Also your resource companies, BHP Billiton is up 20%, Anglo American up 19%, South32 up 12% and then we haven’t even discussed Naspers, which is up 18%.

So we do still find opportunities. You know that is the beauty of the South African equity market. There is always somewhere to go, whether the rand gets stronger or weaker and given that we have got exposure to big, global industrial companies, which gives you some rand hedge characteristics, you can benefit from that.

Then that whole China story that everybody is waiting for the China stimulus to start kicking in and that is why these resource stocks are doing so well because supply/demand dynamics, the free cash flow profile of these businesses look quite healthy.

Lindsay Williams: The commodity story is very interesting indeed because, with Impala, I think it was in October last year, which is the example I always use because I know you increased your stake. Investec Asset Management as a house increased its stake because I saw it on the Stock Exchange news service about 3 or 4 weeks ago and the thing just kept on going up after that announcement. So well-done on that but it almost seems as though this is the beginning of something. It is not just like a gold share that you trade in and out. This could be a fairly decent cycle upturn here.

Hannes van den Berg: Yes, commodity stocks are volatile. They are different animals and then, when you look at platinum and gold stocks, they are even more racy. So, yes, there is definitely a shortage or a deficit when it comes to palladium and, with industry standards and emission control and the focus on real world driving after the VW scandal, you don’t want to be an engineer that approves the loadings into the auto catalytic converters of vehicles at the moment because you do know that there is a lot of focus on how emissions and emission standards get controlled and managed by companies.

So you tend to add a bit more just to make sure that you have passed all the tests. China definitely ignored a lot of this in the past and there is a very big focus from the Chinese side on emission and the loadings of the vehicles that they use in China. Europe is also increasing their standard.

So, yes, there is definitely now the palladium price has rallied, the platinum price has lagged but the basket that these companies are exposed to (so that includes rhodium as well) in rand terms have really gone up a lot and that has given a lifeline to these companies. Impala is going through a restructuring (restructuring some of their leases) and that gives them even more optionality. So they are managing their costs quite well whilst their margins are improving because of the spot commodity prices that they are benefitting from and the supply/demand dynamics, especially on the demand side, are looking more and more healthy.

Lindsay Williams: Going into Q2, how are you positioned as Co-Head of SA Equity and Multi-Asset?

Hannes van den Berg: In our balanced products, we still put ourselves up to make money for our clients. We have still got a lot of equities in the balanced portfolios. We do have small exposure to the SA Inc. story through some of the banks and here and there a retailer. We do own some SA bonds because we think that it is pricing in a lot of risk. It is almost like a negative outlook as well as a downgrade is priced in already into the South African bond market but, given the balance of the equity exposure, we like the rand hedge stocks. The fundamentals for a stock like British American Tobacco are looking a lot better and we have got a lot of resources.

I think we are very much overweight relative to most others and obviously then to the index as well in the resources space because we don’t think the world is an awful down scenario and that growth should start to bottom and recover globally, strong US, China starting to stimulate and that is the [M1] supply of money starting to turn positive there. We are a bit concerned about Europe and they have to deal with a few political issues and that also we hope will sort of be more neutral and become tailwinds going forward relative to the headwinds we saw last year.

I think the biggest change from Q4 last year to where we stand today is that global central banks took their foot off the brake a little bit. Lower inflation potentially gave them an excuse to do so. So companies or corporates in the US don’t have to fight the Fed with this hiking interest cycle any more. So there is this whole being patient and more flexible about interest rates in the run-off on their balance sheet and that, bringing that back to our South African local equity market, gives us opportunities with bond yields. The US 10-year bond yield is not above 3% any more. I think it is at 2.4 where we stand today. It might even be lower. That gives us opportunities. In a lower interest rate environment, defensive stocks, high multiple stocks tend to perform well and the bottom-up fundamentals tie up with a lot of that.

We are still in an environment where, if growth starts to recover, cyclical stocks like resource stocks would do well. We have recently seen the biggest stock on our index, Naspers, showing more intent into unlocking their discount on their holding company level. So that gives us opportunities and we feel we are correctly positioned for the rest of the year and, should things start to recover in South Africa, if we can keep the lights on and we can get through the election, then we stand ready to go back into some of the South African local economy opportunities.

Lindsay Williams: Very good. Hannes, thank you so much for your insight. That was Hannes van den Berg, who is the Co-Head of SA Equity and Multi-Asset at Investec Asset Management in Cape Town.

Hannes van den Berg
Hannes van den Berg Co-Head of SA Equity & Multi-Asset, 4Factor

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