Where SA’s best-performing fund managers are placing their bets

Janu-worry — an apt way to describe the tepid performance of various South African asset classes last month. And asset values seem to have gone in the same direction as last year: downwards.

Amid global geopolitical turmoil — with conflicts in Ukraine, Gaza and the key Red Sea shipping zone — the South African government isn’t doing much to improve domestic investment sentiment. The ports are a shambles, local government infrastructure is on the brink of collapse and power outages stifle meaningful growth and fixed capital investment.

But what helped prop up returns was the government’s decision in January 2023 to allow funds to shunt a greater share of money offshore, up to 45%. And the money flowed out of the country as if a tap had been opened.

You can see why. Locally, the FTSE/JSE all share index contracted 6.6% over the past year, with the Resi-10 index down 27.1% as global resource prices tanked. The rand lost 8.7% over the past 12 months, both due to South Africa’s meagre economic growth and the US Federal Reserve’s hawkish stance on inflation.

Pallavi Ambekar and Neill Young co-manage the R31.5bn Coronation Balanced Defensive Fund, which was one of the top-performing multi-asset low equity funds last year, delivering a 14.9% return after fees.

Ambekar says they’ve allocated more to offshore equities than local ones.

“The changes to regulation 28 [of the Pension Funds Act] came at an opportune time,” Ambekar tells the FM. “During 2022, global stocks and bonds derated as inflation accelerated.”

That meant local fund managers could move money offshore, at a time when there were still some bargains in foreign assets — and this paid off in spades, as stocks in developed markets rallied during the year.

The Nasdaq 100 index gained 38.6% over the past year, the S&P 500 rose 17.6% and even the Dow Jones Industrial Average grew a healthy 11.9%. This was far better than emerging markets, where things were dire: the MSCI emerging markets index lost 5.6% over the past 12 months, with China a big drain on sentiment.

Betting on AI

The FM tracked where the money was made in these funds, and it became clear that the best-performing funds chose themes much in vogue.

For instance, Granate Asset Management, whose flexible and balanced funds were among the top 2023 performers in their respective classes of multi-asset funds, is taking advantage of the international boom in AI.

We are comfortable to have a large exposure to offshore assets. We have a large exposure to semiconductor producers

—  Henno Vermaak

“We are comfortable to have a large exposure to offshore assets,” Henno Vermaak, who co-manages the Granate Flexible Fund with Paul Bosman, tells the FM. “We have a large exposure to semiconductor producers.”

As AI rocketed last year, semiconductors — an essential component of the hardware — were carried along in the slipstream. Chipmakers will continue to reap the benefits of AI’s expansion.

Taiwan Semiconductor Manufacturing Co (TSMC), the world’s largest maker of third-party semiconductors, rose 16% over the past year and is trading at about TW$628 (about R374) in Taipei. The stock constituted 5.1% of Granate’s flexible fund and 5.2% of its balanced fund at end-December.

“TSMC has a virtual monopoly on the latest generation of semiconductors,” says Vermaak.

Micron Technology, which manufactures computer memory and data storage, is also a favourite of Vermaak and Bosman’s. The stock gained 37% over the past 12 months to trade at $85 apiece. “As you know, the more data there is, the more memory is needed to process it,” Vermaak says.

Granate is also positive about the manufacturers of equipment used to make semiconductors. Here, Vermaak says California companies Lam Research and Applied Materials are their top picks. Lam has gained 55% over the past year to trade at about $825 a share, while Applied Materials rose 38% to $164.

“The more chips are needed, the more these machines that produce the chips are going to be in demand,” he says.

Bosman says their investment strategy rests on the trust they have in these companies’ competitive advantage. “You need to be very certain of your competitive advantage,” he says. “If it is well priced, we buy and hold it.”

TSMC fits the bill, thanks to its virtual monopoly on the latest generation of chips.

Roger Williams, who manages Centaur’s flexible fund, is also positive about the surge in AI. However, his fund’s 25% allocation to offshore equity is a little shy of Granate’s allocations of 28% in its balanced fund and 32% in the flexible fund.

For Williams, whose R5.1bn fund has its biggest allocation, at 6.5%, in the Dutch-listed Exor — which owns stakes in, among others, Ferrari, Stellantis and Philips — it is important to keep the fund’s benchmark in mind when deciding whether to allocate funds locally or offshore.

“For the past six years, the flexible fund’s benchmark hasn’t changed,” he tells the FM. “And [it] guides our asset allocation.”

Our client base is generally South African savers whose liabilities are denominated in rands. That’s in part why we are South African-centric

—  Roger Williams

Williams’s fund has outperformed its benchmark — made up 60% of the FTSE/JSE’s shareholder weighted all share index, 20% of the MSCI world index and 20% of the SteFI index — by almost 400 bps on an annualised basis since inception almost 20 years ago. That’s a return of almost 16% a year, net of fees.

“Our client base is generally South African savers whose liabilities are denominated in rands,” Williams says. “That’s in part why we are South African-centric.”

It’s a salutary lesson in how South African funds can still invest globally, boosting their overall return for pensioners and savers.

The Centaur fund had a large allocation in Dell, at 5.7% of the fund, at end-December. “Dell is the market leader and growing market share consistently,” Williams says. The company, whose share price more than doubled to $82 over the past year, supplies computers, monitors and AI servers.

“We have taken profits [from our holding] because of its exceptional performance last year,” says Williams.

Semiconductors and AI will remain a key investment theme this year, even if it’s unclear whether the easy money has already been made.

Banking on South Africa

Turning to where the top-performing fund managers are seeing growth in the dampened South African market, the favourites still include banks and industrials that allocate capital prudently.

For instance, Ambekar and Young have a positive outlook on Standard Bank, FirstRand and Richemont.

Coronation’s balanced defensive fund returned almost 15% last year compared with its benchmark of CPI-plus-three.

“In South African equities, the contributions came from the banks — Standard Bank and FirstRand,” says Ambekar. “Our selection in South African equities, despite a very mediocre performance from the overall South African market, were very good last year.”

Standard Bank gained 8.5% over the past 12 months to about R198.12, whereas FirstRand increased 1.6% to R67. Standard Bank traded at a historic p:e of 8.4 on February 1, and a dividend yield of 6.9%. FirstRand traded at a p:e of 10.3 and dividend yield of 5.6%.

Those relatively low valuations of South Africa’s two largest commercial banks by assets compares with US-listed JPMorgan Chase’s p:e of 10.7 and Citigroup’s p:e of 13.8.

Centaur’s flexible fund, on the other hand, has one local bank among its top 10 holdings: Absa. “We think Absa is undervalued,” says Williams. “We like their African exposure, which is about 30% of earnings. When interest rate cuts start, it is the bank you’d want to be in.”

The lender is trading at a historic p:e of 6.7 and a dividend yield of 8.1% — something Williams thinks is “very good value”. Absa’s share price declined more than 20% over the past year.

Granate, however, remains positive about the growth prospects of Capitec — the biggest holding in the flexible fund and the second biggest in the balanced fund. The stock gained 9.7% over the past 12 months.

“Capitec is well positioned in the market it plays in,” says Vermaak. “They have large market shares: about 25% of unsecured loans, 24% of point-of-sale card machines, and 20% of funeral policies.” At its interim results presentation, Capitec CEO Gerrie Fourie said the bank had 21-million customers — equal to a third of South Africa’s population.

In addition, Vermaak says Capitec can broaden its life insurance market: “Now that they have a life insurance licence, they can opt to sell life policies too.”

However, Capitec’s share price is seen as expensive; it trades at a historic p:e of 24 (almost thrice that of Standard Bank, Africa’s largest lender) and a dividend yield of 2.1%.

“Conventionally, investors reckon Capitec is too expensive to buy,” says Bosman. “But there remains a huge market where the bank can jump in. It’s difficult to get a better ‘idea’ in South Africa than Capitec.”

The best growth picks

On the local industrials side, views differ on the best picks.

Williams is positive about Aspen. The pharmaceutical company has spent billions in broadening its footprint into South America, Europe, Australasia, Asia and the Middle East.

“There is scope for [Aspen] to outperform in the coming years,” Williams says. “At Aspen we’re looking at their growth initiatives to start unwinding and we’re looking for returns — off a relatively high base — of 15% a year.”

Williams expects this unwinding to take place over the next two years, with Aspen benefiting from the large contribution — 75% — to revenue from its offshore business. The stock is trading at a p:e of 13.8 and dividend yield of 1.7%. It gained 30% over the past 12 months.

Bosman, on the other hand, is positive about leisure and gambling company Sun International. “Sun has a competitive advantage in the licences it owns,” he says. “In addition, the company has grown its market share among suburban consumers.”

Sun’s valuation, according to Bosman, is attractive. The stock “is available at a dividend yield of 10%” and a p:e of 13.8. With Sun now in the home stretch to acquire competitor Peermont for R7.3bn, and bar any government meddling in the process, the dividend will likely be sacrificed.

As Sun indicated in December, it is “expected to rapidly degear, allowing the combined group’s equity value to significantly increase”.

Bosman also thinks the dividend will likely be sacrificed to pay down debt. But that isn’t his biggest worry: “The issue is the Competition Commission’s decision.”

Peermont’s attraction for Sun lies largely in its 11 properties — including Emperors Palace — and its online betting platform, PalaceBet.

Whether Peermont is a good capital allocation bet remains to be seen. At least the market likes the idea, pushing Sun’s share price to above R42 recently, or up 13% over the past three months.

Then there is Afrimat, known for wise capital allocation decisions. This has stood the company in good stead with its share price up 12% over the past 12 months and the stock trading at a historic p:e of 13.9; its dividend yield is 2.3%.

“Afrimat’s management team has diversified the company over the years,” says Vermaak. “They have a wonderful culture. They’re primarily capital allocators and secondarily miners; and accidentally they’re also good miners.”

Afrimat, under the leadership of CEO Andries van Heerden, has diversified away from bulk building materials, such as aggregate concrete, to mining iron ore, anthracite, silica and soon phosphorous, manganese and rare earths.

“We’re very excited about Afrimat,” says Vermaak, whose flexible fund counts the stock as its second-largest holding after Capitec.

When to back property

For those brave enough to venture into listed property, the outlook for the sector is snugly tied to interest rates.

“The largest headwind for local listed property is interest rates,” says Yusuf Mowlana, co-manager of the M&G Property Fund, which returned 13.1% last year, making it one of the two top-performing property funds in South Africa and the No 1 fund over three years.

Mike Flax, who helps to manage the Visio BCI South African Property Fund, which returned 14.2% last year, agrees: “As interest rate expectations turned over the past couple of months, property has outperformed general equities.”

Both Mowlana and Flax prefer property companies that are well diversified geographically.

“We like offshore exposure and higher yielding mid-cap South African-centric companies,” says Mowlana. The fund’s largest holdings at end-December include Nepi Rockcastle (18.6%), Growthpoint Properties (15.4%) and Redefine Properties (10.8%).

It’s especially locally listed property companies with exposure to Eastern Europe that draw attention from investors.

“In Eastern Europe … GDP growth continues unabated,” says Flax. The fact that shopping centre floor space per capita is still low in this region is boosting sentiment in companies operating there.

But there’s far less optimism about property companies that are focused solely on South Africa.

“We’ve stayed away from South African real estate,” says Young. “We see better risk-adjusted returns from South African equity in general. The earnings of South African real estate companies continue to be under pressure as there is still a huge oversupply of office space.”

Ambekar adds: “There is also pressure on earnings from electricity and municipal tariff increases.”

Bosman shares the scepticism: “Property doesn’t have a strong competitive edge and is driven by emotions and cycles.”

Reduced risk

But there are even less risky ways to make sizeable returns.

With South African government bond yields still delivering real returns — the 10-year debt is yielding close to 10%, or still more than war-torn Ukraine’s roughly 8% — many local funds are sticking to debt with a shorter maturity.

This is due mainly to uncertainty on how the National Treasury will balance its budget this year amid lower metal prices, stifling electricity shortages, and an unyielding lack of jobs, resulting in a growing social grants bill for the state.

To compound the outlook for government bonds, interest rates in developed markets seem set to remain higher for longer. Late last month the Fed kept the US interest rate on hold, a decision followed by the South African Reserve Bank last week.

With inflation decelerating to 5.1% in December, according to Stats SA, compared with 3.4% in the US, the Bank is now running a real interest rate of 3.15% compared with 1.85% in the US.

Despite the attractive yields offered on government bonds with a maturity of more than 10 years (an average of 11.45%, according to the Bank), investors are more comfortable holding shorter-dated debt.

“We are very comfortable with our holdings,” says Ambekar. “We hold shorter-dated debt with an average maturity of about four years. The yield on these bonds meets our fund’s benchmark of CPI plus three.”

Williams is a little more daring. “We are more on the short side of the yield curve,” he says. “The average maturity is around eight years.”

Centaur is “a little concerned about the fiscal situation in South Africa”, he says. “That may change after the budget speech, and we may move out on the yield curve then.”

But as Flax explains, once interest rates start to decline in developed markets, “investors tend to panic and search for yield”.

That search may just lead them to South African assets — especially equities. And this is especially if those local companies can benefit from overseas markets.

As Ambekar puts it: “The South African equity market is attractively valued. Many of the stocks are global-facing businesses.”

Many of the experts who shot the lights out last year seem clear that there is value in local assets; the question is when this will be unleashed.

While greater offshore exposure helped funds last year, as US stocks surged, few funds are now maxing out their 45% overseas limit — which suggests they’re keeping their powder dry for a South African equities recovery.