As the year draws to a close, I reflect on recent headlines:
“US treasury is facing worst annual returns since 1788”
“The FTSE/JSE All Share closed last week at 73 151.38, increasing by 0.81%.”
“South Africa’s annual inflation rate increased to 7.6% in October from 7.5% in September, above market expectations of 7.4%.”
“Stocks and commodities prices are expected to decline this week as protests erupted in major Chinese cities against the country’s strict zero-COVID policy”
“The South African Reserve Bank raised rates by another 75 bps to 7% at its November meeting.”
If you are feeling despondent, you are not the only one. There has been nowhere to hide this year. This year was meant to be a great year for South African equities as we were at the bottom of the commodity cycle. But the war in Ukraine happened and investors withdrew their funds from developing markets to developed markets. Bonds, usually are a safe place to hide when the stock market is on a downward trend, but this has not been the case this year. We also saw inflation spiral out of control in the US and UK with US inflation increasing to 7,7% for the 12 months ending October 2022.
Markets are driven by fear and greed and the quickest way to erode wealth is to sell when markets are down and buy when they are expensive. When markets are this erratic, we can succumb to emotions and can act out of fear or greed and do terrible damage to our wealth and investment portfolios. Investing is built on three pillars: 1) appropriate asset allocation and diversification 2) time in the market or compound interest and 3) market psychology and unforeseen market conditions.
When reviewing our investments it is important to remember that year-to-date or 1-year return numbers is only one cycle around the sun. In a 10-year investment horizon, 1 year is 10% of the investment time horizon. Time is relative. If however funds are needed in the next 12 months, then the 1-year returns are important but if the funds are only needed in 7 to 20 years’ time, then the 1-year return numbers is relative. Of course, the losses need to be made up the following year, with compound interest, but to disinvest, would be to realize the losses.
Asset class diversification
Asset class diversification aims to balance risk and reward by apportioning a portfolio’s assets according to an individual’s goals, risk tolerance and investment horizon. This is achieved by apportioning the capital into different asset classes’ i.e. equities, property, bonds or cash. Our investment policies incorporate this principle on an asset class and fund selection level.
Time diversification
We match the capital, cash flow requirements, required returns and risk profile of a portfolio by aligning the exposure to certain asset classes to an appropriate investment term to ensure that investors do not have to move in or out of an asset because of short-term movements. This assists in managing investor behaviour and reduces the risk of market timing.
Fund diversification
By combining fund managers with different styles, strengths and investment view the risk of a portfolio can be reduced. This can improve the risk profile and potentially lead to a more stable return profile.
Cost efficiency
Investment management costs have an impact on the long-term returns of a portfolio. We aim to achieve “value for money” and are prepared to pay higher fees if the returns are warranted. The aim is to achieve a good marriage between fees and returns.
This past year has been a crazy year where market psychology and unforeseen market conditions have both come into play. These include the Ukraine war; China closing its borders thereby impacting trade, and the impact of non-GMO and ethical food sources have had on the supply side of food inflation. These have all impacted local and offshore stock markets.
At Quintus Wealth we believe in appropriate asset allocation and diversification; time in the market and not responding to unforeseen market conditions. We advise our clients to sit tight during these unforeseen market conditions and to know that “this too shall pass”. In times like these, to do nothing is often the best and wisest advice.