25 April 2016
The recent volatility of the rand, with experts predicting further weakness, as well as extended low growth in local markets, has led many investors to cast their eyes offshore. No investment should be made on sentiment or emotion alone, so what exactly constitutes a considered approach to offshore investing?
“Short-term currency fluctuations should not be the primary reason behind a decision to invest offshore,” warns Francois van der Merwe, Head of Offshore Investments at Novare. “Most currencies, particularly those in emerging markets, can prove to be volatile over a short time horizon. Attempting to profit from short-term swings in the exchange rate could prove to be a costly mistake.”
“However, when an investor contemplates the longer term outlook for the exchange rate, it certainly becomes an important consideration in an investment strategy. If an investor anticipates the Rand to weaken over the longer term, then it would be beneficial to have offshore exposure in one’s portfolio.”
Additionally, offshore investing needs to be weighed up against the value that can be had in the local market. If local opportunities for growth abound, then these need to be weighed up against offshore opportunities that may be more costly to invest in. However, this does not seem to be the case currently.
“Given the long-term structural challenges, such as unreliable electricity, curbed government spending and consumer spending that is under pressure, it is reasonable to expect local growth to remain low for some time into the future,” says Van der Merwe. “In the absence of much-needed economic reforms, the structural challenges faced by South Africa will continue to act as a headwind to economic growth.
“This is echoed by the IMF’s consecutive downward revisions in the GDP growth forecasts for South Africa. It must be noted that slowing economic growth is not just a local phenomenon. Despite this, on a comparative basis, growth outlooks in various regions remain considerably stronger than the local landscape.”
In addition to accessing strong-growth markets, offshore investing also offers diversification benefits. Once the door is opened to offshore investments, an investor’s opportunity set expands drastically.
Currently, there are just over 400 shares listed on the main board of the JSE, whereas the latest data from the World Bank shows that there are more than 45 000 listed companies globally.
“In other words, for every locally listed company, investors could gain access to more than 100 internationally listed companies – a ratio which is quite remarkable,” says Van der Merwe. “Investors are also able to gain exposure to larger corporate and sovereign bond markets, as well as money market instruments that cannot be accessed locally.”
Offshore investing also offers opportunities beyond a well-diversified portfolio. It allows for liability matching in a different currency. For instance, if you have a child who might study abroad, you can start saving towards it in the relevant currency. If one attempts to save in rands and translate a lump sum at a future exchange rate, it could prove insufficient solely due to an unfavourable exchange rate at that point in time. Consistent savings earn interest in the foreign currency and smooths out fluctuation risk over the long term.
As with any investment, offshore investing does bring with it its own set of risks. These risks can be managed by the prudent investor and their financial advisor.
“The risks associated with allocating assets offshore are a function of each investor’s own investment goals. If an investor was to repatriate all offshore assets at a certain future date then an investor would be taking on currency risk. However, this could potentially be to their advantage if the Rand depreciates. If a portion of an investor’s future expenses is denominated in foreign currency, then some risk would be taken off the table.
“When considering offshore investments, it is arguably even more important to ensure that an investor understands the risks and potential rewards of investing into any given fund. Due to the vast number of funds available to investors in the international investment arena, there is a very real risk that investors select either an inappropriate fund or one that is less than optimal for their own purposes. Investors should be careful of not merely chasing strong past performance.”
Although Van der Merwe stresses that the optimal manner in which offshore exposure is obtained depends on the individual’s investment strategy or goals, multi-managed products unlock significant benefits. These include a broader reach across international capital markets, an ability to negotiate lower fees with underlying managers, due diligence on investment managers and their operational frameworks, access to world-class funds that may be closed to new investors, and a simplified avenue through which all offshore assets are managed.
“The process behind constructing multi-manager portfolios will vary by manager and mandate but there is likely to be similarities in each approach,” says Van der Merwe. “In a balanced offshore product, the manager will look at the strategic asset allocation as a starting point in allocating assets.
Considering the mandate of the fund, the manager could tactically position the portfolio to be more overweight in one asset class (or market) and underweight in another. Underlying investment managers who specialise in an asset class and market would then typically be selected to manage the respective allocations in the fund.
“The complementary managers would then be blended together in order to achieve the objectives of the fund. Multi-manager products vary in terms of their risk and return expectations and investors should bear this in mind when making investment decisions.”