Flattening the curve in South Africa

March 24, 2020
Victoria Gorman, Laurium Capital
Dear Investors,

We applaud the decisive and tough measures announced by Mr Ramaphosa last night for a 21-day national shutdown in order to limit the rapid spread of Covid-19. While this action will have far reaching economic and social costs, we believe it is in the best interests of the people of South Africa and the economy long term.

What we don’t know

Current conditions change rapidly, and so it is difficult to predict how the situation will evolve. Forecasting macro outcomes is challenging at the best of times, and almost impossible under these circumstances when the range of outcomes could be so diverse. We don’t know exactly how long this will last or when and what shape the recovery will be. We also don’t know when the market will bottom, but a lot of pain has been taken already.

What we do know

The psychological and social impact of isolation will be challenging for everyone. The income and asset destruction caused by Covid-19 and the response of governments worldwide to contain it are unprecedented and the consequences will be far reaching for some time to come. Despite interventions by central banks to attempt to stimulate their economies, we anticipate that a global recession could be on the cards.

We know that equity markets collapse regularly for different reasons. Equity markets have been dealt a severe blow, with the FTSE/JSE Capped SWIX Index down -36.6% for the year, at the levels last seen in 2013, and major world indices down over -30%. A review of the 160 stocks on the All Share Index over the last 52 weeks, will show that ALL stocks are down, with declines ranging from about -99% to -10%. South African companies are trading well below the 2008 Global Financial Crisis levels and many offer dividend yields in excess of 10%.

We also know that markets recover after these collapses, and the worst thing that you can do is cement your losses by panicking and exiting markets completely. The seismic moves have left many dislocations between stocks that present significant trading opportunities with considerable upside. Despite how despondent many people may feel now, in five years’ time it is highly likely that this would have been a correction in the long-term chart of asset prices and we will all be back to our normal routines of working, shopping and enjoying social gatherings with family and friends.

Staying true to your objectives and philosophy

Long term investors need to stay true to their long-term objectives. Now is the time to remain calm. Following the sharp pullback in markets we believe there is great potential for share prices to rebound strongly in the coming months. Now is not the time to disinvest nor hoard cash.

As portfolio managers, it is critical to remain true to our investment process and philosophy, and to be rigorous and disciplined in evaluating the companies that we assess and the portfolios we manage for our clients.

Our portfolios have not been immune to the market sell-off, but we believe that the diversification across sectors and assets in our multi-asset portfolios goes some way in managing the risk of our portfolios.The current global market situation is fluid and so we are still analysing the longer-term potential impact Covid-19 will have on our investable universe.  We do believe this is a buying opportunity for the companies we own in the portfolio today.  Valuations were cheap before this crisis with many companies trading on decade low valuations.  The crisis has exacerbated this, and valuations are even cheaper. Some companies will not survive, but for many other companies we think this sell-off presents a very attractive buying opportunity.

Portfolio Positioning

We have been trimming some positions that have held up well relative to the rest of the portfolio, with the view to adding to these positions that have taken more pain and offer better value or are more defensive to the impending shutdown and recession.

In terms of current positioning in our multi-asset portfolios, we are underweight equity and specifically SA Inc stocks. Conversely, we are significantly overweight the fixed income and cash (mostly SA) component of the portfolio and underweight our base case for property. With the weakness in global equity markets we have added to the offshore S&P500 equity component of the portfolios. We are looking to increase our equity exposure further, both domestically and offshore. We also believe that South African bonds look very attractive, with longer dated bonds yielding 14%!

We increased our position in MTN where risks around their Nigerian and Iranian operations are overly discounted and where we see the balance sheet as able to withstand limited repatriation of profits from these regions. We funded this through selling credit retailers which are likely to experience significantly reduced sales and collections as a result of store closures, as well as a fairly constrained consumer in the long term. We also added to our position in Transaction Capital – a business which we feel has incredibly strong moats and is well placed to grow earnings in the medium to long term.

Within our hedge funds, we have reduced our long and short positions across the portfolios, resulting in lower net and gross positions in all cases. This reduction in nets partly occurs naturally as the market suffers a drawdown and our equity exposure reduces. We have trimmed exposure to global consumer, resources, financials and small caps. We have covered shorts in positions where we feel that valuations have become too attractive.

In our upcoming quarterly communication on all of our funds, we will provide more details on individual fund positioning, and our outlook for the markets.

To all our investors and your families

Above all we would like to wish good health and calm in the coming weeks. As none of us have been through anything like this in our lifetime, it is difficult to know what to expect or how we will cope with the isolation. It is an unnatural situation that will require us to adapt our behaviour. However, it is not forever and the better we enact the President’s request, the more hope we have in flattening the curve and making it out the other end with the lowest possible mortality rate in our society. We will be playing our part at Laurium, with all of our team working remotely and connecting via our Zoom technology which we have been using for the past 3 years between our colleagues in Johannesburg, Cape Town and London. Enjoy the time with your loved ones and look after those who are most vulnerable.

The Laurium Capital Team

For more information on South Africa and the Coronavirus click here

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