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Investment insight: Resist temptation to quit equities

By Craig Pheiffer

Though the stock market remains bearish, the recent 12% recovery in the Dow in less than a week shows the dangers of being outside the market during such rallies.

We have resisted the temptation to cut the equity exposure further given the inherent value that our local market offers and the undoubted speed at which the market will turn once the bears have had their fill.

Asset allocations remain unchanged from July 2002, when SFPS down-weighted equities from 65% to 60% and up-weighted listed property from 10% to 15%.

The recommended weightings in the October Quarterly Review are equities 60%, bonds 10%, cash 15% and listed property 15%.

SFPS’s recommendation in June to increase listed property weightings proved prescient, as both property loans stocks (PLSs) and property unit trusts (PUTs) held up well in the face of market weakness and the 4% increase in interest rates so far this year.

The PLS index has lost 5,6% in 2002 but the PUT index has lost just 1% since the beginning of the year.

While higher interest rates will put some pressure on the property sector over the coming months, the higher yields offered by the listed property counters should ensure that the property asset class outperforms cash and bonds on a one-year view.

Hyprop was one of the property loan stocks highlighted in SFPS’s July Review of Investment Strategy. Hyprop appreciated 6% this year, with an historic yield of 14,1%. Thus, despite the rising pattern of interest rates and declining equity markets, Hyprop has managed to provide a positive return to unit holders so far this year.

PUTs have also shown stability in recent months. Grayprop, another counter highlighted in July, is up 4% so far this year on a historic yield of 13,6%. The examples of Hyprop and Grayprop serve to illustrate the point that listed property counters deserve an allocation in any investment portfolio.

The relatively high cash allocation of 15% is an ammunition store, ready to be used when opportunities present themselves. A lower cash weighting should only be considered when R153 bond yields trade above 12,00% (currently 11,9%) or should global equity markets return to more realistic valuations.

While bond yields are likely to remain under pressure given the possibility of another rise in interest rates before yearend, the longer term outlook for yields is healthier. Until there is greater clarity on the inflation outlook, SFPS is sticking to its 10% bond weighting. Within the bond component of the portfolio, it recommends reducing exposure from 40% to 30% in the R150 government bond, which has just a few years to maturity, in favour of a stronger weighting (from 30% to 40%) in the longer duration R153.

SFPS identifies a number of investment themes likely to dominate the equities market in the coming months. Those South African companies that are truly international should constitute a large part of the portfolio and should provide a significant hedge against the depreciation of the rand over time.

Given geopolitical uncertainties and strong demand for platinum counters, SFPS recommends a 10% equity weighting in gold and platinum stocks, with additional exposure to these sectors through mining financials. Their diverse mining interests and dual listed status leave them well positioned to benefit from global economic recovery. SFPS recommends an overweight position in diversified large cap industrial stocks, which should also benefit from a global recovery.

Sasol is another favoured stock delivering deliver record earnings, thanks to a weaker rand and higher oil prices. The current war premium in the oil price will dissipate should a war on Iraq prove to be brief and the currency may show some periods of strength but Sasol remains cheaply priced. An oil exposure is recommended for its long-term rand hedge qualities.

The outlook for the Construction & Building Materials sector remains positive with filled order books and the promise of earnings growth above the 20% level into 2003. An overweight position is recommended in this sector.

The overriding theme remains the longer-term requirement of the inclusion of quality rand-hedge counters and those stocks should be included in the portfolio wherever possible. While always important in the investment decision, dividend and interest returns should take on a greater significance during these turbulent times for global equity markets.

Craig Pheiffer is Chief Investment Strategist at Sasfin Frankel Pollak Securities. He can be contacted on Tel +27 (11) 883 2337 or by e-mail at cpheiffer@sasfin.com.

This article was adapted from the company’s fourth quarter Quarterly Review of Investment Strategy.

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The Big Change is a business strategy blog and newsletter published by Arthur Goldstuck, managing director of World Wide Worx, a leading technology research organisation based in Johannesburg, South Africa.

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