The grand rand debate: the long and the short of it

It almost seems part of our middle class heritage to talk about “taking money offshore”. Truth be told, it is not that hard to see why many South Africans feel nervous about having all their savings tied up in the ‘Beloved Country’. But moving money abroad is so much more complex than a bet against the country’s leadership.

It is a many-layered decision and the old saying: ‘Fools rush in where angels fear to tread’, comes to mind. As with all your investing decisions, it should be approached as unemotionally as possible and consider a wide array of factors.

Living in South Africa often feels uncomfortable, more so for those who consume the daily news flow or get caught up in the public discourse (or just watch ‘Carte Blanche’ on a Sunday night). The relentless reporting of our failures and differences creates a sense of impermanence, as though the weight of historical injustices and wealth inequality, our economic dead end, the lack of governance and accountability, the institutionalised plunder, the flight of skills and capital and the absence of any kind of social contract will eventually crush us.

Investors are further unnerved by the volatility of the rand and our government debt being relegated to “junk” status. They baulk at the idea of the Reserve Bank losing its independence, or re-introducing prescribed assets in pension funds. State employees worry that the government will squander their pension savings on unprofitable investments that do little beyond propping up inefficient state-owned companies, such as Eskom and SAA. Blue collar workers see compulsory preservation as a nationalisation of their benefits.

Add in doubts about future economic policy, and it’s no longer a question of seeing the glass half empty, but seeing the glass at all. Little wonder then that investors are forever thinking about taking their money offshore. But as intuitive as that seems, you still shouldn’t lose sight of basic investment principles, or you may do your finances more harm than good.

A better return is not guaranteed

You may be tempted to invest overseas simply to improve your return. Factoring in the kicker from inevitable rand weakness, you would expect to do a lot better than in the local market.

Except you wouldn’t have in the past. Over five or ten years, local and international returns vary, but longer term, the two converge; in rand, the long-term real (after inflation) return of the JSE All Share Index has been around 7% pa, for international shares it is around 6.5%.

That may change in the future – nobody knows – but there’s a strong argument it won’t. The reason is that, ultimately, everything comes out in the wash. The long-term weakness of the rand against, say, the US dollar, is indicative of the inflation differential between the two countries.

For example, since the beginning of 1990, the rand has lost, on average, 5.7% pa against the US dollar; the inflation differential over that period has been c.5% pa.

But long-term, the share market is also an inflation hedge: the rising price of goods and services ultimately reflects in inflationary revenue growth and share price appreciation. Higher local inflation eventually translates into higher nominal growth for our shares.

This also puts paid to the argument that you need to invest offshore, to hedge out local inflation.

Match your assets to your liabilities

Return expectations aside, you should match your assets to your liabilities. Not just in respect of your investment time horizon and your personal circumstances, but also currency-wise.

If you foresee a major expense in another currency then yes, build an asset in that currency. If you hope to emigrate or retire overseas, or plan a foreign education for your children, you won’t want the risk of the exchange rate sabotaging your goal at a future date.

This also offsets ‘regulatory risk’ since our exchange control laws are not set in stone and future restrictions might interfere with your plans.

Should you decide that building an offshore investment is the right course for you, define the purpose and term of the investment, because that should help you determine the amount, asset classes and currency.

Choose the level of share market exposure that is appropriate for your “overseas” time horizon; leaving your money to idle in a low-interest offshore bank account for 20 years will not serve you. The choice of currency also matters because even hard currencies go soft on each other. If you hold British pounds, for example, but plan to send your child to a US university, then your liability has increased 30% over the past three years.

By transferring your money abroad at regular intervals, you can reduce your forex ‘timing risk’. Use a rules-based strategy because there is just no way to predict what the rand will do next. A formal approach ensures you don’t fall prey to fear and greed. A less structured approach can see you lock in an unfavourable exchange rate, or lead you to forgo a rate will look like a bargain next year.

Can you really afford the ‘insurance’?

But rarely do people take money out of the country for a defined purpose. Rather, they see it as “insurance”. If you believe that South Africa will turn into a ‘failed state’ with a worthless currency and weakened property rights, then do move your discretionary financial assets to a safe-haven.

But know that, on average, this type of insurance is a losing proposition – it usually costs more than it pays. By exporting your money, you make it unavailable for local use. You probably won’t want to bring it back, and, if you do, you may not be able to, if you took it out unofficially. Without a formal exit strategy – that is, the right and the ability to settle elsewhere – there is a good chance you won’t ever be able to access it. So this is not productive use of your money.

Currency diversification is important, but so is re-balancing your portfolio.

It is good to spread your investments far and wide so they aren’t all at the mercy of one unfavourable development. Not just across securities, but also across industries, asset classes, currencies and geographies.

As our share market is quite narrow (160 or so investable shares) and the size of a few dominant counters presents concentration risk, it makes sense to include offshore equities in your portfolio. This also gives access to key growth sectors such as Tech, Biotech and Pharma, which are underrepresented locally.

But to reap the full (return-boosting) benefit of currency diversification, you need to rebalance regularly. In the context of your overall portfolio, rebalancing requires you to sell some of the investments that have done well (locking in profits) and buy more of the laggards (locking in value).

Invariably, this will require you to buy rand after rand weakness and sell after a recovery. At these junctures our inclination is usually to do the opposite, or nothing at all.

Apart from the emotional resistance, you may not want the administrative hassle or the potential tax consequences of realising a forex capital gain. Our tendency is to rather ride out the cycles. From that perspective, relocating your money offshore is not optimal.

Fortunately, you don’t need to do that to achieve currency diversification. The JSE is home to numerous secondary listings of international companies, and to shares that earn at least some of their revenues in foreign currencies. Almost half the total earnings of JSE-listed companies benefit from a softer rand. By owning the local market, you are already partially hedged against rand weakness.

Also, your retirement fund probably makes full use of the 25% offshore allocation permitted by the Reserve Bank. Plenty of multi-asset unit trust funds do the same. This convenient short-cut helps you avoid the administrative headache of investing abroad yourself, it’s probably cheaper, and it comes with disciplined re-balancing. And your offshore investment allowance is not affected.

If you want more than 25% offshore exposure, a local low cost international index tracker will give you quick, low-cost access to those markets, again not at the expense of your offshore allowance. As an added plus, you have not immobilised your money – you won’t have the same qualms about cashing out you would if you transferred your money overseas.
Don’t go overboard, though. If your liabilities are ultimately in rand, then having too much money offshore exposes you to potential volatility nearer the time that you want to cash out. If that is a concern, think about bringing back your assets in a phased and disciplined way.

Short-term rand-trading is not recommended

Selling rand may seem like a one-way bet, but it’s not really. As locals, we tend to get caught up in our political setbacks, but there are also cyclical factors at play. The rand is very liquid and foreign investors use it as a proxy to trade emerging market sentiment, or the outlook for commodity prices. Either can be quite fickle.

Sentiment is currently quite positive, providing enough rand support to negate our credit downgrade earlier this year and confound the experts. Whereas some commentators anticipated R20/$ by year-end, here we are at R13/$. It may still happen, of course, but, then again, it may not.

But it’s hard to rise above the prevailing sentiment, even for investment professionals. Some readers will remember the collapse of the rand around the time of the Dotcom crash (2000-2002). In the space of two years, we went from R6/$ to almost R13 to the dollar. At the time, a snap poll among former market analyst colleagues suggested we would not see R10/$ ever again. Only three of the 17 people around the table that day thought otherwise.

Two years on (Dec 2004) the rand was back at R6/$. By then the JSE was soaring, buoyed by China and the commodity boom. Yet internationally, some of the major stock markets flatlined for years on end, including the US. The opportunity cost for money leaving the country after the rand collapse – flat returns magnified by currency losses – was enormous. Some eventually capitulated and brought their money back … just before the global financial crises sank our currency again.
Although the rand has weakened considerably since 2013, this was overdue, as it had effectively traded sideways the prior 10 years.

Another point of contention is what you are going to do with the forex once you have it.

The problem with making offshore bets is that you need to take a view not just on the rand but also on overseas markets. You will rarely have an obvious situation where the rand appears overvalued but international markets appear undervalued. Given that the rand has been as low as R17/$ in the last two years, the current rate (R13/$) looks attractive, but valuations in foreign equity markets not so much. This may leave you with no alternative but to park of your money in offshore cash. That will not serve you long-term, though.

Bottom line

Few other nations seem quite as pre-occupied with expatriating their savings as we are, except maybe the Russians and Chinese. Perhaps it’s a shared fear of wealth redistribution in unequal societies where property rights seem vulnerable. But irrespective of your personal motivation, the decision to invest offshore should be subject to the same intellectual rigour as your other investments. Sentiments should not come into it.

Rather than viewing such a move in isolation, act in the context of your life’s objectives and your overall portfolio. The normal rules still apply: invest with the goal in mind; keep it simple; look for a low-cost solution; don’t play at market timing; and optimise your outcome by occasionally rebalancing. Above all, use the official channels, so that you can manoeuvre freely, and sleep easy.

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The investment objective of the STANLIB Global Property Feeder Fund is to maximise long term total return, both capital and income growth.