Sygnia's CEO on risks in equities, resources and why ETFs are the 'most expensive way of accessing index tracking'.
Ryk van Niekerk (RvN): Welcome to this Market Commentator podcast – Moneyweb’s series of interviews with leading investment professionals in the country. My guest this week is Magda Wierzycka, CEO of Sygnia.
Magda welcome to the show. We are currently seeing a very strong market and the JSE is touching record highs. How do you read the market?
Magda Wierzycka (MW): Well you know you can’t read it as anything else aside from the reaction to what the ECB has done in terms of their quantitative easing programme and the fact that the oil price has dipped. For those reasons, up again and inflation expectations have been scaled down and the timelines for the US Federal Reserve to increase interest rates have been pushed out to June 2015, but maybe even beyond that, depending on what happens in the US.
So on the back of the fact that you’re just making more liquidity available in the market again to literally replace what the US Federal Reserve has withdrawn from the market last year, you’re seeing this exuberance coming through. Is it justified by what is happening domestically, in terms of the domestic fundamentals – clearly not. You look at the South African economy relative to, and never mind the political situation, the economic situation is it really being affected in our stock markets now, but purely driven by international events.
RvN: But the local market has actually detached itself from local events. We are currently seeing some political turmoil there, the economy is really looking…staring down the barrel. How does this affect the mind-set of investors, especially South African investors…should they look at problems abroad or problems locally, which could impact the market?
MW: I think that given that this ECB QE program is going to continue for quite a while, it’s a fair assumption that the party in the South African equity market will continue, unless it’s something goes really wrong, politically or you know, we do have our electricity grid down for a couple of weeks then all better off. But an assumption that nothing tragic happens, you can bet on the fact that the equity markets will continue to have a good year. So if you are an investor that is looking for some kind of short-term trading opportunity, or one year out view, then you can afford to basically divert your attention away from the domestic economic conditions and just look at the international markets and see what’s happening in terms of money flows, interest rate movements and inflation internationally.
If, on the other hand, you are a long-term investor and you’re setting yourself up for anything longer than six to 12 months, then you can’t ignore what is happening domestically and then really you should therefore not be looking at South African equity markets, you should be looking at how much money can I place offshore to protect myself against depreciation of the rand. And that is a sensible well diversified strategy in order to diversify risk because we’re living through record high times of risk, there is economic risk, there is the risk of the US increasing interest rates, there is the risk of the rand falling out of bed, there is the risk of foreigners withdrawing money from South Africa. There are tax risks on the table…so we are living through record high risk times and then diversification is key.
RvN: Do you see a change in the risk appetite of local investors?
MW: Yes and no. I think the fact that every single time, and since the global financial crisis, every single year has been a fantastic year for equities, and every single year investment professionals stand up and say well unless something happens, this can’t continue. And then every single year something happens to stretch out the party – so the ECB coming into play right now is something that has just happened and is continuing with this positive momentum, has meant that investors by and large have become immune to the risks on the table right now. So when I talk to our investors it’s actually very difficult to talk to them about the ever-present risks. It’s very difficult to talk about the domestic economy, they don’t want to listen. They kind of go, yes, yes, but look what the equity markets have delivered. So I think people are less and less factoring in the downside.
RvN: Do you see investors moving away from equity funds into less risky assets?
MW: Right now, we’re not picking up that trend at all. In fact we have a lot of our conservative investors saying, why are we so conservative? Look at the equity market, without necessarily understanding the dynamics that have driven the equity markets – which is problematic by the way. It is problematic that somehow even the volatility we’ve experienced in the second half of last year has not woken people up to the reality of the fact that this is being artificially driven by artificial liquidity being created rather than by fundamentals.
RvN: If we look at some of the specific Sygnia funds, and I am specifically referring to the equity fund and the value fund, you are pretty much invested in industrials and financials and very little in resources. But we see a lot of value investors currently looking at resources indicating that they see value there. What is your perception there?
MW: Well I think that looking at what has driven resources for the past five to 10 years, it has been the growth in China and what we have seen out of China with 7.4% growth last year, is that there’s a new template for what China will look like going into the new decade. Hence one needs to question what are the true valuations of resource shares and then of course we have all the domestic problems that – in the platinum sector that we experienced last year. So it then becomes an issue of despite the record low valuation what does one see, particularly in these equity managed funds, what does one see on the short-term horizon happening that would make resource companies suddenly particularly more attractive than financials and industrials?
And with China coming off the boil with China having its own mini financial crisis around their bond market, one needs to question whether there is true value in those shares over the short-term. And hence I think that’s the fundamental view that if foreigners are going to play in the market, they’re going to play in the financial and industrial space rather than in the resources space, and the resources though despite record low valuations is very much determined by demand factors, and we’re not seeing those demand factors coming to the fore.
RvN: But you are pretty much invested in the big companies, the companies that have done well – Naspers, SABMiller, Steinhoff…
MW: Ryk that is very much a function of the managers that we’ve appointed so I think it’s more appropriate that you speak to those managers that are managing those funds, not necessarily me personally. I don’t make those investment decisions.
RvN: Magda, I just want to get to index tracking funds, or as we South African’s love to call then, exchange traded funds. Why are you so dead set against the term “exchange traded funds”?
MW: I think exchange traded funds are a sector of the investment market where you can buy various strategies, not just index tracking strategies. You can buy commodities through exchange traded funds. It’s a mechanism for purchasing various types of exposure by sophisticated investors and then ETF is effectively a share traded on the JSE.
Somehow in the South African context and the way journalists have picked it up and also the way that ETFs have been marketed is that the word ETF has become synonymous with index tracking, which it isn’t, because in fact ETFs are very expensive to access and a whole lot of cost players involved in ETFs including bid offer spreads on the shares themselves, whereas the whole essence of index tracking is a low cost proposition. So accessing index tracking through ETFs is a very expensive equation. Accessing index tracking through a traditional model of a unit trust is where the cost savings come in, so I think the ETF industry should stop talking about ETFs as being synonymous with index tracking. Index tracking is offered through different types of investment vehicles. ETFs happen to be
the most expensive way of accessing index tracking.
RvN: How much more expensive are they? If you take the Satrix fund – the popular Satrix fund for example, how much more expensive are they compared to the Sygnia index tracking fund?
MW: Three to four times more expensive. So the unit trust will cost you, together with trading costs and all the various fees inherent in unit trusts, we are raising at a total expense ratio of 0.45% per annum.
If you are buying an ETF, you start there – there are tiers and tiers of costs so you starting with the brokerage that you have to pay, never mind the platform fee and someone has to actually make that ETF available to you, usually available through either dedicated platforms which charge their own administration fee or through your stockbroker. The stockbroker gets remunerated on the basis of brokerage, so the first cost in that equation is brokerage and it can be really anything between…if you’re lucky you’ll pay 0.2% just in brokerage alone. Then you’re looking at the bid offer spreads which is the difference between the buy price and the sell price and those bid offer spreads are running at anything up to 1%. So you will lose 1% on entry into versus exit. So every time you’re making a contribution you’re more every time you’re withdrawing your money, it will cost you to withdraw your money, so that bid offer spread is running at about 1%.
And then typically you’ve got an exclusive management fee for the management of the ETF, and fees built within the ETF itself for the management of the ETF. So there you’re looking at – you’ll be lucky to get away with anything below 0.8% per annum, just for the management fee within an ETF. So there are a whole lot of different tiers of costs which add up to the costs of accessing index tracking through an ETF. And then the ETF itself is typically not a Regulation 28 compliant balanced equation, so it’s either an equity or it’s a bond or it’s a more specialist product. So these things are usually not appropriate for retirement annuities or living annuities or preservation funds the way an average investor thinks about accessing investments.
RvN: How well educated are the average investors about the actual cost structures of their products, in your experience?
MW: Not at all. In terms of ETFs and the way they are marketed, they are being marketed as synonymous with index tracking and the conclusion and the implication is that it’s a cheap way of saving and that has been kind of left unsaid in the context of making ETFs synonymous with index tracking. I, a while back wrote a research paper just looking at stripping out all the costs of ETFs and just a horrifying read, but it’s complicated. So I think it’s left out of the equation by typical marketers of ETF products because obviously if they exposed all those costs and those tiers of costs, it’s a terrifying read.
RvN: Magda Wierzycka is the CEO of Sygnia.