Combined with decades-low interest rates, this backbreaking global debt has set the stage for dismal real returns (returns after accounting for inflation) in South African investors’ portfolios. While this environment will likely persist for a number of years, South African investors can make several “self-help” adjustments to their portfolios to navigate their way through this environment.
Over the past thirteen years, the portfolios of South African investors have been battered by several global events that may have left them wondering whether they will meet their long-term investment objectives. The first event was the global financial crisis of 2008. Then there was the threat of “Grexit” from the European Union in 2012, which was closely followed by the explosion of shadow banking in China. And the final event, of course, was 2020’s Covid-19-induced global recession. Led by the example of the Federal Reserve in the USA, central banks around the world responded to each of these crises by taking on more and more debt, to the point that the United States now owes over US$28 trillion to global lenders – more than 120% of their GDP.
Combined with decades-low interest rates, this backbreaking global debt has set the stage for dismal real returns (returns after accounting for inflation) in South African investors’ portfolios. While this environment will likely persist for a number of years, South African investors can make several “self-help” adjustments to their portfolios to navigate their way through this environment.
The first adjustment is to reduce the fees within their investment portfolio; due to their recurring nature, fees have one of the largest impacts on a retirement outcome. When markets return 15–25% each year, no one is too concerned about 3% in fees, but when real returns are in the low single digits (i.e. less than 5%), the difference between a 1% fee and a 3% fee can be 50% of your annual real return! In fact, in a 2013 paper entitled “Charges in South African Retirement Funds”, National Treasury concluded that “a regular saver who reduces the charges on their retirement account from 2.5% of assets each year to 0.5% of assets annually would receive a benefit 60% greater at retirement after 40 years, all else being equal.” Fees clearly have a massive impact on the final investment outcome, particularly in a low-return environment, and investors would do well to seek out the lowest possible fees. Fortunately for South African investors, a growing number of low-cost passive options are available in the unit trust space and the Exchange Traded Fund (ETF) space that make reducing fees relatively easy.
The next adjustment is to recognise that global thematic investing offers growth opportunities not readily available elsewhere in the South African market. Thematic investing focuses on the identification of long-term trends expected to cause structural, once-off shifts that will change the way the world works. Blending thematic investment opportunities and low-cost passive investment strategies within an overall investment portfolio is an excellent way for South African investors to manage the low-growth environment.
The first thematic investment opportunities are presented by the Fourth Industrial Revolution (4th IR). Simply put, the world is disrupted by technological forces (“disruptive innovation”) that combine extreme connectedness with exponential processing power, laying the foundation for seismic changes across all facets of our lives. A 2016 World Economic Forum report declared that “Today, we are at the beginning of a Fourth Industrial Revolution. Developments in genetics, artificial intelligence, robotics, nanotechnology, 3D printing and biotechnology, to name just a few, are all building on and amplifying one another. This will lay the foundation for a revolution more comprehensive and all-encompassing than anything we have ever seen.” As there are very few direct 4th IR investment opportunities domestically, South African investors can access the global 4th IR theme through locally available rand denominated passive unit trust and ETF options.
While it is exciting to see enhanced productivity due to the 4th IR, aging populations provide a headwind to growth. According to the World Health Organisation, the 60-years-and-older population will account for more than 20% of the global population by mid-century, increasing from 900 million in 2015 to 2.1 billion by 2050. As we have seen in Japan over the past thirty years, an aging population, combined with high government debt and low interest rates, have led to prolonged periods of low growth and low inflation and hurt investment portfolios, with equities underperforming bonds and cash for extended periods of time. However, this demographic slowdown presents two investment themes that can be accessed to combat a low-return environment.
The first theme is health innovation: given the challenges of spiralling health costs caused by aging populations, healthcare systems across the globe are spending more and more on preventative medicine. This presents investment opportunities within areas such as genetic sequencing, immunotherapies and the use of artificial intelligence in diagnostics, and makes for a compelling investment opportunity that can also be accessed in South Africa through unit trusts or ETFs. Given that the combined market capitalisation of the five largest pharmaceutical companies in the world outstrips the entire Johannesburg Stock Exchange, investors are encouraged to look for these global investment opportunities.
The second thematic investment opportunity seeks to benefit from the flip side of aging populations in developed markets, that being the middle-income explosion and resultant growth in emerging markets. According to forecasts from the International Monetary Fund, emerging markets are expected to grow at 5% in 2022, far above the 3.6% forecast for developed economies. China, in particular, is expected to grow strongly (6.5–7% in 2022), with China’s National People’s Congress recently having approved the country’s 14th five-year economic plan. For the first time, the plan’s strategic focus is entirely on technological development, covering seven areas that include artificial intelligence, quantum computing and space (similar themes to the 4th IR). Given that Asian countries in general are poised for particularly strong growth, investors would do well to add a low-cost passive emerging market ETF with a particular emphasis on Asian economies to their investment portfolios.
In summary, the low-return and low-growth environment is set to plague South African investors for the foreseeable future, but investors can counter this by utilising low-cost passive solutions to control the fees they pay in their investment portfolios. They can then blend various global thematic investment funds (preferably utilising low-cost passive options) such as the Fourth Industrial Revolution, global health innovation and emerging markets themes. In combination, these two adjustments to their investment portfolios can help South African investors achieve their investment objectives.