Table Talk: Four major benefits of offshore investing
Q: Given the higher political uncertainty and slower growth in South Africa, I’m worried about my investment performance. Wouldn’t it be a good idea to take a lot of my savings offshore?
Pieter Hugo, MD:
Moving money offshore should ideally never be the result of a reaction to short-term changes in the local environment or a sudden depreciation of the rand. Yet South Africans have a history of reacting emotionally and taking money offshore after the rand has depreciated significantly, often resulting in subsequent investment losses.
Rather, offshore exposure should be driven by your own investment goals and how best to achieve them within a longer-term financial plan. In general terms, including some international exposure in a portfolio has been shown to be beneficial for almost all long-term investors. Following are some of the primary benefits of investing offshore.
Diversifying helps optimise your portfolio
Diversification across countries, industries and companies, as well as asset classes and currencies, is the primary benefit of investing offshore. It reduces the risk of a portfolio for the same expected rate of return, resulting in a more “optimal” portfolio by spreading risk across many different investments. At the same time, offshore equities help reduce the risk inherent in the local equity market, which is among the world’s most concentrated: between 2005-2012 the resources sector comprised over 30% of the FTSE/JSE Top 40 Index, rising to over 45% at the peak of the resources cycle in 2008. And today IT giant Naspers makes up over 20% of the Top 40 Index.
Gaining exposure to growth opportunities
The stocks listed on the JSE represent only 1% of the world’s total listed equity market capitalisation – so if you invest only in South African equities you are missing out on 99% of the global equity universe. There are many fast-growing industries under-represented on the local exchange like pharmaceuticals, bio-technology and alternative energy. There are also many world-class companies in which to invest.
Living in an emerging market like South Africa, it can be very beneficial to diversify into developed markets, which are often driven by different macro factors, can offer more stable growth, and provide hard-currency exposure to a wide variety of sectors. At the same time, rapidly expanding emerging markets like some Asian economies also offer lucrative growth prospects, giving your portfolio a higher probability of generating better returns than those confined to the domestic market.
Helping you reach your offshore goals
If you spend significant time outside the country, or buy lots of imported goods, or if you want to retire abroad or send your children to schools outside South Africa, higher-than-average offshore exposure could prove invaluable. Investments in hard currencies like US dollars, euros, sterling and yen act as protection against a depreciating rand (which is likely to remain the long-term trend given South Africa’s higher inflation rate versus developed markets), and other South Africa-specific risks. This effectively ensures you match your longer-term offshore “liabilities” with equivalent assets.
At the same time, it’s not advisable to use offshore investments to speculate on currency movements (a notoriously difficult task), but rather to ensure a globally diversified portfolio. At Prudential, we do not try to forecast the rand exchange rate or time its moves in determining the offshore allocations in our portfolios, but rather use offshore asset valuations, among other complex factors.
Acting as a safehaven
For those who are concerned about political or social instability in South Africa, having a portion of an investment portfolio offshore helps mitigate the associated investment risks and can help ease investors’ worries, making them more likely to stay invested for the longer term and avoid panicking and selling their investments at the wrong time. However, sentiment-driven investing should be avoided: you should rather always follow sound investment principles and a long-term plan to determine whether, when and how much to put offshore.
How much should you invest offshore?
Your offshore exposure depends very much on your long-term investment goals. Generally, the offshore portion of your portfolio will be larger the higher your targeted investment return (and therefore the higher the risk required). For example, if you have a more aggressive return target of inflation+7%, you would tend to need between 35%-40% offshore. A return target of inflation+6%, meanwhile, is more in line with a typical “balanced” fund with around 30% offshore. Finally, a more conservative target of inflation+2%-3% would generally dictate offshore exposure of only 10%-20%. These are guidelines, however; the exact portion should be appropriate for your own long-term requirements.
Keep in mind that Regulation 28 of the Pension Funds Act only allows a maximum offshore exposure of 25% (excluding Africa), plus an extra 5% in Africa (outside South Africa) for funds approved for retirement purposes. Yet investors who hold SA equities are also gaining offshore exposure through local companies with offshore operations: over 50% of revenue from JSE-listed companies comes from outside South Africa. So Regulation 28-compliant funds are likely to have effective offshore exposure of more than the 25% (+5% Africa) permitted.
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