Table Talk: How not to destroy your portfolio value
With more market volatility expected ahead, Pieter Hugo, MD of Prudential Unit Trusts, cautions investors not to sell out of their investments in market downturns to preserve the long-term value of their portfolios
With Donald Trump set to take over the White House, the UK negotiating for Brexit, exceptionally low global interest rates and slow growth, 2017 is set to be another year of volatility and uncertainty for financial markets. To make the best of these conditions, during market downturns investors will need to resist their instincts to panic and sell their more risky assets, in order to avoid destroying the long-term value of their portfolios.
We studied data from the Association for Savings and Investment South Africa (ASISA) on unit trust fund flows and values since 1965 which show that, unfortunately, South Africans buy riskier assets like equities when the market is (and has been) rising, but then typically sell them after the market has fallen, in favour of less risky cash or other interest-bearing instruments – or they stay out of the market entirely. They therefore end up buying at expensive levels and selling at cheap levels – the opposite of what common sense would dictate.
The graph demonstrates this behaviour during the Global Financial Crisis, tracking fund flows into the SA unit trust industry according to asset type. Note that as the crisis unfolded in the US and moved to other markets in late 2007, by early 2008 South African investors started withdrawing from “riskier” unit trusts (including equity and multi-asset funds, with falling net flows depicted by the red line). Instead, they increased their investments into bond and money market funds (shown by the black line) to levels significantly above the long-term average for those assets. This was ahead of the local equity market downturn (JSE quarterly returns are represented by the grey bars).
Then, as the equity market dropped in 2008 and even as it recovered well into 2009, investors continued to favour fixed-interest over equity-linked investments. Consequently, they missed out on much of the equity rebound, only shifting their preference back to equity-linked funds later in 2009, almost as the JSE peaked in the third quarter of the year.
Unsurprisingly, this unwise behaviour has taken its toll on actual investor returns over the years: investors have generally experienced lower returns than those available from unit trust funds. This is in line with findings globally. Many local investor returns have not even kept up with inflation since 1965.
Importantly, the below-inflation returns are not due to the performance of unit trusts or the deduction of unit trust fees. On the contrary, ASISA data show that the net real returns (after inflation and asset management fees) from every ASISA unit trust category since launch exceed inflation, and by quite a margin. The lowest is 0.3% p.a. produced by the Regional IB Short Term category (effectively offshore money market funds) and the highest is 13.8% p.a. from the SA Real Estate General category (listed property funds).
Interestingly, an investor who put their money in an average Balanced fund (the SA Multi-Asset High Equity category) when the first such fund was launched in 1994 and kept it there until now, without moving it, would have earned a net real return of 8.3% p.a. This suggests that a sound strategy for an average investor has been to opt for a diversified portfolio where the asset allocation decisions are left to a professional investment manager – and then to stick with it. Investment managers are usually able to resist emotional reactions, hence one reason for their better performance.
So, to avoid destroying the value of your investments in the rocky market environment ahead, we suggest the following:
- Stay invested and continue investing throughout uncertain periods (ideally via regular monthly investments);
- Try to avoid switching, especially when market values are falling and amid a lot of negative news;
- Choose diversified, multi-asset unit trusts with enough exposure to riskier growth assets that should be able to deliver your required return to meet your investment goals over time.
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