Rob Dower
Quarterly Commentary

2012 Q1 Comments from the Chief Operating Officer

A brief primer: A nominal interest rate is the rate you pay or receive before taking inflation into account. This is the rate you see quoted on money market funds and on bonds. If you subtract inflation from a nominal rate you get the real interest rate, being the rate after accounting for the effects of inflation on buying power over time. If the nominal rate is 8% and inflation is 5%, the real interest rate is 3%.

Living in London several years ago my wife and I were able to borrow money to buy a house and we have hung onto it since then. Like many people who borrowed money in the UK at a floating rate before the financial crisis, we are now being charged very little interest on our debt. After UK inflation, our cost of borrowing is negative – you may say we are being paid to not pay the debt back. Real interest rates in the UK have been negative for some time, encouraging people to spend rather than to save or to repay debts and thereby helping economic growth (or maybe preventing economic decline). Money acts as both a medium of exchange and a store of value, so while low rates work for some, they compromise others. Sandy McGregor looks at money’s dual role and offers some insight into why zero and near-zero nominal interest rates in several developed markets constitute a challenge for investors.

Closer to home, in October last year, South African real interest rates became negative for the first time since September 2008. This means that you are now being paid less than inflation on rand cash deposits, before tax. Real interest rates in SA have been negative for extended periods in the past, almost continuously from 1970 to 1982 and again between 1986 and 1989. However, for most of the time since then you have at least been able to earn something in real terms on a cash deposit. On top of this, nominal short-term rates in rands are the lowest they have been for more than 30 years. The combination of current negative real returns on cash, the last 10 years of very strong stock returns in SA, and poor returns from global markets may tempt investors to invest by looking in the rear-view mirror. Mahesh Cooper compares the past two decades, noting how poor historic returns have been as a long-term guide for allocating assets between local and offshore shares and cash.

Challenging times for investment management

Looking back on an extraordinary decade for local stocks we continue to caution investors about the level of our market and their return expectations from local equities going forward. We believe that there are more attractive opportunities to be found globally, and our Balanced and Stable mandates continue to have below-average net exposure to South African shares.

Active fund managers themselves face challenges. Chris du Toit and Seema Dala discuss how actively managed funds are usually able to beat the market because they are different from the market. However, currently there are smaller differences in returns between shares, making it more difficult for active fund managers to excel. This does not mean there is no opportunity to find value. Duncan Artus and Leonard Krüger take a look at the Insurance sector and note that shareholders not put off by the sector’s complexities have been delivered excellent returns over the last 10 years.

A final point on your portfolios: with tempting investments offshore and negative real interest rates in rands, you may be wondering why any portion of our Balanced and Stable mandates is invested in cash. Remember that the real real return on cash is the nominal return, less inflation, plus the option to buy other things in the future. If the prices of other assets come down, the value of the cash in these portfolios increases.

Responding to your needs

We work hard to provide you with an excellent online service. In the final article this quarter, Shabnam Osman takes you through some of the benefits of our secure online facility. Using our website to answer the bulk of client queries allows us to keep a highly skilled team to help you on the phone – we very much understand the value of personal contact and are available for any questions you may have about your investments.

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