Offshore investing is key in long-term diversification strategy
The continued Rand weakness which recently hit an all-time low against the US dollar as global markets spiralled - downwards on fears of lower economic growth in China has fuelled renewed interest amongst South African investors regarding the inclusion of an offshore component to investment portfolios.
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According to Windall Bekker, Senior Vice President at PineBridge Investments, it is important for investors not to have a knee-jerk reaction to currency or market movements, but rather to view it as part of a long-term diversification strategy.
"Investors need to have clarity on three key decisions. Firstly, what is the investment objective? Secondly, what is the investment strategy to achieve the objective and; thirdly, how will investors implement the investment strategy i.e. what products and investment managers will they use?"
He says offshore allocations should be the foundation of any investment strategy for South African institutional and retail investors for a number of reasons.
"Critically, it can potentially offer better returns at lower risk. This is because investors can have exposure to more countries, regions, currencies and companies. An offshore investment strategy can therefore generate alpha across a bigger opportunity set as it allows investors to change allocations relative to risk and return, rather than being restricted to a single market and limited underlying instruments and asset classes. The complexity lies in having the ability and skill sets to understand the various markets and how the interdependence affects the investment strategy.
"Country specific or sovereign risk can be diversified by investing in different regions. Currency depreciation can have a negative effect for an investment strategy with seemingly superior local returns being negated through currency depreciation. For example, if your local South African portfolio returned 20% over the past year (Cpi + approx. 15%), the returns in US Dollars are basically flat due to significant currency depreciation over the past 12 months. Investors are therefore getting flat US Dollar returns while taking on the sovereign risk of the local market. By considering offshore markets, investors can also diversify their allocation to markets where valuations could be at very high or record levels to markets with more realistic valuations and better opportunities."
The final reason, adds Bekker, is that the local regulators have recognised the benefits of offshore investing and as a result have increased the offshore allocation for retirement funds to 25% in terms of Regulation 28 of the Pension Funds Act, 1956. The Act also allows for an additional 5% into Africa.
Bekker says that once an investor has a clear investment objective and understands the benefits of allocating a portion of the assets offshore, an investment strategy can then be developed.
Offshore investment strategies
Below are a few offshore investment strategies to consider:
Using this approach means your portfolio should have a lower risk profile when compared to a global equity portfolio. This is because the manager is able to allocate to both risky (equity) and less-risky assets such fixed income and cash. The result is a greater diversification across asset classes, regions and currencies. This is a more complex product as the manager needs to decide on a top down allocation across countries, asset classes and currencies while at the same time making a bottom up allocation to specific instruments and companies in the different countries, asset classes and currencies.
This approach means all assets are allocated to the equity markets. This should deliver greater long-term returns but investors are faced with larger downside risk and volatility in the shorter term. This strategy is normally better suited to investors with a longer time horizon who can manage the shorter-term market volatility and drawdowns. A global equity approach can also be used as a building block for those investors who want to construct their own multi asset solutions using different building blocks from the various managers and regions. This can potentially be quite difficult as the investor needs to make the top down asset allocation and conduct manager quantitative and qualitative due diligence to select the different managers for each asset class. The benefit of this approach is that the investor does not need to do the bottom-up instrument or company analysis or selection.
