In our previous letter to clients, written in the middle of May, we indicated that the old adage of “ Sell in May and go away” might be applicable to our stock market at the time. We laid out the case as to why we were extremely cautious and accordingly built up significant cash reserves as well as invested in equities of a conservative nature across all our portfolios. Since then we have seen a rather uncomfortable sell off in South African equities and a more gentle fall in first world markets.
At that stage, our first concern was that our market was just plain expensive. The recent fall in share prices has resolved this to some degree with the market becoming about 10% cheaper. Due to the lack of growth prospects of most of our locally listed shares we feel prices need to fall further to offer compelling value.
In anticipation of the tough road ahead we reduced total equity exposures by 17% in The Rezco Value Trend Fund and by 14% in The Rezco Prudential Fund since the end of March. The Rezco Equity Fund was maintained close to the minimum allowable equity weighting of 80% invested. Included in the reduction of the total equity exposure was a reduction in our property exposure by about 4% for both The Rezco Value Trend Fund and The Rezco Prudential Fund. We currently only invest in property shares that are locally listed, foreign property shares, as we believe that pure local property shares are not currently offering value.
In our Rezco Value Trend Fund and our Rezco Prudential Fund, we sold off our long standing Hong Kong registered counters namely Brilliance China Automotive Holdings and Sunny Optical as we became concerned about an accelerating slowdown in China. This proved wise as the severe correction in mainland Chinese shares is having a decidedly negative impact on Hong Kong listed companies. We also sold off our North American airline holdings as these had achieved price targets and risked becoming overvalued.
Our Stable Fund, aptly having the Johannesburg Stock Exchange code REST, began trading at the start of March. It is gratifying that the fund managed to remain in positive territory through the recent market drawdown.
Our portfolios exhibited the normal low downside capture characteristics though the recent market slide that started at the beginning of May.
Greece is what the press is currently focused on but the smart money is pondering China. Greece, with a $280bn GDP is a really small economy and is not big enough to cause any major disruption to the European economy. China on the other hand has a $10 000bn GDP and is clearly big enough to give the world economy a nasty headache. What gives the market pause, is the way in which the Chinese government first actively encouraged a major stock market bubble and then the delusionary attempts they have made to keep it inflated over the past month. To name but a few; roughly 50% of Chinese shares have been allowed to voluntarily suspend trading, special government funded vehicles have been set up to buy shares, new listings have been banned and large shareholders have been banned from selling for the next 6 months.
Most importantly this has shaken the market’s faith, both nationally and internationally that the Chinese authorities have the capacity, insight and wisdom to effectively manage the huge imbalances that have arisen in their economy. We are concerned that much of the Chinese growth, post 2008, has been as a result of manic increases in debt levels within the economy. Many economic statistics we track, point to a fast slowing Chinese economy. Locally, there is not enough economic growth to spur share prices higher. Commodity shares will continue to feel the headwinds emanating from slowing growth in China.
We continue to believe that the Federal Reserve in the USA is now getting behind the curve and has left interest rate increases far too late. The normalisation of interest rates could further disrupt markets.
Finally, international markets have been going up for over six years and need a break. As the northern hemisphere heads for summer holidays there is good reason for fund managers to leave their portfolios in a risk-off status. This could prolong the correction.