There are some good reasons why an increasing number of investors want to bail out of equities – or at least reduce their exposure – and rather hold cash.
First, obviously, are the events of the past few weeks, culminating in the rating downgrade that will affect the investment landscape for years to come. Political and economic instability are weighing heavily on investors’ minds.
Another reason is that equities have not performed (the JSE All Share Index was up just 2.6% last year) and stocks in general are looking expensive, indicating there may not be good growth in share prices in the near future. Increasingly, investors are saying they would have been better off with their money in the bank. And many would have been, over the past year or two.
But converting investments to cash has its challenges, including additional costs. Experts say the biggest problem, however, is one of timing.
“Holding cash reduces risk and provides optionality. When an investor believes it is the right time to buy, it is better to be in cash than another asset class,” says Leigh Köhler, head of research at Glacier. “I think it is quite normal to fear uncertainty, particularly when you look at what has happened over the last year and its impact on equity markets.
“I am not saying one shouldn’t be exposed to cash, but we have clients who are wanting to switch out everything and we believe it is not necessarily the right strategy, particularly because it is so difficult to time the market,” he says.
“Most experienced investors find it difficult, so a normal investor with less information at their disposal than qualified asset managers is likely to get the timing wrong.”
Responding to the increasing number of clients asking about switching to cash, Glacier sent out a presentation that showed that cash has only outperformed SA equity and SA bonds once over the period 2001 to 2016. Over this period, the average return for SA equities was 19.92%, for SA cash 8.12% and for SA bonds 10.35%.
Glacier emphasised that an investor would essentially need to time the market on two separate occasions, “once in terms of when to switch to cash and again in terms of when to re-invest into growth assets”.
Stephen Katzenellenbogen, director of the business and private wealth manager NFB Private Wealth Management in Johannesburg, says the problem with political events is to gauge what is going to happen: “Even if one would have predicted that Donald Trump was going to win the US elections, it would have been almost impossible to predict the effects this subsequently had on markets and investment.
“Following Zuma’s Cabinet reshuffle, the JSE did not react the way one would have expected, and while it was negative for banks, this was offset by rand hedges which were more positive. Things often move in ways the market might not have anticipated.”
Katzenellenbogen says that with decisions like moving to cash, investors “need to take a step back and ask what they are trying to achieve – is this a short-term tactical move or a long-term plan?”
He says moving out of equities will trigger tax and brokerage, so investors need to assess what it will take for their decision to be vindicated once costs are accounted for. “If it is a short-term tactical move, you have to time the market,” he adds, and research has shown how difficult that is.
Glacier’s presentation, using the example of a R100 000 investment over the past 20 years, shows with switching out to cash or another asset class and missing the best 50 days of trade, the investment would now be worth R155 000, compared with R1.4m if the investor had stayed invested.
This illustrates that investors need to see through the emotion and invest according to a particular plan. “I think it helped a lot of people see through the noise,” Köhler says. “So despite recent events, the message remains the same – when you switch into cash, you need to be aware that cash diminishes an investor’s purchasing power once inflation and tax are taken into account and you have to time the market, when to switch in and out of cash.”
The best option remains to make sure that the person investing your money understands your long-term risk profile, and exposes you to various asset classes in the right way in order to achieve your investment goals.
“The objective of any long-term return is to beat inflation,” Katzenellenbogen says. “The problem comes in when, in the shorter term, your return is not beating inflation and cash has outperformed.”
This may be true at the moment. Over three years the JSE return is less than 3%, but if you look beyond that, it is much greater, “so the longer you invest, the higher the probability of beating cash returns. You have to accept that investing is long term and that sometimes there will be a period of over- and underperformance.”
There are numerous investment options for investors looking to move to cash, including money-market unit trusts, managed income, low equity and absolute return funds.
Katzenellenbogen suggests investors first look at their bank’s money-market rate as their hurdle rate and look for investments that beat that. Usually when you move beyond cash there is additional risk, he says, so decisions on what to invest in would depend on the investor’s risk and tax profile. Then after some time they can start looking at income funds and bonds.
He points out that the multi-asset low-equity sector, which comprises 40% equity, outperformed cash 78% of the time for investments longer than three years.
Köhler recommends that investors leave asset allocation in the hands of experts who can allocate investor funds into cash and equities according to a mandate which suits an investor’s aims. “Don’t try to time the market or make decisions based on short-term uncertainty. Be disciplined and stay invested,” he says.
He adds that investors need to separate emotion from actual investment decisions. “Markets are driven by fear and greed, and that’s what determines the misprices in markets. While the past is not a reflection of the future, the lessons of the past have taught us that you need to understand what your plans are and diversify as much as you can […] geographically and by asset class.”
Katzenellenbogen says that converting to cash cannot be a long-term solution, and for those who do convert to cash, he advises a phased approach at periodic intervals back into the market.
This article originally appeared in the 13 April edition of finweek. Buy and download the magazine here.