OPINION | Much of the excess of the past decade will soon be flushed out


Calm waters in investing belie the occasional tsunami that has the potential to cause untold destruction when it unexpectedly hits, says Patrice Rassou. 

Warren Buffett, one of history’s most successful investors, famously coined the phrase: "Only when the tide goes out, do you discover who’s been swimming naked."

While no company ever really wants to be among those caught in there altogether when the going gets tough, sometimes investors can be forgiven for gauging the investing waters to be as warm and soothing as a weekend outing to Fish Hoek. Calm waters in investing, however, belie the occasional tsunami that has the potential to cause untold destruction when it unexpectedly hits.

Back in the late ’90s, the tech bubble had led to a doubling in value of global equities over a three-year period, before subsequently halving in just over a year. Between 2003 and 2008 global equities climbed up the stairs again to beat previous record highs, only to fall by 60% in a year following the collapse of Lehman Brothers. Yet again, stocks took the fast elevator on the way down.

Since the GFC, global equities again took the long flight of stairs up to treble in value just before the global health crisis caused by the Covid-19 pandemic struck in 2020. 

After falling sharply by a third, global equities continued climbing and, along the way, broke multiple record highs.

To explain why global equities have quadrupled in value since the GFC, one must look no further than the massive amount of quantitative easing undertaken by central banks around the world over the past decade, causing their balance sheets to swell almost fivefold. This was accompanied by near zero and even negative interest rates in the developed world.

Betting on growth stocks

During this era of cheap money, growth managers became household names with the top billing being given undoubtedly to Cathie Wood, who very early on was able to identify disruptive companies and invest in them via her flagship ARK Innovation Exchange Traded Fund (ETF). Retail investors were able to access the venture capital-like tech portfolio via a transparent exchange traded vehicle and were rewarded with fourfold returns from 2018 to the beginning of 2021. Valuations did not seem to matter as the hunt for investment opportunities extended to stocks with no earnings – it was all about invest now, grow fast to secure rewards in the far future.

The Covid-19 gridlock also unleashed a new generation of DIY investors, many of whom were lured by free brokerage accounts offered by US firms such as Robinhood and were intent on picking up bargains following the bloodbath the pandemic caused on financial markets. The army of retail traders even took on hedge funds by buying up heavily shorted stocks like GameStop, a struggling electronics and video game retailer, forcing professional investors to run for cover as prices shot up, defying any fundamentals. 

"It is hardly surprising that energy prices shot up, since Russia and Ukraine both supply Europe with 40% of its gas needs."

An inflation problem

What has been questionable is the US Federal Reserve’s (Fed’s) stubborn view that inflation would be transitory while data analysed by our global strategy team was indicating a clear broadening of inflationary pressure.

In mid-December 2021, Fed chairman Jerome Powell capitulated by admitting that inflation in the US was more persistent than previously thought and warned that the Fed would close the liquidity hosepipe by March this year. To add insult to injury, there was a warning that rate hikes would come earlier rather than later. 

All this contributed to an extremely volatile first month of 2022. 

The S&P 500 gyrated wildly, even plunging 4% intraday following the Federal Open Market Committee meeting before closing in the green – such reversals have only been witnessed twice before. The Nasdaq composite, with its line-up of growth stocks, was down by more than 9%, its worst month since the Covid-19 crisis.

Drums of war

The invasion of Ukraine by Russian troops in February 2022 has only served to exacerbate volatility and uncertainty. It is hardly surprising that energy prices shot up, since between them Russia and Ukraine supply Europe with 40% of its gas needs. Russia is also a significant exporter of oil, a major producer of platinum group metals and a top supplier of gold. Not surprisingly, the price of metals has also shot up as a result of the conflict. In addition, with a fifth of global wheat production coming from Russia, even soft commodity prices have been impacted.

South African companies have a limited footprint in Russia – with Barloworld and Mondi coming to mind – but it is likely that commodity producers will benefit from a short-term windfall. However, concerns remain that the world cannot afford another crisis and the unfolding events in Eastern Europe spell bad news for European industry, that is unless a rapid resolution to the conflict is found.

Nowhere to hide

Global investors could not even find safety in US government bonds with yields (which move inversely to the price of the instruments) surging at the beginning of this year from 1.4% to pass 2%. The winners in the equity bull run also unravelled with the ARK Innovation ETF halving in the past year. GameStop, the darling meme stock, also halved since December and Ethereum, the best-performing crypto currency last year, sold off. In addition, we saw Meta Platform Inc – fresh from its Facebook makeover – break the record of the largest daily loss in market cap of US$232 billion. In rand terms that’s a loss of R3.5 trillion in a single day.

As quantitative easing begins to give way to quantitative tightening, much of the excess of the past decade will soon be flushed out. 

It is in this pool of water that investors should be watching for those who are swimming naked.

Patrice Rassou, chief investment officer at Ashburton Investments. Views are his own.

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