Shaun Le Roux, Fund Manager at PSG Asset Management

According to Shaun Le Roux, fund manager at PSG Asset Management, 2022 was the most challenging year in over a decade for most global investors. Strategies that had been hugely successful for many years stopped working and overnight it got even harder to be above average.

“This backdrop amplifies the importance of having a broad universe within which to pick what is likely to work in the future. More choice and good selection will dramatically improve the likelihood of producing good returns at acceptable levels of risk. Ultimately global investing will be a key contributor to future portfolio outcomes and an important differentiator between funds,” says Le Roux.

SA investors will be aware of the amendments to offshore limits for domestic funds in last year’s National Budget. Local unit trusts can now invest 45% of their assets outside of SA. This represents a 50% increase in the global allowance and is a big deal for asset allocation and future fund outcomes. This is a very positive development for local managers with proven global capability.

“The increased limit will benefit local clients in two key areas,” notes Le Roux. “Firstly in terms of risk management, there are more opportunities to diversify portfolios across geographies, sectors and currencies, facilitating the delivery of performance in a wider range of scenarios. The JSE is a highly concentrated market with relatively narrow dependence on a handful of drivers. These include the value of the rand, commodity prices and sentiment towards domestic stocks. A domestic-only mandate requires strong bets on these drivers. This means that unforeseeable events (like the Covid pandemic) can have a more pronounced impact on returns (either positive or negative). Secondly, a broader universe for security selection significantly improves the return possibilities for skilled managers.”

The amended offshore limit is likely to lead to wider divergence in future fund performances, particularly given that asset allocators tend to adopt one of three offshore strategies.

Le Roux explains that the first option is a building block approach, favoured by top-down asset allocators. They decide on a global-domestic split and select domestic-only and foreign-only building blocks (typically, funds or exchange traded funds (ETFs)) on this basis. They will often dynamically overlay sectoral tilts and allow underlying managers to select securities.

The second approach is outsourcing the global capability to another manager, given that the manager in question do not feel that they have the experience or capability.

The third approach is where managers select securities on a bottom-up basis with careful consideration of risk management when constructing portfolios.

“At PSG Asset Management we have adopted an integrated bottom-up approach to offshore investing. This allows PSG to take a balanced view between risk and return using a wide global universe of investment options. The global process produces buy lists of domestic and global stocks, bonds and other instruments. When portfolios are constructed, the fund manager compares different securities (domestic and global) and considers blending them in a way that will deliver the best risk-adjusted expected returns. We believe this strategy has several advantages. Primarily, the portfolio comprises our best ideas (whether domestic or global) while also giving considered thought to how these different ideas correlate. Furthermore, we derive significant benefit from being able to compare local stocks to their global equivalents in terms of quality and valuation.

For example, PSG has identified good opportunities in the global energy markets but prefers direct global stocks like Shell, BP and Noble to JSE-listed Sasol. Also, we often observe patterns or cycles that replicate in different markets with a lag. In addition, exposures can be adjusted real time providing a great deal of flexibility in times of market volatility.”

Le Roux notes that risks may arise when outsourcing to building block or external global managers. Portfolio construction and security selection performed by different people can result in inconsistent philosophies and processes. In addition, outsourcing global stock picking may require diluting your best local ideas when you manage aggregate risk. There is also less flexibility to respond to market dynamics at a security level when selection is outsourced to other managers.

“The current market backdrop is one of very divergent valuations and significant crowding in US indices and large cap stocks. This should favour active stock pickers in the future.

Our integrated global bottom-up approach gives our clients exposure to our best global ideas, which can then be used to construct portfolios that are fit for the current investment cycle. Having sight of the investment case, risk and interrelationship of all the underlying securities allows us to blend balanced portfolios that can be adjusted on an ongoing basis. This enables us to be agile in a very uncertain world. These factors should serve our clients well in the long run, as global capability becomes critical for local portfolios.” Le Roux concludes.

ENDS