PSG Wealth chief investment officer Adriaan Pask said investing in 2022 has not been for the faint-hearted, and painted a slightly better picture for 2023.
As 2022 comes to a close, the majority of the world still faces stubbornly high inflation, aggressive interest-rate hikes, and geopolitical tensions brought on by the war in Ukraine.
In 2022, investors have learnt that it is entirely possible to lose money by investing in good businesses – if you overpay.
Thinking back to the beginning of the year, most people were still unsure as to where global interest rates would go.
The consensus was that they would go higher, but very few expected them to go as high as they have, as quickly as they have.
“Our view at the beginning of the year was that inflation would be a lot stickier than expected at the time, and the logical implication was for interest rates to surprise to the upside,” Pask said.
As interest rates go up, valuations start to matter a lot more.
Growth comes into focus, fears around recessions develop, and stocks will derate in price in line with the elevated risks in the macro environment.
It was no surprise that counters that came under strain in 2022 were high-duration, high-growth stocks, or stocks that were priced in elevated levels of growth for a very long period.
Typically, these were tech companies which had high-profit margins.
They were priced as if they would sustain those margins and growth rates for a very long time, and over the last few months, these companies have started to sell off.
A key lesson here is that there’s a meaningful difference between a good business and a good investment.
None of these tech companies are bad businesses, but they don’t necessarily make for good investments in the current environment.
The time will surely come around when the environment normalises, and valuations for these counters become attractive again.
“Our view on persistent inflation and rising rates also made us cautious of developed market bonds,” he said.
“We felt that the yields on these bonds were very low, even after the pandemic, and essentially, they could only go up from there.”
2022, consequently, has been very painful for investors as both developed market bonds and equity sold off heavily during the year. Subsequently, the performance of offshore portfolios suffered.
Another key influence on markets during 2022 was China.
China is a key consumer in the global environment, and the health of the Chinese economy is important for commodity producers like South Africa.
Despite seeing slower growth out of China compared to what we have been used to over the last 20 years, it remains relatively high compared to the rest of the world.
There are also existing supply-side constraints, which have been the key driver behind elevated commodity prices. It has been positive for South African capital – particularly our mining stocks.
Looking ahead at 2023
Looking ahead to 2023, Pask said they would be keeping a close eye on company margins.
“We expected margins to come off as the cost of capital increases with higher interest rates, as that’s when the sentiment will start to turn further against said companies,” he said.
“We have seen some of that start to come through already, but margins are still a lot higher than we think they will be during a recessionary environment.”
They expect US interest rates to peak next year, and that will result in interesting investment opportunities.
“It is not clear whether we have seen the bottom yet, but we are increasingly seeing quality businesses trading at attractive ratings,” Pask said.
“We also believe that more conservative asset classes will start to contribute to portfolios again in 2023.”
In a higher interest rate environment, bonds and cash have a supporting role to play in a diversified portfolio again. This will be positive for clients in these strategies.
Another key theme for 2023 will be dollar weakness and the impact that it will have on portfolios and asset classes.
“Our view is that the dollar is unsustainably strong and could weaken over the short term,” he said.
It translates into a stronger rand, and local bonds and SA Incorporated companies will react positively to this development.
Finally, one has to be realistic about the uncertainty around the global political environment.
It would be naïve to position a portfolio that won’t be subject to some political turbulence.
“Politics will continue to have a big impact, especially over the short term, where sentiment can influence asset prices. Expect the unexpected,” he said.