Out Outcom ome Mat Matter ers November 2019 Herman van Papendorp - - PowerPoint PPT Presentation

Out Outcom

• me Mat

Matter ers

November 2019

Herman van Papendorp Head of Research and Insights

Where to now, asset classes?

Gl Global

• bal asse

asset cl classes asses Fundamentals and valuations

Improvements in financial advice

Equities and credit most at risk  sharp equity drawdowns typical around recessions  US bonds a recession safe haven  but can recession be avoided?

Rising recession probability High volatility likely Few investments cheap compared to history

Global equities compared to bonds

Flatter yield curve and more activity from Tweeter Trump Bonds already priced for recession, but not equities  equities look cheaper than bonds against own history

0% 20% 40% 60% 80% 100% Jan‐85 Jan‐90 Jan‐95 Jan‐00 Jan‐05 Jan‐10 Jan‐15 Citi Rates Strategy Machine Learning Algorithm Predicted and actual probability of a recession within 12 months

Actual Predicted

Source: Citi

The argument for de‐risking  global recession

Meaningful recession risk

Source: Morgan Stanley

The argument for de‐risking  global recession

Meaningful recession risk

12% 13% 20% 25% 37% 38% 42% 0% 10% 20% 30% 40% 50%

MS model ‐ all variables Uncondiitional prob given not currently in recession MS econ est. Unconditional probability MS model ‐ financial variables

• nly

New York Fed model MS cycle model est.

US recession probability in next 12 months

Peak Trough Lenghts (Mths) Peak Trough Peak Trough Date Drawdown

Oct‐26 Nov‐27 13 Aug‐29 Mar‐33 43 Y – Sep‐29 ‐86% May‐37 Jun‐38 13 Y – Mar‐37 ‐54% Feb‐45 Oct‐45 8 Y – May‐46 ‐28% Nov‐48 Oct‐49 11 Y – Jun‐48 ‐21% Jul‐53 May‐54 10 Aug‐57 Apr‐58 8 Y – Aug‐56 ‐22% Apr‐60 Feb‐61 10 Y – Dec‐61 ‐28% Dec‐69 Nov‐70 11 Y – Nov‐68 ‐36% Nov‐73 Mar‐75 16 Y – Jan‐73 ‐48% Jan‐80 Jul‐80 6 Jun‐80 Jul‐81 5 12 Jul‐81 Nov‐82 16 Jan‐82 Jul‐83 6 8 Y – Nov‐80 ‐27% Jul‐90 Mar‐91 8 Apr‐91 Dec‐92 9 21 Y – Jul‐90 ‐20% Mar‐01 Nov‐01 8 Nov‐01 Jul‐03 8 20 Y – Mar‐00 ‐49% Dec‐07 Jun‐09 18 Dec‐08 Sep‐10 12 15 Y – Oct‐07 ‐57%

Recessions (mostly) mean equity bear markets

Recent drawdowns between 20% and 60%

Source: Morgan Stanley

Equities and credit don’t like recessions

US bonds a safe haven; gold runs ahead of the recession

Source: Morgan Stanley

Returns going into a recession Returns after recession starts Asset 12m 6m 3m 1m 1m 3m 6m 12m MSCI ACWI ‐7.0% ‐6.9% ‐1.6% ‐2.4% ‐3.6% ‐6.5% ‐11.3% ‐17.1% S&P 500 1.1% ‐0.5% 0.5% ‐0.5% ‐2.9% ‐6.6% ‐5.6% ‐7.1% MSCI Europe 0.6% ‐1.6% ‐1.2% ‐0.2% ‐2.3% ‐8.6% ‐9.8% ‐‐8.8% TOPIX ‐5.0% ‐5.3% 0.5% ‐0.4% ‐2.9% ‐8.1% ‐11.1% ‐15.7% MSCI EM 15.4% 4.7% 6.1% ‐0.5% ‐7.0% ‐11.4% ‐18.0% ‐13.5% UST 10Y 3.3% 2.5% 3.1% ‐1.0% ‐2.2% 2.9% 6.6% 10.9% US IG ‐1.6% ‐1.7% ‐0.3% 0.0% ‐0.3% ‐1.7% ‐2.0% ‐5.0% DXY 3.8% 1.5% 1.5% 1.1% ‐0.7% ‐2.4% ‐3.6% 6.3% EURUSD ‐0.6% 0.5% ‐1.2% ‐0.9% 0.5% 2.4% 3.8% ‐7.8% JPYUSD ‐7.9% ‐5.7% ‐1.8% ‐1.7% 1.6% 5.8% 6.5% 6.7% Brent 24.4% 4.2% 13.4% 8.1% 13.8% 27.7% 19.0% ‐20.1% Gold 34.0% 28.3% 20.4% 11.1% 2.6% ‐5.2% 0.8% ‐7.7%

Start of US upcycle Date of 10‐2Y curve inversion Date of S&P500 peak Start of US recession # of months btw. curve inversion & SPX peak # of months

• btw. SPX

peak & recession # of months btw. curve inversion & recession % of cycle when curve inverts % of cycle when SPX peaks Perf btw. curve inversion & SPX peak Mar‐61 Dec‐67 Nov‐68 Dec‐69 11 13 24 77% 88% 12% Dec‐70 Mar‐73 Sep‐73 Nov‐73 6 2 8 77% 94% ‐3% Apr‐75 Aug‐78 Jan‐80 Jan‐80 17 17 70% 100% 11% Jul‐80 Sep‐80 Nov‐80 Jul‐81 2 8 10 17% 33% 12% Dec‐82 Dec‐88 Jun‐90 Jul‐90 18 1 19 79% 99% 29% Apr‐91 Feb‐00 Aug‐00 Mar‐01 6 7 13 89% 94% 11% Dec‐01 Aug‐06 Oct‐07 Dec‐07 14 2 16 78% 97% 19% Average 11 5 16 70% 86% 13%

It ain’t over when the yield curve canary sings

Equities can still go higher in the interim

Source: Barclays

US equity peak: Jul‐20? US recession: Dec‐20?

46 50 54 58

# of CBs easing vs. tightening (right, 6M Lead) China credit impulse (12M chg, 6M Lead) Global manufacturing PMI

Can renewed policy stimulus avoid recession?

Growth support from more rate cuts

Source: JP Morgan

35 25 15 5 ‐5 ‐15 ‐25 ‐35 2009 2011 2013 2015 2017 2019

‐1 ‐0.5 0.5 1 1.5 2 2.5

EM BoJ ECB Fed

Can renewed policy stimulus avoid recession?

Growth support from QE comeback

Source: Citi

SNB BoE Total CB purchases 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021

USD tn

Source: BofA Merrill Lynch

Rising equity volatility likely

Flatter yield curve typically leads to higher equity volatility

52 45 38 31 24 17 10 3 ‐300 ‐250 ‐200 ‐150 ‐100 ‐50 50 100 2 – 10 spread (lead by 3y)

2 ‐ 10 year spread (3y lead, lhs) VIX (rhs)

VIX 1988 1991 1994 1997 2000 2003 2006 2009 2012 2015 2018 2021

Volatility  rising activity from Tweeter Trump

Trump’s Twitter activity has risen meaningfully during 2019

5 10 15 20 25

1 month avg tweets/day Excluding retweets

Source: JP Morgan

Jan‐2016 Jul‐2016 Jan‐2017 Jul‐2017 Jan‐2018 Jul‐2018 Jan‐2019 Jul‐2019

Volatility  rising activity from Tweeter Trump

Tweets more frequently on market‐moving topics

Source: JP Morgan

Rolling 1‐month count of tweets containing select key words related to trade or monetary policy (LHS) compared to rolling count of all tweets (RHS); count

Trade (1/10) and monetary policy (1/15) 20 40 60 80 100

Trade (dollar, trade, farmers, China, tariff) All tweets (RHS) Monetary (economy, inflation, federal, reserve, Powell)

1000 800 600 400 200 Jan‐2017 Jul‐2017 Jan‐2018 Jul‐2018 Jan‐2019 Jul‐2019

Source: JP Morgan

Trump tweets induce market volatility

Early in 2019, only two to three tweets per month moved US bonds; now this is 30+

10 20 30 40

3Mx10Y swaption implied vol (RHS) Tweets followed by 0.5bp+ moves (LHS)2

Rolling 1‐month count of tweets from the President’s personal account immediately followed by a 0.5bp+ net move in 10‐year Treasury yields within 5 minutes of publication (LHS; count); 3Mx10Y ATMF swaption implied vol (RHS; abp)

85 80 75 70 65 60 55 50 Feb‐2018 May‐2018 Aug‐2018 Dec‐2018 Feb‐2019 May‐2019 Aug‐2019

Equities Metric Latest 20‐year Z Score MSCI ACWI Fwd P/E 14.7 S&P 500 Fwd P/E 16.6 MSCI Europe Fwd P/E 13.1 TOPIX Fwd P/E 12.0 MSCI EM Fwd P/E 11.3 Rates Metric Yields (%) 20‐year Z Score UST 10Y Real Yield ‐0.27 DBR 10Y Real Yield ‐1.81 JGB 10Y Real Yield ‐0.93 Credit Metric Spread (bp) 20‐year Z Score US IG Loss Adj Spread 97 US HY Loss Adj Spread 154 EUR IG Loss Adj Spread 87 EUR HY Loss Adj Spread 206 EM USD Spread 387 FX Metric Spot 20‐year Z Score EUR/USD REER 94 GBP/USD REER 97 JPY/USD REER 80 Commodities Metric Spot 20‐year Z Score Brent Inflation Adj Price 0.5 Gold Inflation Adj Price 12.9 Copper Inflation Adj Price 2.2

Very few assets are cheap vs history

Only gold and EM $ debt seem cheap vs past; equities look cheaper than bonds

Source: Morgan Stanley

‐2 0 2

Valuation Implied recession probability in next 12 months Name Metric Long‐Term Z Score Data since Equities S&P 500 P/E ‐0.61 1964 S&P 500 EPS 0.28 1964 S&P 500 Equity sectors Cons staples vs Mkt P/E 0.01 1974 Financial vs Mkt P/E 0.24 1974 Materials vs Mkt P/E 0.34 1974 Utilities vs Mkt P/E ‐0.10 1974 Small vs large caps P/E 0.16 1979 Rates UST 10y Real yields 0.38 1972 UST 3m10y Level 1.33 1959 UST 2s10s Level 0.89 1976 FX DXY Price ‐0.79 1981 GBPUSD Price ‐1.06 1981 AUDUSD Price ‐0.76 1981 Credit US BBB Spreads ‐0.22 1929 Commodities Brent Inflation‐adj price ‐0.92 1998 Gold Inflation‐adj price ‐0.17 1990 Copper Inflation‐adj price ‐0.79 1999

Are asset classes priced for recession?

Rates  YES; other assets  NO

Source: Morgan Stanley

‐2 0 2

Loc Local asse asset classes classes Fundamentals and valuations

Improvements in financial advice

History points to strong future returns  the shorter the history, the cheaper SA equities’ forward P/Es look

Poor 5‐year performance Equity returns not sensitive to SA economic growth Impact of potential US recession

SA equities

Similar returns in both low‐ growth and high‐growth periods US recessions don’t matter for equity returns in the long run (3 years+)  but be cautious

• f SA (and US) equities around
• nset of US recession

History supports prospective SA equity returns

From low 5‐year trailing return levels, historical subsequent returns were lofty

Source: Iress, Momentum Investments

Subsequent Alsi annualised index returns when trailing 5‐year returns fell below 3.5% One year Two year Three year Five year Full period (11 times) Average 27.2% 26.1% 25.0% 18.6% Median 26.6% 27.8% 25.8% 18.2% Since 1984 (5 times) Average 45.3% 30.9% 25.8% 19.5% Median 39.2% 31.6% 25.8% 18.2%

4.0% 1.5%

• 6.0%
• 4.0%
• 2.0%

0.0% 2.0% 4.0% 6.0% 8.0% 10.0% Mar-61 Jul-69 Nov-77 Mar-86 Jul-94 Nov-02 Feb-11 Jun-19 SA GDP (% y/y growth) Growth = 4% Growth = 1.5%

How sensitive are SA equity returns to economic growth?

Source: Iress, Momentum Investments

SA equity returns not very sensitive to economic growth

Only median returns higher in high‐growth periods than low‐growth periods

Source: Iress, Momentum Investments

Alsi annualised index returns during low and high GDP periods GDP <= 1.5% Average 21% Median 13% GDP >= 4% Average 20% Median 23%

Cautious of equities around onset of US recession

US recessions don’t matter for equity returns in the long run (three years+)

‐10 10 30 50 70 ‐12m ‐6m ‐3m +3m +6m +12m +24m +36m +60m

• No. of months before or after onset of US recession

Median % change in equity market for the past 8 US recessions (around onset of US recession) S&P 500 All Share

Source: Iress, Momentum Investments

Source: Iress, Momentum Investments

SA trailing P/E excluding Naspers cheap

14% discount to Top‐40 P/E (now trades almost 1 STD below its 16‐year avg.)

5 8 11 14 17 20 23

J200 P/E J200 P/E (ex‐NPN & PRX FF) Mean .+1 STDV .‐1 STDV

2003 2005 2007 2009 2011 2013 2015 2017 2019

The shorter the history, the cheaper SA equities are

• c. ¼ STD cheap against avg. since 1999 and 2½ STD cheap since 2013

Source: Iress, Momentum Investments

14.0 14.0 4 8 12 16 20 24 Sep‐65 Jul‐76 May‐87 Feb‐98 Dec‐08 Oct‐19

X

ALSI forward P/E Mean since 1999 +/‐ 1 Std Mean since 2013 Assuming 12% ALSI EPS growth over the next year; mean‐reversion would imply 7% EPS growth ALSI expensive ALSI cheap

Valuation supportive of future SA equity returns

Source: Iress, Momentum Investments

One‐year returns with different ratings assumptions BEAR  Gradual derating

• ver 5 years to ‐1 STD (11.5x)

 13.5x after 1 year  10.3% one‐year return BASE  Gradual rerating over 5 years to avg. since 1999 (14.6x)  14.1x after 1 year  15.2%

• ne‐year return

BULL  Gradual rerating over 5 years to +1 STD (17.7x)  14.7x after 1 year  20.0%

• ne‐year return

Improvements in financial advice

Even more pertinent as global stock of negative‐yielding debt rises  unlike in DM, meaningfully positive real yields available in EM

Global “hunt for yield” supports bonds SA real bond yield attractive SA real cash yield at historical average

SA bonds and cash

SA real yield attractive relative to DM, within EM and relative to their own history Provides attractive relative risk‐adjusted returns

Source: BofA Merrill Lynch

Hunt for yield becoming even more pertinent as global stock of negative‐yielding debt rises

Only risk‐off environment would be counter for this

2 4 6 8 10 12 14 16 18 Global stock of negative yielding debt, $tn

$16.8tn

2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Real EM bond yields attractive

Unlike in DM, meaningfully positive real yields available in EM

Source: Iress, Momentum Investments

Real ex‐post 10‐year bond yields DM US ‐0.1% Japan ‐0.9% UK ‐1.2% Europe ‐1.5% EM South Africa 4.6% Mexico 3.7% Brazil 3.6% Russia 2.7% Turkey ‐1.6%

SA real bond yield remains above historical average

Current ex‐ante real yield 122 bps (½ STD) above post inflation‐targeting avg.

Source: Iress, Momentum Investments

‐4 ‐2 2 4 6 8 10 Jan‐02 Aug‐04 Feb‐07 Aug‐09 Mar‐12 Sep‐14 Mar‐17 Oct‐19

%

SA ex‐ante 10‐year real bond yield Mean +‐ 1 STD

SA real cash yield now fair

Current ex‐ante real cash yield has fallen close to post inflation‐targeting avg.

Source: Iress, Momentum Investments

‐2 2 4 6 8 10 Jan‐02 Aug‐04 Feb‐07 Aug‐09 Mar‐12 Sep‐14 Mar‐17 Oct‐19

%

SA ex‐ante 1‐year real cash yield Mean +‐ 1 STD

Improvements in financial advice

Cheapest in 10 years vs. bonds  good returns expected from low base even at below‐ consensus distribution growth assumption (‐5% real) and no rerating

Lots of bad news discounted Tail‐risk bear case

SA listed property

To get negative returns  have to assume DY relative to bonds at largest discount in 15 years during GFC & ‐7% real distribution growth & 9% bond yield

0.2 0.4 0.6 0.8 1.0 1.2 1.4 0.5 0.6 0.7 0.8 0.9 1.0 1.1 1.2 1.3 1.4 Mar‐02 Oct‐05 Apr‐09 Oct‐12 Apr‐16 Oct‐19

Ratio Ratio

Listed property DY / bond yield (LHS) Exit dividend yield relative ‐ last 15 years' avg. (LHS) Exit dividend yield relative ‐ last 5 years' avg. (LHS) Bond returns / listed property returns (RHS)

Listed property cheapest in 10 years vs. bonds

Current relative rating lowest in 10 years  lot of bad news already discounted

Source: Iress, Momentum Investments

Good property returns expected from low base

Only tail‐risk bearish scenario gives negative returns

Source: Iress, Momentum Investments

Consensus DG, Bullish BY, Unchanged Rating Lower DG, Forecasted BY, Unchanged Rating Bearish DG, Bearish BY, GFC Derating SA Property Index spot dividend yield 9.31 9.31 9.31 SA Property Index spot 456 456 456 SA Property Index implied dividend 42 42 42 Assumed distribution growth 2.0% 0.0% ‐2.0% 1‐year forward dividend 43 42 42 Expected 10‐year bond yield (in 12 months' time) 8.25% 8.50% 9.00% Expected dividend yield relative 1.06 1.06 1.13 Implied dividend yield on SA Property Index in 1 year's time 8.75% 9.01% 10.17% SA Property Index in one year's time 495 471 409 Implied 1‐year capital return 8.6% 3.3% ‐10.3% Implied 1‐year distribution yield 9.5% 9.3% 9.1% Expected total return 18.1% 12.6% ‐1.2%

Asset class conclusions

Conclusions …1

• SA asset classes > global asset classes
• Better valuations and some rand appreciation
• Global bonds > equities
• Rising recession probability  bonds already priced for recession, but not equities or credit
• Risk is that US recession is avoided and growth surprises positively
• Rising volatility likely
• SA equities (OW, with protection)
• SA shares have performed poorly for 5 years  history points to strong future returns
• The shorter the history, the cheaper SA equities’ forward P/Es look
• Be cautious of SA (and US) equities around onset of US recession

Conclusions …2

• SA nominal bonds (OW)
• “Hunt for yield” more pertinent as global stock of negative‐yielding debt rises
• Unlike in DM, meaningfully positive real yields available in EM
• SA real yields attractive within EM and relative to their own history
• ILBs (UW)
• Break‐evens to expand with rising inflation until early 2020, but returns unattractive vs.

nominal bonds

• Cash (OW)
• Current SA real cash yields have fallen to historical average  but provides attractive relative

risk‐adjusted returns

• SA listed property (N)
• Lots of bad news already discounted