The premise of investing is simple: buy low, sell high and, by doing so, earn a return. In practice, it’s more difficult. How we're wired as humans makes it hard for us to set aside our emotions as investors.
This applies both to buying when security prices are low because of pervasive pessimism (which goes against our inherent preference to play it safe) and to selling when markets are rising, when we’re tempted to hold out for even greater gains.
In fact, most investors end up doing the exact opposite: they exit their investments at market lows in a bid for safety and reinvest once markets have already run.
Given the prolonged and heightened uncertainty investors are facing, it’s useful to take a step back and re-evaluate the rare opportunities the current conditions are presenting.
Statistics released by the Association for Savings and Investment South Africa (Asisa) for the quarter and the year to the end of June show that South African interest-bearing portfolios attracted most of net annual industry inflows, followed by money market portfolios. South African multi-asset income portfolios were also popular with investors.
On the flipside, equities have lost much of their appeal, with the South African equity general category recording net outflows. Asisa notes that “investors continue to favour the perceived safety of interest-bearing portfolios, which is not surprising given the market volatility and political uncertainty over the past year”.
Markets globally continue to be characterised by wide divergences: valuations of higher-quality, defensive companies are generally elevated, while valuations in parts of the markets characterised by fear and uncertainty are depressed.
Locally, while the FTSE/JSE All Share Index (Alsi) has delivered a total return of 4 percent in the year to August 26, this has been driven by a handful of counters (primarily mining shares and large-cap rand hedges). In fact, we estimate that over 80 percent of Alsi stocks are in a bear market - that is, trading at more than 20 percent below their five-year highs.
Globally, US investment management firm Pzena has recently noted that the valuation dispersion between the cheapest and most expensive developed market stocks surpasses 99 percent of the monthly observations in the 45-year history of its data.
Such extreme valuation divergences are rare and present risks, as well as opportunities. Investors seeking a smoother ride by switching to cash or buying high-quality counters at any cost may find that this “fail safe” proves to be the opposite over the longer term. Missing out on the gains from a market recovery can dramatically erode an investment outcome. Similarly, buying securities at lofty valuations underpinned by high growth expectations may result in losses if expectations prove to be unsustainable.
In contrast, areas in which valuations have been driven lower due to fear and uncertainty present the potential for mispricing.
Where prices fall across the board - an entire sector or geography, for example - quality securities become available cheaply, along with the rest.
Anet Ahern is the chief executive of PSG Asset Management.
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