Naspers and Steinhoff: Why I won’t invest in the JSE Top 40

Imagine you are an investor planning for retirement in a modern, first-world country such as the USA,  Japan, Germany or even Sweden, for that matter. Imagine too that your investment advisor recommends you put 75% of your retirement capital in one, developing country with a very small stock exchange, less than 1% of total global market capitalization.

Even worse, this stock market has one company — through sheer luck or pure brilliance by management — that completely dwarfs that market, constituting more than 20% of the market cap of a very popular market index.

Strip out the performance of that particular company over the previous 12 months and you find that the rest of the companies listed on that market, in aggregate, have not shown any growth at all.

Then compare the performance of that particular stock market, both in global currencies or in local currencies, and you find that country’s stock market is last or second to last over almost any period from one year to five years and more.

And if you consider a comparison with the developed market, do the same against its peers in the developing world, and you find something similar: its performance is sadly lagging and the under-performance is getting worse as time goes by.

Would you think the advisor is doing his/her job? Would you be satisfied to see that your global personal wealth is being decimated year after year, thereby shrinking your global purchasing power slowly but surely.

At the same time, your friends and neighbours have been investing prudently, diversifying their investment across a range of so-called hard currencies and different countries and industries.

To make matters worse, your investment advisor has also recommended that you purchase some residential property in that same country, which apart from one or two very small regions where only the global rich can afford to pick and choose the best properties, has been on a downtrend for more than ten years. In local currency terms, the average property prices have declined by 20% in real terms and in global currency terms the decline has been around 50%.

Chances are that you will not be happy with your investment advisor, most probably complaining at some regulatory body that the advice was reckless and high risk. And it would be difficult to defend against such a complaint …

How Zuma made you poor

This, dear reader, is perhaps an over-dramatization of developments over the last ten years or so of what has been happening to the average investor with assets locked in South Africa under the Zuma administration. The most striking legacy of the disastrous rule of Jacob Zuma since 2007 (when he became head of the ANC) and 2009 president of the country, has been the slow but certain impoverishment of the average middle-class South African. By all metrics, too numerous to mention in this column, South Africa has gone backwards at great speed. Gross Domestic Product per capita in US dollar terms, fixed domestic investments, foreign investments, business confidence, consumer confidence — you name it, they have gone backwards.

Economic growth at about 1.5%  per annum over this period, has all but missed the upturn in global growth

Yet, most South Africans investing and planning for their retirement are forced by government decree to invest 75% of their assets into this one country with a small and illiquid market where five funds (Naspers, BAT, Richemont, Sasol and Old Mutual) constitute about 30% of the market capitalisation. Chuck in another three companies and they jointly take up the total to almost 40%.

Before its spectacular meltdown, the market cap of Steinhoff was close to 8% of the JSE (at its peak of R100 per share).

Compare this with the US market where the largest listed company (Apple) only makes up 2.2% of the market cap of that market, and even that relatively low percentage has the experts worried.

I have previously (June 2016) stated that I am not a fan of the Top 40 index as an investment vehicle for the average South African investor. The major reason was the over-concentration of certain sectors in our market. At the time I was referring to resource stocks, which in the previous bull market in commodities pushed up its relative share to above 40%.

Many saw these comments as being anti passive investing. That’s not the case, just that I considered the Top 40 to be too concentrated and potentially volatile for my liking. I have recommended passive investing in global markets for many years with great success.

This, of course, set the local index-punting rabid dogs on my spoor. It reminded me of that old saying: “Hell hath no fury like a vested interested threatened.” The debate about active/passive investments in the South African context often strays from the point and becomes deeply vicious and vindictive.

I remain steadfast in my views that the Top 40 index is not appropriate and carries a lot of risk; much more risk than the average investor suspects. I would not invest my own money in this instrument and I don’t recommend that you do.

The Steinhoff debacle has amplified my warnings about concentration risk. The biggest risk now is the fortunes of Naspers, whose rise to fame and fortune is on the back on a single investment of $33 million in a Chinese start-up called Tencent made in 2002 or thereabouts.

Here, we have one company — listed in another country far away in a foreign language and culture very few understand or follow — which makes up about 15% of total market cap of the JSE overall and 20% of the Top 40 index. Former journalist colleague of mine Ann Crotty — now writing for the Financial Mail — recently warned investors to take further note of the regulatory environment in which Tencent operates in China. An investor’s biggest risk in Tencent — and hence Naspers — and hence the JSE — is a change in the political climate there, which could spill over in globally listed Chinese companies.

Nothing might ever happen with Tencent or it might happen tomorrow, but the risk is always present.

The over-concentration of risk on the JSE has seemingly woken some members of the Government Employee Pension Fund (GEPF), who have written to the Public Investment Corporation, the largest investment fund in SA and which has an exposure of about 15% to Naspers, asking how this issue is being dealt with. I think they are right to be worried and it will be interesting to see how the PIC responds in the new year.

On a final note: I have written several articles in the past about Regulation 28 of the Pensions Act and the restriction it places on pension funds and their ability to invest offshore. Living annuities have thus far escaped these restrictions and investors could, after the age of 55, move pension monies into living annuities which could give 100% offshore exposure.

Late in the day of December 15, 2017 investment giant Allan Gray sent out a short press statement indicating that living annuities will also now be subject to Regulation 28 of the Pension Act, with a maximum of only 25% allowed offshore. This has come about as Allan Gray has reached its maximum permissible offshore exposure of 25% of total assets (at company level).

The one thing I’ve learnt in the media business is that if you want to bury a story you release it late on a Friday just before a long weekend or a public holiday. Not that I’m accusing AG of deliberately doing this, but the effect nevertheless was that the financial media completely missed this story.

This comes at a very bad time for pensioners wanting to get offshore exposure. The rand has strengthened remarkably over the last three months from R14.50 to R12.50 and would have represented a great opportunity to get offshore assets at a discount. But this is not to be for potential AG investors in living annuities.

It’s not for me to tell investors what to do, but if I were retiring in the next couple of weeks and months I would be looking for another investment platform that gives me 100% offshore, or at least the opportunity to do so if I wanted to.

A prosperous and happy new year to all of you.

Magnus Heystek is investment strategist at Brenthurst Wealth and can be reached at magnus@heystek.co.za for ideas and suggestions.

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