The optimal allocation for offshore vs local investment
By: Yuvern Dokie and John Anderson
After the rand fell and exploded to over R19 to the dollar early last year, there was a lot of debate around taking more offshore investments and easing restrictions on offshore investment. The following analysis and discussions consider the different markets and how they stack up against a balanced solution.
At the height of the Covid-19 pandemic, local and global markets have fallen drastically and much attention has been paid to offshore investments. In the graph below, we consider the retirement savings balance as at March 31, 2021 of an individual who panicked on April 1, 2020 due to the negativity around the rand and South Africa, pushing all of his 100% offshore investments. We compare that to what they would have earned in SA shares or a typical balanced fund.
Chart 1: Millions of Rand invested in different options from April 1, 2020 to March 31, 2021
Investing for retirement is for the long term
There was a lot of volatility during the year, but local stocks delivered north of 50% in the year ending March 31, 2021, nearly double what the market index. global gave us over the same period in terms of the rand. Although this is a short time, the merits of the analysis and the risk of listening to the noise and blindly following a trend rather than sticking to good long term investment principles must be taken into account.
By extending the analysis over a longer period, from January 1, 2001 to March 31, 2021, the results show that 90% of members remained invested in their strategies despite the three stock market crashes of the Dot-com bubble and September 11; the global financial crisis; and more recently, the market crash due to the Covid-19 pandemic. Overall, the default strategies adopted by pension funds have performed well in ensuring that participants remain well invested over the long term.
Investing for retirement is long term, so don’t get caught up in the short term noise. Base your decisions on sound investment principles that have been proven to work and stay consistent in the investment markets.
Markets evolve in cycles
When using 5-year rolling returns, which are tied to the time horizon used for a global balanced portfolio, the returns have shown some interesting results:
- A typical balanced fund has hit an inflation target + 5% real return 53% of the time, with no rolling 5 year period showing negative returns.
- In contrast, investing 100% abroad would only have achieved the inflation target + 5% real return 40% of the time, with 13 rolling 5-year periods showing negative returns.
Markets move in cycles and we don’t know which cycle will be next. We do know, however, that we need sound principles and that we need to be positioned for different types of results in a balanced approach. It is imperative to marry the risk and the expected return.
Regulations have adapted to the changing environment
Offshore limits have increased over time to allow for greater allocation to offshore. Changes over time have shown evolving regulation and loosening of regulations to accommodate different investment environments.
When it comes to investment principles for pensions, South Africa compares reasonably well with other countries depending on where pension funds typically invest. There is a local bias in the pension fund allocations of any country, as the liabilities are in the national currency. Many companies listed on the JSE have offshore exposure through offshore earnings which must be taken into account when identifying the âtrueâ offshore allocation.
Balanced funds have an attractive risk / return profile thanks to diversification
Alexander Forbes’ analysis shows our best investment view of what a post-retirement and pre-retirement solution should look like to meet their long-term inflation goal. The analysis shows that the optimal asset allocation uses a mix of offshore and local asset allocations, with the sweet spot of offshore strategic allocation currently being between 25% and 27.5% for portfolios. accumulation, which is within regulatory limits. Further, Alexander Forbes analysis shows that for retirees, the optimal asset allocation depends on the individual’s preference for income or inheritance, as well as the individual’s level of levy.
Yuvern Dokie is Senior Technical Investments Specialist at Alexander Forbes Investments and John Anderson is Director of Investments, Products and Enabling at Alexander Forbes.