The year so far: the hunt for yield
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Marriott Asset Management notes that most asset classes are overpriced and yields are low. With this in mind, they give some portfolio pointers:
Inflation rises, and there’s more to come:
Consumer inflation has continued its upward trend this year, increasing from 3.5% y-o-y in December 2010 to5.0% y-o-y in June, on the back of rising global food and energy prices. With limited prospects for further local currency appreciation to mask the impact of rising food and energy prices, along with a number of other structural inefficiencies within the South African economy, we anticipate this rising trend in inflation to continue throughout 2011. We believe inflation will average at least 7% over the next five years.
Table 1 below illustrates some of the inflationary pressures that are building up.
Table 1:
Inflationary Pressures (y-on-y price increases in dollar terms, as at 31 July 2011)
Inflationary Pressures (y-on-y price increases in dollar terms, as at 31 July 2011)
Item | % change |
Oil Prices | +50.7% |
Food Prices | +32.0% |
Metal Prices | +29.9% |
Cotton Prices | +27.1% |
Source: I-Net
South African Bonds overpriced
Currently the bond market reflects an inflation expectation of approximately 5% and in our opinion this expectation is too low. Based on our inflation expectation of at least 7%, RSA bonds only offer a real return of 0.8% (7.8% yield minus 7% inflation). This is not attractive as inflation-linked bonds offer a guaranteed 2.4% real return.
As a result, we view bonds as expensive at current levels and we therefore expect yields to rise with commensurate capital loss.
SA Listed Property too expensive
Property is currently yielding 8.4% and has strong bond-like characteristics with a risk of capital loss. The property sector continues to struggle with increasing vacancies, rising property expenses and a strained consumer. In particular, average B-grade office vacancies have grown to 12% with some listed companies having vacancies of up to 18%. These factorswill retard income growth making yields expensive.
SA Equities are expensive, but pockets of value exist
In our opinion, dividend growth from companies is expected to be muted as a result of a struggling consumer and the prospect of rising interest rates. Dividend yields offered by equities in general remain expensive.
There are, however, some sectors offering attractive yields, in particular, Telecommunications and Insurance.The forward yields of Vodacom, Altech and Liberty are approximately 6.5%, which ishigher than cash yields.
These businesses derive earnings from contractual arrangements making their earnings reliable. They have continued to pay reliable dividends in challenging economic conditions.There is also the potential for a re-rating of their income streams which should contribute positively to total returns.
The money market yield curve is steepening
Current cash yields remain at 30-year lows. We do, however, expect rising interest rates in response to higher inflation.
Offshore offering value in certain stocks
The global economy is showing slower growth which would generally manifest itself in less growth in corporate dividends and hence less capital growth. Seeking out reliable dividend streams and high dividend yields will therefore be the better way of ensuring reasonable returns.With dividend yields of some of the biggest companies in the world well above bond yields, equity valuations in these markets are presenting investors a significant opportunity to generate inflation beating returns over the next five years.
Searching for yield
We have always stressed the importance of paying the right price for an investment and with yields as low as they are at present, we feel that many assets are simply too expensive. Locally patches of value do exist, such as certain equities in the telecommunications and insurance sectors.Offshore, large corporates with global markets offer attractive yields and this is where investors should be focusing their attention.
