Intellidex Equity ETF Picks
As Global market uncertainty remains elevated, you don’t need to go down the rabbit hole this easter in finding a diversified ETF portfolio selection, just check out the latest by Intellidex.
4 ETF Diversified Picks for April:
Domestic equity:
South Africa’s diversified mining companies drove returns on the local bourse in Q1 2022, as strong prices of commodities such as iron ore, coal and gold supported earnings. Financials also performed well over the month and quarter, with the JSE Financial 15 Index returning 11.6% and 19.5% over the respective periods. We believe that mining shares may have had a strong run and could be approaching their peak in performance, while the financial sector may have some runway to rally further.
Specifically, we expect SA’s retail banks to be further boosted by a moderate earnings recovery, augmented by more interest rate hikes by the SARB. Intellidex economists expect another three 25 basis points hikes in the repo rate, bringing it to 5.00% by the end of 2022, and another cumulative increase of 75 basis points, bringing the repo rate to 5.75% at the end of 2023.
This will increase the net interest margin that banks can generate on new loans issued to customers, which bodes well for earnings. Of course, this may come at the cost of less credit extension due to lower demand as the higher credit costs will affect demand negatively, especially as economic conditions, which include stubborn unemployment, remain weak.
In addition to financials, we think that exposure to the relatively less expensive, SA Inc. shares that are defensive in nature may be a useful addition to investor portfolios. The FNB Mid Cap ETF (+6.7%) invests in the JSE’s mid-cap shares, including the financials discussed above. Some of the defensive companies included in the ETF are consumer staple companies such as Clicks and Dis-chem, which are highly cash-generative pharmaceutical retailers. Despite upward inflation expectations, we believe that these companies may not be able to pass on all costs to consumers.
However, given any price increases, the relatively inelastic nature of their products makes it unlikely that consumers will drastically change demand patterns due to price increases or shrinking disposable incomes. FNB Mid Cap ETF provides exposure to companies in this segment of the market but is quite expensive with total investment charges of 0.74%.
Foreign equity:
CoreShares Total World Stock (GLOBAL)
Stagflationary conditions mean that inflation is eating away at consumers’ disposable income, which will reduce overall spending, activity, and economic growth. Global trade will also be affected by further hobbling of supply chains and increasing input costs due to the Russia-Ukraine war, thus affecting global output. Restrictive monetary policy will add to the drag on global economic growth.
Against this uncertain backdrop, we would take broad, rather than targeted exposure to global equities through the CoreShares Total World Stock Feeder ETF (-1.7%). As a feeder fund, it invests in the Vanguard Total World Stock ETF, which tracks the performance of the FTSE Global All Cap Index. The index is market cap-weighted and includes stocks from both developed and emerging markets.
This results in an ETF with exposure to more than 9,400 stocks globally, which increases diversification. It compares favorably to a peer such as the Satrix MSCI World ETF (another feeder fund), which invests in the iShares Core MSCI World UCITS ETF. The iShares Core MSCI World tracks the MSCI World Index, which includes 1,539 shares across mainly developed market economies.
This is evident in the concentration of US equities in the FTSE Global All Cap Index relative to the MSCI World with the former having 60% exposure to the US and the latter 69%. CoreShares Total World Stock Feeder ETF is also attractively priced for a recently launched feeder fund, at 0.29%.
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Bonds and cash funds:
Bonds are generally out of favor in a rising interest rate environment given the inverse relationship between yields and bond prices. In addition, expectations of lower economic growth and high inflation are problematic, especially as the latter will decrease the purchasing power of coupon payments. South African government bonds have the added risk of the state’s perilous finances and the stubbornly weak economic output trajectory.
However, we believe that a small allocation to the Satrix SA Bond ETF (+0.6%) in addition to last month’s pick (Satrix ILBI) will somewhat improve the diversification of investor portfolios, given the low correlation between SA bonds and equities (+0.265), according to a 2014 study by Auret and Vivian. The Satrix SA Bond ETF has the lowest TER in its class (0.25%), providing the best entry into nominal SA government bonds with a decent yield of 8.6% which is paid bi-annually.
Dividend/income:
While an allocation to the top-performing SA companies might be expensive given the strong rally of stocks in the Top 40 index over the last year and in recent times (underpinned by a rally in mining companies), these top performers are likely to make healthy dividend payments to shareholders.
One such example is Exxaro Resources, a coal miner that supplies Eskom and is increasing its coal exports as it seeks to derive existing value from mines while investing in its renewable energy capacity. It declared a final dividend of R11.75/share in its FY21 results, bringing the total dividend to R32.52 and its yield to more than 14%. Exxaro is included in the Satrix Divi Plus ETF (-0.3%), which ranks the top 30 JSE-listed firms by their 1-year forward dividend yield. This ETF has a slightly high total investment charge of 0.59% but is useful for the income-oriented investor.
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Intellidex Outlook
The Russia-Ukraine war was still the main driver of investment sentiment and returns this past month. Its effects on the global economy are stagflationary in nature – economic growth is expected to decline while inflation continues to rise. In addition, hawkish global monetary policy to counteract high inflation will add further drag to economic growth.
We expect the stagflationary conditions to persist. Consequently, we re-emphasize the need for diversified ETF and broader portfolios across asset classes, sectors, themes, and styles. In addition, the rand’s strength provides yet another opportunity to buy into any weakness in global asset prices.
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Background: Exchange-traded funds (ETFs)
Exchange-traded funds (ETFs) are passively managed investment funds that track the performance of a basket of pre-determined assets. They are traded the same way as shares and the main difference is that whereas one share gives exposure to one company, an ETF gives exposure to numerous companies in a single transaction. ETFs can be traded through your broker in the same way as shares, say, on the EasyEquities platform. In addition, they qualify for the tax-free savings account, where both capital and income gains accumulate tax free.
Benefits of ETFs
- Gain instant exposure to various underlying shares or bonds in one transaction
- They diversify risk because a single ETF holds various shares
- They are cost-effective
- They are liquid – it is usually easy to find a buyer or seller and they trade just like shares
- High transparency through daily published index constituents
Disclaimer
This research report was issued by Intellidex (Pty) Ltd. Intellidex aims to deliver impartial and objective assessments of securities, companies or other subjects. This document is issued for information purposes only and is not an offer to purchase or sell investments or related financial instruments. Individuals should undertake their own analysis and/or seek professional advice based on their specific needs before purchasing or selling investments. The information contained in this report is based on sources that Intellidex believes to be reliable, but Intellidex makes no representations or warranties regarding the completeness, accuracy or reliability of any information, facts, estimates, forecasts or opinions contained in this document. The information, opinions, estimates, assumptions, target prices and forecasts could change at any time without prior notice. Intellidex is under no obligation to inform any recipient of this document of any such changes. Intellidex, its directors, officers, staff, agents or associates shall have no liability for any loss or damage of any nature arising from the use of this document.
Remuneration
The opinions or recommendations contained in this report represent the true views of the analyst(s) responsible for preparing the report. The analyst’s remuneration is not affected by the opinions or recommendations contained in this report, although his/her remuneration may be affected by the overall quality of their research, feedback from clients and the financial performance of Intellidex (Pty) Ltd.
Intellidex staff may hold positions in financial instruments or derivatives thereof which are discussed in this document. Trades by staff are subject to Intellidex’s code of conduct which can be obtained by emailing mail@intellidex.coza.
Intellidex may also have, or be seeking to have, a consulting or other professional relationship with the companies mentioned in this report.