Intellidex Reviews July 2020: ETF Picks

Both the fear of missing out and risk aversion are simultaneously playing out in global markets, which has seen all major asset classes generally moving upwards in July. Investors are latching onto any kind of good news including earnings surprises but the second wave of Covid-19 in several countries is raising concerns.

Global equities are hitting new highs, bonds are edging higher and commodities are scaling up. “Covid-proof” stocks that benefit from working-from-home and precious metals propelled global markets in July. Gold, while not the best performing asset, had its best month in four years, rising 8.5% on the back of a weakening dollar. Worldwide, holdings in gold-backed ETFs are now second only to the US government’s reserves of bullion, overtaking holdings of all other central banks.

The MSCI world index, a barometer for the dollar performance of developed market equities, rose 4.7%, while the MSCI emerging & frontier (dollar) index jumped 8.3%. Global bonds increased 3.2%.

With the rand strengthening 1.7%, the predominantly rand-hedge JSE top 40 index edged up 2.4%, driven by resource companies, specifically gold and platinum group metals. The top 40 index is now up 1.1% year to date (YTD) to end-July.

However, pressure on SA Inc stocks, specifically the smaller capitalisation companies, remains, with the mid and small cap indices down 25.9% and 21.3% YTD, respectively. SA government bond prices gained a marginal 0.6% in July and is similarly up 1.0% YTD.

Against this backdrop, an equally weighted basket of all local ETFs inched up 0.33%, the basket of all JSE-listed international ETFs increased 2.23% and the basket of commodity ETFs rose 8.81%. Consequently, Intellidex’s equally weighted ETF portfolio – which is built from these three broad JSE ETF categories – increased 1.9%, compared with its benchmark of all JSE-listed ETFs, which rose 1.96%.

Local ETFs

Local equities were driven primarily by resources (+9.1%), with minor gains from financials (+0.4%) offset by industrials (-2.7%). Consequently, top-performing ETFs came from the resource-heavy funds: Satrix Resi (+8.9%); NewFunds Momentum (+7.7%); and NewFunds Shari’ah 40 (+5.2%). On the flipside, the worst performers were Coreshares Property (-6.9%) and Coreshares Preftrax (-5.8%).

In bonds, the best performer was Satrix SA Bonds with a 1% gain while the worst performers, Satrix ILBI and NewFunds ILBI, both lost 1.8%. The performance of inflation-linked bond ETFs is not surprising given that inflation expectations remain subdued with a weak consumer demand outlook.

In commodities, 1nvestRhodium ETF continues with its strong recovery, climbing 16%. It is followed by gold ETFs which rose 8.5% while 1nvest Palladium is at the bottom of the pack, but still up a decent 7.4%.

International ETFs

Emerging and frontier markets benefited from the “risk on” sentiment as well as the Chinese government encouraging locals to invest in equities. Cloud Atlas Africa Real Estate, which usually takes huge monthly swings, climbed 14.3%, followed by Satrix Emerging Markets (+7.1%).

From developed markets, the tech heavy Satrix Nasdaq 100 increased 5.7% followed closely by Sygnia/Itrix 4th Industrial Revolution (+5.1%), helped by positive earnings releases from companies benefiting from people working from home. Conversely, the big loser, Cloud Atlas AMI Big50 ex-SA ETF, fell 8.9%.

Now for their pick of ETFs 

Domestic: 

Locally, we maintain exposure to anti-volatility strategies as we expect volatility to remain high in coming months. The JSE offers a number of such funds and investors can choose among three, depending on risk profile: NewFunds Volatility Managed Defensive Equity ETF (+0.2% in July), NewFunds Volatility Managed Moderate Equity ETF (+ 0.2%); and the NewFunds Volatility Managed High Growth Equity ETF (-0.5%).

These funds manage volatility and drawdowns simultaneously. These funds try to maintain the same amount of volatility within the fund under all market conditions by reducing equity exposure in times of high volatility and increasing the fund’s cash component and vice versa.

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The objective of these funds is to maintain a target level of volatility in the fund. Unlike most ETFs which have fixed rebalancing/reconstitution periods, these funds apply a target volatility (TV) process daily, so that volatility is always around the target level, ensuring the risk profile is not excessive for extended periods.

The most conservative of the three funds is the NewFunds Volatility Managed Defensive Equity ETF with a TV of 8%; followed by NewFunds Volatility Managed Moderate Equity ETF with TV of 15%; then the Volatility Managed High Growth Equity ETF with a TV of 20%.

Finally, to take advantage of the optimism in the market, investors can take a punt on NewFunds Equity Momentum ETF (+7.7%), which follows a momentum strategy but weights constituents by their contribution to volatility to limit exposure to highly volatile stocks. This fund can be added as a satellite fund to any of the core funds mentioned above.

International (Developed Markets):

We maintain our foreign exposure to the broad-based Satrix MSCI World Equity Feeder ETF (+3.5% in July). A good alternative, though, is the Ashburton Global 1200 Equity ETF (+2.9%), but it has a higher TER.

Furthermore, you can add the Sygnia Itrix Eurostoxx50 ETF (+2.3%) as a satellite fund. The approval of the €750bn EU fiscal stimulus plan is positive for the bloc’s economic recovery. Other more focused international technology-themed equity funds that are tactically appropriate at this point are Sygnia Itrix 4th Industrial Revolution (+5.1%) and Satrix Nasdaq 100 (+5.7%) ETFs.

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International (Developing Markets):

The Satrix MSCI Emerging Markets ETF (+7.1%) remains our only broad-based option. However, the new Satrix China ETF provides unique opportunity to increase exposure the world’s fastest-growing major economy. Also, the highly volatile Cloud Atlas AMI Big50 (-8.9%), which focuses on African equities, can be used to take long view on the prospects of Africa, the truly remaining frontier market.

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Dividend & Income-themed:

If you rely on your investment income for day-to-day expenses, you may want to allocate a portion of your portfolio to ETFs that have a high distribution ratio. We maintain our choice of dividend-focused strategies like the CoreShares S&P Global Dividend Aristocrats (+1.6%) and the CoreShares South Africa Dividend Aristocrats ETF (-4.2%).

A key advantage of the dividend aristocrat strategy applied by these funds is that it selects constituents based on the actual dividend pay-outs rather than a dividend yield. This is particularly important now when financially challenged companies may deceptively exhibit high yields because of low market prices. The strategy also tends to select companies that can endure difficult market and economic environments and whose earnings are not cyclical. Such funds are usually overweight in highly cash-generative and resilient sectors.

The only gripe we have with these funds is that they are pricey.

The CoreShares S&P Global Dividend Aristocrats has a TER of 0.67% and the CoreShares South Africa Dividend Aristocrats ETF costs 0.55%. An alternative for the local choice is the CoreShares PrefTrax ETF. Although it is pricier with a TER of 0.61%, its yield is large.

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Bonds and Cash: 

SA’s fiscus is set to deteriorate substantially as tax collections take a hit due to Covid-induced lockdowns, while policy inertia compounds the challenge. As such, more sovereign credit rating downgrades could come to worsen the pain.

Given this backdrop, we gravitate towards the FirstRand US Dollar Custodian Certificate (-1.3%),which invests in US treasury bonds and offers rand hedge qualities. Our thesis, however, is weakened by the fact that international bonds are expensive due to central banks’ actions and further upside potential is limited. However, investors with access to broad emerging market bond ETFs should also consider those in a tactical strategy.

The only other option on the JSE is NewFunds S&P Namibia Bonds (-0.5%). As risk on sentiment improves, such bonds are likely to recover as investors start searching for better yields. For short-term investors, usually less than a year, we maintain the NewFunds TRACI (+0.5%) as our choice.

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Diversified funds: 

If you find the process of diversifying your portfolio daunting, two ETFs can do it for you. They combine equities and bonds to produce a diversified portfolio for two investor archetypes with differing risk appetites: Mapps Protect ETF (+0.3%) is more conservative, usually suitable for older savers. Mapps Growth ETF (+1.3%) suits investors with a longer-term horizon.

Notably, both funds invest in SA-listed assets, thus lack an offshore flavor.

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Commodity funds:

Adding a commodity ETF to your portfolio improves diversification because commodities march to the beat of their own drum – they are not in synch with broader markets. Rhodium has been our metal of choice since the start of last year and it did wonders to our portfolio. However, we think it has run its course. 

We speculatively replace it with platinum. In the short term, the platinum market is expected to remain tight. Demand will be dented by the temporary closure of automotive factories across the world and ongoing erosion of platinum jewellery consumption.

However, medium- to long-term prospects for platinum are enticing. With the palladium price now significantly higher than platinum, automakers are increasingly trying to substitute some of the palladium used in diesel and petrol catalytic convertors with platinum. Should that happen, platinum will regain its shine.

The 1nvest Platinum ETF (+7.6%)which is the cheapest of the two platinum funds on the JSE, is our preferred vehicle for investors seeking exposure to platinum. The fund invests in physical platinum, which is stored in secured custodian vaults.

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Intellidex Reviews
June 2020: ETF picks 

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Background: Exchange-traded funds (ETFs)