This week we update our list of favourite exchange traded funds (ETFs), taking into account both the performance of investment markets and new developments in the ETF market during April.

Local

May 2 marked a month since SA’s credit rating was downgraded to junk status by S&P. The effects of the downgrade on the broader economy have so far been mild. The rand, which tanked to about R13.95/dollar within a week of the downgrade, bounced back to trade around R13/dollar and is now around $13.60. It was trading below $13/dollar before then-finance minister Pravin Gordhan was recalled from an international roadshow, days before he was fired.

Domestic bonds fared better than expected thanks to foreigners who continued pouring their money into local bonds despite heightened political risk. The yield on the R186, the South African government 10-year bond, is now over 30 basis points (bps) lower relative to the post-reshuffle peak. Equity markets also had a largely decent month with the top 40 index gaining about 3.3%. The post-downgrade increase in yields has worked to attract foreign capital which is finding it difficult to obtain yield elsewhere in the world.

Statistics South Africa released key economic data for February and March, which painted a largely mixed outlook for first-quarter GDP numbers. Mining came out better as production expanded by 4.6% year on year (y-o-y) in February, supported by higher commodity prices. Manufacturing output fell 3.6% y-o-y as output declined in nine out of the 10 major subsectors. Retail sales were also down by 1.7% y-o-y, following a 2.3% decline in January.

International

The developed world is looking stronger after encouraging economic data emerged from Europe, China and the US. In the eurozone, the composite Purchasing Managers' Index (PMI), an indicator of the economic health of the manufacturing sector, reached a fresh six-year high of 56.7 in April, up from 56.4 in March. Underlying data show that job creation in the eurozone rose to its highest level in almost a decade as firms responded to an uptick in consumer demand and widespread optimism about the year ahead. The PMI for the US was also marginally up to 53.2, but growth in manufacturing slowed to a seven-month low. The index was driven by growth in services.

China reported 6.9% y-o-y growth in GDP in the first quarter, which is the strongest since the third quarter of 2015. Growth in the world’s second-largest economy was largely driven by higher government infrastructure spending and a booming property market.

Our favourites

Below are Intellidex’s picks in each of the five broad categories of asset classes. Certainly, not all categories will be suitable for all investors. The funds we pick are the ones we like most in each category.

Local equities

April was a good month for local equities. The Top 40 index returned 5.71%, its best performance for quite some time.

Among the top 40 ETFs, our pick is the Stanlib Swix 40 (STANSX). It wasn’t the best performer but delivered a decent return of 3.38%. The best performance of 4.29% came from Satrix Swix Top 40.

The top 40 funds provide diversification across the blue chip JSE-listed firms, which helps to reduce risk of an equity portfolio. Within the top 40 ETF family, we prefer ETFs that use the Swix weighting method rather than the traditional JSE top 40 index. The Swix weights constituents based on the share capital held in electronic records and registered on the SA share register. It therefore excludes shares held outside SA and listed on foreign exchanges, which results in reduced exposure to cyclical commodities.

We like any of the three Swix-weighted top 40 funds (Satrix Swix, NewFunds Swix 40 or Stanlib Swix) but we maintain our choice of Stanlib Swix 40 (STANSX) because of its lower expense ratio.

Foreign equities

International ETFs are proving to be quite a hit among local investors, spurred partly by the recent political turmoil and an uninspiring growth trajectory for the local economy. It’s quite common for investors to seek growth elsewhere if they feel that their local markets are unlikely to yield meaningful growth.

We changed our pick for this category to the recently launched CoreShares S&P 500 from the Db x-trackers USA a few months ago. While it’s still new with no historical record, we are attracted by its total expense ratio (TER) which is expected to be between 0.55% and 0.65%. That will be way cheaper than the db x-trackers that have an average TER of of 0.8. Given that the two track indices with a similar return profile – the S&P 500 and MSCI US – we think CoreShares’ lower cost structure will help it outperform its peers. Note, however, that the DBX ETFs have recently been acquired by Sygnia and the group is promising to cut their costs.

Property ETFs

Following the introduction of the CoreShares S&P Global and Satrix Property funds earlier this year, investors now have a wider variety of property ETFs to choose from. This has also prompted us to change our choice from CoreShares PropTrax 10 to its peer, CoreShares S&P Global. We like both ETFs because they apply tracking methodologies that cap their exposure to a single stock at a maximum of 10% of the portfolio, but CoreShares S&P Global has an advantage in that it invests in up to 40 counters so has greater diversity. CoreShares PropTrax 10 invests in 10 counters at any one time.

Bond and cash funds

Bonds and cash are good additions to portfolios not only because of their diversification qualities but also for their ability to enhance returns. There are now six listed funds in this category (including the recently listed Satrix ILBI):

(i) NewFunds GOVI ETF 

(ii) NewFunds ILBI ETF 

(iii) NewFunds TRACI 3-Month ETF

(iv) Ashburton Government Inflation ETF

(v) Satrix ILBI ETF

(vi) CoreShares PrefTrax

They each track different things: (i) tracks government bonds; (ii), (iv) & (v) track inflation-linked government bonds; (iii) tracks short-term money market instruments; and (vi) tracks listed preference shares.

The NewFunds TRACI 3 Month (NFTRCI) is great for short investment periods (less than a year), because it is least sensitive to sudden adverse interest rate movements. It invests in assets with a three-month duration, so capital values are not very sensitive to interest rate movements.

However, for a longer investment horizon, the motivation is to protect returns against inflation – particularly in emerging markets where various external and internal variables can substantially drive up prices. Right now, SA faces the possibility of another credit ratings downgrade, which is likely to drive inflation. So, we would choose an inflation-linked bond to cushion investors from surprise inflation pressures. Because the Satrix ILBI ETF promises to have the lowest expense ratio of 0.25%, it is our choice here. It does not have a performance history as it was launched last month, so we don’t have its performance figures in the graph above, but it should mimic the performance of other inflation-linked bond funds.

Dividend-focused funds

We believe returns should be considered on a total return basis, which combines both capital growth and dividends. Certain funds focus on dividends which can be particularly important for investors who require an income.

Whereas the Satrix Divi pools its assets from the top 40 index, the Coreshares Dividend Aristocrat ETF extends its pool to mid-caps. We prefer the Satrix Divi because it is forward-looking, based on projected dividends. It has also performed ahead of its peer in the last couple of months. The CoreShares fund is based on historical performance that may not be repeated in future.

Diversified funds

Equities are regarded as the financial asset class that carries the most risk. However, they generally provide the best returns over time, which compensates for the higher volatility, so they are more suited to longer-term investors.

One way to reduce that risk is to invest in funds that include other asset classes such as bonds and cash. Two good funds for this are the NewFunds MAPPS Protect ETF and the NewFunds MAPPS Growth ETF.

They are designed to meet two different risk appetites: Protect is suitable for older savers nearing retirement and Growth is for younger savers with a longer time horizon.

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Intellidex top ETF picks for April 2017

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.

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