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A fresh look at the case for investing offshore

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The case for offshore investment is self-evident, given the superior returns generated over the last decade relative to local markets.

But will this trend continue? Some have argued that local markets will outperform offshore investments over the next couple of years. If that’s the case, is now the right time to load up on offshore assets?

“A good time to take money offshore is when things look great in SA, when the rand is strong, because you get more US dollars for your rands,” says David Lerche, head of equities at Sanlam Private Wealth (SPW).

“A bad time to take money out of the country is when things look dire in SA, when the rand is weak and commodities are at a cyclical low. It’s seldom ideal to have knee-jerk reactions to bad news, such as the Covid pandemic.

“Investing offshore should be a planned process, not in reaction to local or external events, and it needs to be done in the most cost- and tax-efficient manner possible,” says Lerche.

Backtesting of various models by SPW shows that 35% offshore exposure for rand-based investors planning to retire in SA produced the most ideal outcome in terms of risk-return profiles.

Recent changes to Regulation 28 of the Pension Funds Act increased the allowable offshore exposure cap to 45%, which gives South African investors a little more comfort in balancing their local and offshore exposures.

Striking the right balance between local and offshore

There’s a trade-off between risk and reward, and that changes over the lifetime of the investor, says Lerche.

“Over long periods of time you will be compensated for taking higher risk, but over shorter period things can look different. Over the last 50 years, stocks outperformed bonds by a healthy margin.

“As you get closer to retirement your risk tolerance declines. Investors with longer time horizons and high risk tolerances may be happy with 80% in equities. Closer to retirement, that may reduce to 20%, though the more typical blend is 60% equities and 40% bonds, with some adjustments for other asset classes.”

A peculiarity of markets is that risk tolerances tend to be high when markets are robust, and drop when conditions turn for the worse.

That too can be a mistake, says Leche, since falling markets – such as we are currently witnessing – can radically alter risk profiles and present some excellent opportunities.

Where non-correlated asset classes fit in

A healthy portfolio will have an element of assets with lower correlations to financial markets – such as private equity, property and global hedge funds.

“We’ve spent a lot of time finding the right partner with expertise in global hedge funds, and other specialities, capable of selecting assets with a low correlation to either bond or equity markets,” says Lerche.

“The more tools you have, the more you can blend them to get the right outcome. Within these building blocks, we look for even more tools, such as international equities where we can maximise returns and minimise volatility. SA is more of an emerging market, so we would look to increase our exposure to developed markets, where the correlation to emerging markets is lower.”

Choosing government over corporate bonds

When it comes to bond selection, SPW prefers government over corporate bonds, because the latter perform more in line with equities.

In an ideal blend, the bond portfolio should provide some protection against weakness in the equities market, with exposure to both local and overseas bonds.

The benefits of a blended SA/offshore portfolio

“When you combine local with offshore portfolio exposure, you historically have earned higher returns at lower volatility than if you remained totally invested locally,” says Lerche. “Any time markets go down, people get concerned. It has been a bad year from investment returns, but that may be expected after the excellent year last year.”

In selecting a suitable blend of local and offshore investments, South Africans need to look not just at the returns, but the most efficient cost and tax structure.

Professional advisors with a deep understanding of international tax and estate structures are essential in getting this balance right, says Lerche. “Every client wants the highest possible returns from their investments, but there are other considerations that come into play, such as how much volatility are they prepared to tolerate?

“Also, the tax implications vary from one jurisdiction to another, which can have a material impact on investment outcomes. For example, one has to be aware of the inheritance tax implications of investing in markets such as the US or UK. We have an in-house tax advisory team to make sure tax is structured correctly and 100% within the law, but in the most efficient manner possible.”

How does one use the money to gain residency elsewhere?

If you are investing to gain residency, think of it as the price of gaining residency rather than a way to gain great returns, adds Lerche. There are residency benefits from investing offshore, but – like tax – this needs highly specialised advice, which SPW is equipped to provide.

“Investment works best when the person looking after your money knows all the pieces and can blend it for you,” says Lerche.

No need to fear recession

“The global economy is probably headed for recession in the next year or so, and that is being reflected in asset prices. If growth slows, it will probably be negative for commodities.

“We see chances to pick up high-quality assets at good prices. We see this as an opportunity.”

Brought to you by Sanlam Private Wealth.

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