I am not an economist but I do try and follow the markets. One of the main reasons I do so is because I have taken the choice of managing my own investment portfolio. The jury is still out on whether this was a good call on my part, but my reasoning is that I believe after all the sleepless nights studying finance and accounting that I should try and make the most of what I have learnt at least for my own benefit. I am not a guru, but in every investment choice there is a lesson to be learnt, both when things go well and particularly when they don’t, which help you arrive at a methodical manner in which you invest.

As an individual that follows the markets on a daily basis, one thing that has caught my attention is the recent extreme volatility in the markets. One area that has made me jittery has been that the volatility has been quite sudden and extreme in just a matter of days, and is still expected to linger on in the short term. A case in point would be just looking at Wednesday 26 May 2010, where the JSE moved about 3% in one day alone, and this was bouncing from a previous day’s negative movement of 2.5%! This is quite large daily movements when one considers there are over 400 companies listed on the JSE contributing to the overall return. The losses are also extended when one includes the extreme depreciation of the Rand against major currencies also in the past month, at more than 8%.

What this has done to a private investor such as myself, is to look at a few areas in my investments where I have had no protection against such extreme volatility which has lead to significant paper losses in a matter of days. On the other hand, others have taken advantage of the volatility and made significant gains from it, and I suspect derivative traders must have been on both extremes.

As I mentioned earlier on about lessons from investing, one such lesson for me in the past month has been the importance of having a diverse portfolio, not just across asset classes, but also globally. The second lesson has been that possibly just holding global equities or bonds is not enough anymore and as a private investor I should consider holding currency or gold positions as direct hedges against Rand depreciation. Once again there are a lot of choices, so the decision is not so easy and a thorough understanding of some of the instruments one can purchase may be required otherwise you may just assume further risk.
Another possible plan might be to include JSE listed companies that earn most of their income in foreign denominated currency, which can act as an indirect hedge against a depreciating Rand, such as Sasol. The logic being that as the Rand depreciates these local companies earnings would actually rise in Rand terms and so should their share price, thereby acting as a hedge. However, the negative global sentiment we are currently experiencing, has not show mercy either to these companies as they have not escaped the carnage on equities despite the Rand’s major depreciation in the past month.

I think sometimes a simple strategy of holding a cash balance in a foreign denominated currency can actually prove to be an effective hedge against Rand depreciation. However, it can also work against you considering the lower levels of interest earned abroad and additionally a possible strengthening of a volatile Rand can hurt you further.

Whatever you decide, I have now concluded that unfortunately for everyone in this world, whether you are a private investor or a man on the street, we all now need to open our eyes and to start looking at the world news beyond our borders, as what is happening globally is affecting us more directly like never before. This is no small feat, as understanding local markets is not so easy, let alone global markets and news. The world has seemingly become so intertwined, that if you are not in tune with the world markets or global news, you will not understand why the local markets and your solid local investments are so volatile when all the fundamentals in your investment strategy and fundamentals that govern this country appear to be in check!

Now, all the negative sentiment coming from the Euro-zone has translated into large paper losses for a lot of investors all the way down here in Africa! Watching an index such as the JSE losing more than 12% in the past month is really distressing, especially when there are very few asset managers that can actually beat the index regularly! Where do you put your money!?

The position is made worse if you factor in the Rand’s depreciation against major currencies, and you realise that in US dollar terms the JSE has actually lost 20% in a month from external global sentiments! If you are there sitting and smiling because you have no equity exposure, but you have other local investments (a house or flat etc) a depreciating Rand has just made you about 10% poorer in just a month and made foreigners holding US Dollars 10% richer. Of course this is just a paper loss to you, but if you pull out your calculator you actually realise just how much you have lost to foreigners in one month.

Once again this just shows how important the global sentiments are affecting you at home in Africa and eroding your wealth through no fault of your own. It also shows the importance of having positions that protect you from a depreciating currency that is very open to external factors.

I guess at this point in time, it all comes down to always having a longer outlook on your investment strategy and as well as the local and global currencies. In terms of the fundamentals in this country, I believe they are mostly in check to allow companies to succeed. In terms of the Rand, I have to consider the views of most economists as there are too many variables affecting it. In this case, they believe the Rand is heading towards R8 to the dollar by the end of this year, so maybe holding some US dollars after a Rand rally might not be a bad idea after all.

Have a great day.
Maki