Allan Gray Tax-Free Balanced Fund

In the previous quarter, we ended our commentary with the following: “We remind our clients that we have deliberately constructed a diversified portfolio for a wide range of outcomes.”

The third quarter of 2024 has certainly highlighted the need for a carefully constructed, diversified portfolio in the face of significant volatility.

The quarter included a remarkable one-day crash and subsequent recovery in Japanese shares. This was in response to a larger-than-forecast rise in short-term interest rates by the Bank of Japan, which triggered a strong rally in the yen. The TOPIX fell by 12.2% in a single day and the better-known Nikkei index had one of its greatest intraday falls since the crash of 1987, before bouncing by 10% the next day. This led to a sharp sell-off across global equities. While many analysts attribute this to the unwinding of the long-running yen carry trade, where investors borrow in yen and invest in higher-yielding international assets, it is not yet clear if other factors contributed as well.

For example, US equities had another large intraday sell-off on 6 September. Remarkably, the S&P 500 ended the quarter making new all-time highs. To put this in perspective, Nvidia, one of the three largest companies by market value in the world, lost US$279bn in value on 3 September. Since mid-June, the US$3tn bellwether AI/semiconductor stock has gone from a high of US$140 to a low of US$90, back to US$130 and then down to US$120. The significant volatility in global equities, while potentially unnerving in the short term, can hopefully provide opportunities for patient long-term investors.

Locally, the FTSE/JSE All Share Index consolidated its strong second-quarter gains in July, before a sharp sell-off in line with Japanese and US stocks, before going on to reach a new all-time high of 87 802 in September.

The other theme affecting markets has been the continued weakness of the Chinese economy and stock market. Chinese government bond yields are trading at close to all-time lows in response to the disinflationary conditions in the economy. We have written about our concerns over Chinese investment-led, debt-funded growth for many years – and perhaps the bill has finally come due. This weakness has shown up in the price of commodities and the share prices of mining companies. While the Fund has been underweight diversified mining shares, we are sharpening our pencils and revisiting our valuations. The other potential opportunity is the weakness in some global multinational consumer stocks, whose profits in China have disappointed. Of course, in South Africa, the weakness in China could have implications for Prosus and Richemont, and the impact of the recently announced Chinese policy stimulus is still untested. Markets, however, rapidly bid up depressed Chinese equities in response to the announced stimulus. It will be interesting to see how sustainable the rally will be.

Turning our attention to the local bond market, the South African 10-year yield continued its post-government of national unity (GNU) rally from 12.2% in April to 10.0% on hopes of reform under the GNU and the release of the Gold and Foreign Exchange Contingency Reserve Account (GFECRA) proceeds, which reduced forecast issuance – please see the Bond Fund commentary for more detail. For some time, we have viewed 10% as a key level for the 10-year bond yield and continue to monitor it closely. It will be a significant change in the market’s view of South Africa’s risk should it trade below 10% sustainably.

The fall in the cost of capital and increase in growth expectations have continued to underpin the rally in domestic shares that are largely exposed to the South African consumer. For example, Mr Price has rallied from an April low of R157 to R270, while Capitec has risen from R1 982 to R3 045.

It is clear that the share prices of these locally focused companies are discounting a better future, but the recent earnings results were generally still reflective of the poor local economy, structural problems and a tough trading environment. It is also probably fair to say that the GNU’s “unity” has yet to be truly tested. It has been a great period for holders of these domestic assets and the rand has strengthened as well, but the fundamentals will still have to come through to justify the price moves. We have been trimming some positions where appropriate.

During the quarter, the Fund purchased shares in Anheuser-Busch InBev and select miners, and reduced its position in select banks.

Commentary contributed by Duncan Artus