The Namibian Balanced Fund returned 8% for 2019, helped by positive returns from most asset classes. Foreign assets returned 10.6%, Namibian and South African shares 4.9%, domestic fixed income 7.9%, African bonds 10% and commodities 29%. Only African equities posted a negative return for the year. These positive returns were largely driven by strong markets. Our stock selection detracted both regionally and globally. We remain excited about the shares we hold unlocking value and generating alpha in the long term.

A braai over the weekend inevitably reminds us of the significant challenges Namibia and South Africa face – there is lots of negative news to talk about. In South Africa, an unemployment rate of 29%, combined with youth unemployment of 58%, means that most citizens are still not being included in the economy and cannot help the government to raise further tax revenue to address high and increasing debt levels (61% of GDP, currently). Government bailout of Eskom alone will add R50bn to debt (1% of GDP) in 2020. Even an optimist would struggle to see a financial way out for the public monopoly as a result of poorly maintained infrastructure and new stations that may never operate economically as a result of significant design flaws. Locally, our economy faces similar challenges: an unemployment rate of 33%, debt to GDP of 49% and regular bailout requests from state-owned enterprises. GDP growth continues to look anaemic with negative growth in the past four quarters. The weak performance of the economy resulted in a further downgrade by Moody’s.

The good news for investors is that prices of various local and regional assets compensate investors for these risks. Some Namibian equities are trading at attractive valuations, especially FirstRand Namibia. Namibian government bonds carry risks, but the 10-year bond, at 9.8%, is yielding 5% more than the average consumer inflation rate over the past five years. The South African stock market is also unusually cheap relative to inflation, with a dividend yield of 3.6%, only 1.3% below inflation. The average of the dividend yield on stocks and yield on 10-year bonds is 1.4% higher than South African inflation. This has only been true 3% of the time since 1974. What is also comforting is that subsequent five-year returns of stocks and bonds averaged 14% a year ahead of inflation when they were this cheap or cheaper, since pessimism on earnings growth does not always materialise and investors typically enjoy a re-rating on top of the above average yield when assets are this cheap.

Having said this, given the risks, one would be wise to look for opportunities that protect capital in a bad outcome for the countries. Money market instruments carry low risk of default and capital loss in a scenario where inflation increases. These make up 13.2% of the Fund and yield 7.1%, currently. Bonds make up 15.4% of the Fund, yield 8.6% on average and at 2.8 are of relatively short duration.

Cheaply priced regional shares that don’t depend on South Africa or Namibia – including top 10 shares like Naspers, British American Tobacco and Glencore – are another option that we are fortunate to have. The average dividend yield of these three shares is 4.5% and there is a strong case to be made that this basket of companies will grow faster than these economies in most scenarios through a combination of secular growth (Naspers), organic price growth of strong brands (British American Tobacco) and strong commodity fundamentals combined with share buybacks at low prices (Glencore).

Owning shares that trade at a meaningful discount to fair value helps to protect against a bad outcome as companies can pass on inflation to consumers. Top 10 shares like FirstRand Namibia and Standard Bank Group trade at an average dividend yield of 6% and at a discount to our estimate of intrinsic value. In a scenario where the Namibian and South African economies start growing again, these shares would offer further upside. Finally, a diversified portfolio of global shares and fixed income securities selected by our offshore partner, Orbis, provides protection in a scenario where the Namibian dollar weakens materially.