Making money, 2 ways to do it!

Three if you combine the two. The first one is to sweat your time, the other is to sweat your assets. All of us know the first one. This is when you get up in the morning and get paid for your time. This method can also be called the "active" way. Then there is the other one. I prefer the other one because with this one you do not have to get up in the morning. It is also called the "passive" way.

Usually one has to start with the one where you get up in the mornings for a couple of years and get paid for every hour you spend at the office. Eventually you will have enough money to buy a car, a house and some personal goods. Hopefully after doing this for a decade or two you will have no more debt and your house, car and other stuff will be all yours.

This is the time where you can start "sweating" your assets. What I mean by this is that you make money by using your "productive" assets. There are more than one way to do this and the most popular way is to use your house as collateral to borrow money from the bank. You can then use the money to buy some other property and rent it out, As long as your rental income after costs and taxes is more than the interest you pay the bank, you have created a "passive" income which you would not have had if you just lived in your house.

Another way is also becoming very popular and that is to rent out a portion of your existing house. This will usually entail converting an extra garage into a flatlet or adding a small kitchen and bathroom to a large bedroom/lounge area.

Let's say for argument sake that I have saved up R300 000. So in the bank I will get about 5% interest on this saving. If I have a single story house and decide to build an additional room onto my double garage, the new area will be 36m2. Now 36m2 is a very comfortable size for a studio apartment and building costs in SA is currently around R7 000 per m2. So the cost of construction will be R252 000.

Now it is important that you live in an area where there is a need for cheap accommodation. In my area a self-contained studio will go for R2 500pm at least. So your rental income will be       R30 000 per year. If you convert that to a percentage return on investment you get to 11.90% which is more than double what you would have earned if you kept your cash in the bank!

If you swing the above example around where you move into the flatlet and rent out the rest of your house, the return on investment can increase a lot because for the same cost you can earn a lot more. If you can get R10 000pm for your house, the return on the R252 000 investment would be 46.62%. The drawback is that you move from a large space into a small space. Perhaps the way to go is to ask R5000pm but rent the house as a "shared" space where you can still access the garden, kitchen etc but you have you own private studio. The return on investment is then 23.8%.

Play around with the numbers. Just make sure that you do not overcapitalize. If you have to sell your house one day you still need to be in the market range for similar properties.

Confusion

There is an inherent need in people to know what is going to happen. We love the suspense but struggle to get on with life until we know the ending. And then, when we know, we exhale and start breathing again.

So, in 2016 we have many such uncertainties. Think about the Brexit vote, Trump or Hillary, Inflation or deflation in Europe, Zuma or Pravin in South Africa, Downgrade or Downgrade in South Africa :-), rate hike in USA (when)?

And what do we do when we have these uncertainties? We pull back into our safe zone and protect what we have got. I see more people doing alterations to their homes than going out and buying a new one, I see more banks refusing to lend to consumers and more investors refusing to lend to the State Owned Enterprises (SOE's).

The good news is that we will get certainty about most of these worries soon. But what will happen then? I can only speculate but consider this:

Trump/Hillary: I can still not comprehend that the best this mighty, innovative USA can do is come up with these two people to lead them. To think that one of them will be such a powerful person in a few months. Anyway, if Trump becomes president it will cause an upset in international relations and infighting in the US. I think everything in the world will take a step back like when the Brexit got the vote.

Inflation/Deflation: This will have a stronger and longer impact on world markets. If we see deflation in the USA and Europe, shares will drop and central banks will have no more ammunition to stimulate the economies. It might be a long downwards spiral.

Zuma/Pravin: We all know that if Pravin goes, so will the Rand, our credit rating and lots of international and local investors.

SA downgrade: I think this is unavoidable but miracles do happen.

USA rate hike: The USA is recovering nicely and a normalization of the interest rate is expected. This will support the strong Dollar and it will become more difficult for the Rand to strengthen.

For a South African investor it will be difficult to see the Rand strengthen much more, it will be important to invest in shares selectively and remained focused on the longer term. There are some shares I like at current levels because they are international income earners with fantastic management teams like Brait and Steinhoff. Although the property sector in SA is very crowded and consumers are under pressure, I still see Attacq as undervalued in the longer term. The only difficulty with Attacq is that they do not pay a dividend so you get nothing while you wait for them to re-rate.

To be transparent, I own all the shares mentioned above.

Investing in international, multinational shares is paramount. If you are an investor and do not own Apple, Google (Alphabet), Facebook or Amazon shares, it is like not investing in Leonardo da Vinci in the early 1500's. Unfortunately they are rather expensive now but if something should happen and they become cheaper, I would recommend you buy some.

Politics, Currencies and Commodities

In my newsletter to clients at the beginning of the year I stated two uncertainties for the 2016 investment year:

• As a South African investor, do I convert my Rand into Dollar at R15.55/$ and invest offshore?
• Do I start buying the heavily oversold commodity shares like Anglo American, Amplats, Impala, Harmony, Kumba etc?

My feeling was that the Rand will find it difficult to strengthen significantly given the political situation in SA as well as the risk of a downgrade of SA's debt to junk status. I also thought that as an investor into the commodity shares, the return on these shares, 5 years from now should be good.

On the first point, the Rand collapsed to R17/$ early in the year but currently (in mid April) it sits at R14.50. So after a 9% weakening, it strengthened almost 7% to the US$ year to date.

On the second point, resources shares shot up faster than you could invest in them. Anglos 104%, Amplats 118%, Impala 87%, Harmony 246%, Kumba 152% and so it goes on.

For me the sort of clarity gained by these two outcomes can be described as significant. Why? because of the following:

The Rand

If you read my posts going back a couple of years, you will see that my sentiment towards South Africa turned more and more negative. I saw the corruption and arrogance of one man, Zuma, impacting the credibility of South Africa as a nation and knew that the cancer would spread until it was cut out. The problem was that the removal of this cancer could only be done by politicians with the support of the media. If the Nene and Nkandla debacles were not taken up by the DA, EFF and Media, it would have disappeared. The "one man one vote" would not have changed things.

The currency of a country is an accurate indicator (over the short term), of international sentiment towards the country. If you make a mistake, your currency will weaken, and if you do something right, your currency will strengthen. This will only happen over the very short term. Over the longer term, economic fundamentals will determine the level of the currency.

So to me, the Rand strength indicates that Zuma is losing power and that we will soon have a new leader in SA. So even if we get a credit downgrade or economic blowout and the Rand goes back to R17/$, it will not be political. (You can clearly see that I can accept free market movements but not political interference).

Commodities

The significance of the bounce in commodity shares is that we have reached the turning point. A free fall is never nice because of the uncertainty as to where it will stop. Uncertainty is the worst scenario for any investor. So as I have said before, if you are not in the market, you will never get in. How difficult is it to invest in a company that has jumped 104% in 2 months!

Conclusion

For me the great take away from the issues regarding the Rand and the Resources, is that I feel some sense of control returning. I know that there will always be corruption in politics and we will play this game again. I also know that there will be another collapse in some asset class but for now I feel more positive.

Don't panic!

The reason why I am saying this is because it is too late! The dark clouds have been building in the world markets for a while now. We have written about it and we have read the predictions. So now that the panic is setting in, the frail rationality of human beings is collapsing in a heap.

If you were prudent in your investment planning, you will be in a position where you can sit on the sidelines because you will have enough cash to see you though this bad patch. If you are an investor of new money, you are buying assets at 15% less than a few months ago!

For the most part I think it is more negative sentiment than anything else. The main culprit of this negative sentiment is the continuing slowing down of the Chinese economy. This causes the further drop in commodity prices and lowering of oil prices.

This might continue for a while and I am sure that marginal companies and even economies will be wiped out. It is like a bush fire that burns hot and moves fast. It takes away all the grass but leaves the trees. As a South African investor, your offshore investments are protecting you against the worst because of the depreciation of the Rand (beautiful to see diversification paying off).

Just don't panic and sell your equity investments. Markets will bounce back one day and if you sell out now and put your money in cash, I can almost guarantee you that you will not get back into the market in time for the bounce.

Looking back at 2015 and thinking about 2016

Equities

I can almost copy the piece I wrote last year on the same topic. So far we have seen subdued equity returns in South Africa (3.75%) and the same can be said for the USA (1.52%) with France and Germany performing well. The growth in China is still faltering and the resulting effect of the weakness in commodity prices can be seen in the resource companies worldwide.

Anglo American               -59%

BHP                                    -25%

Anglo Platinum                -41%

Impala Plats                     -59%

Exxaro                               -55%

Kumba                               -79%

Lonmin                              -98%

The Resources sector on the JSE is down 37.5% year to date (30 November). As I mentioned at the beginning of the year, selecting the companies you want to invest in will be the critical thing to do. Ignoring the small cap companies due to their high risk profile, investing in the following medium and large cap companies would have made you a fortune:

Steinhoff                           36%

Brait                                   104%

PSG                                     111%

Naspers                             41%

SAB                                     43%

BAT                                    33%

Investing in the Financial and Industrial sectors of the JSE would have given you 5% and 15% year to date. The long and the short of it all is that investing in Equities is not the problem, the ability to select the right share or sector is the clincher.

Currency

As predicted the Rand is 24% weaker today than it was at the beginning of the year. I mentioned that the raising of interest rates in the USA would put pressure on the Rand and now that the increase is very likely in December, the Rand is collapsing. I wish I could say that the Rand should strengthen a bit but unfortunately there is another important factor that should be considered, the SA Government.

Government

In the Business Day of 26 November 2015, there is an article on the front page with the headline that reads “State loses R1bn amid poor controls”. It goes on to say that last year the State (using our tax money), lost R1.2bil due to “fruitless and wasteful expenditure”. Then there is an article on page 8 that reads “SA’s choice: populism or growth”. This article goes on to explain what the current government is doing to the country and I can understand why people are converting Rands to Dollars at R14.40 to $1 and getting out of SA Inc.

MTN and Volkswagen

There are 3 things that surprised me during the year and they were the severity of the Rand collapse, the collapsing of commodity prices and the third one was the shockingly bad management of big multinational companies like MTN and Volkswagen. Just taking MTN as an example. How can you not adhere to the laws of a country regarding the registration of SIM cards? As an investor, we trust the management of the companies we invest in to be honest and diligent. In the case of Volkswagen they actually tried to deceive the authorities regarding the emissions of their diesel engines.

Unfortunately MTN and Volkswagen are not the only companies who violated the trust of their shareholders, there are many more. So now we get into a situation where you can value a company and determine that it is a fantastic investment just to be wiped out by something management does.

Investing in Africa

Nigeria can only be described as a desperate nation when it comes to collecting revenue. After the collapse of the oil price and their currency, Nigeria is in serious trouble and the ridiculously big fine they have given MTN is proof of their desperation. They have also tried to get money from Standard Bank and so they will bleed the companies that actually contribute something towards their existence dry. And then we have to consider huge investments in Nigeria by SA companies like Tiger Brands which had to be written down to nothing due to the lack of profitability.

Nigeria is not the only African country that has run out of money and are targeting profitable companies to bail them out. I will not touch investments in Africa with a barge pole at this stage but still I see companies investing Billions. The only logical explanation is that they are going for the “high risk / high return” scenario.

South Africa is also becoming desperate. Do not be surprised if your taxes are increased and demands made on your assets very soon.

Interest rates

We have seen another rate increase in SA. Inflation is not a problem and it seems like it will remain subdued due to the balancing effect of the low oil price (lower inflation) and the weak rand (higher inflation). It is difficult to justify the rate increases with a GDP growth rate of below 2% so it must be the way the Central Bank wants to protect the currency.

Politics

Jacob Zuma is an incompetent leader and now senior ANC members are talking openly about it in the newspapers. There are two Business day articles that come to mind. On 14 October Tito Mboweni touched on tender corruption as well as land reforms and nationalization. On 2 November Kgalema Motlanthe stated that the “Tripartite alliance is dead”. As I have stated before, there are many very clever people in politics, irrespective of party, who can turn SA from a suffocating endangered species into a thriving country.

So will Nkosazana Dlamini-Zuma or Cyril Ramaphosa replace Jacob Zuma soon or will he be allowed to continue signing anti-investment legislation into law.

2016

If we end the year with the All Share index on the current level of 51 600, we can expect a better year for equities in 2016. If there is a stabilization in the commodity prices and the earnings priced into the star performers of 2015 comes through, we can expect an inflation plus 3% return before dividends. Rising interest rates will detract from investments in Bonds and possibly also some of the overpriced Property companies.

International equities might not outperform SA equities but on a risk adjusted basis due to the diversification properties thereof, I would strongly advise not to neglect this asset class. I have very little confidence in the ability of the Rand to strengthen under the current circumstances but stranger things have happened. I would continue investing according to a strategic asset allocation plan regardless of the level of the Rand.

Summary

Diversify, manage your cash requirements and stay emotionally unattached when investing in 2016.  Make sure you have no debt, be a bit more conservative when investing and make sure you know what you are investing in (or give it to someone who does). The word is becoming a tumble dryer. Just when you think you are up you tumble down again, just to be lifted up again. Remember to spend less than you earn and keep on beating inflation over time.

Blood in the mines!

South Africa is in a bit of a pickle......, only joking! We are in a HUGE pickle!!!

So the "sell in May and go away" worked this year. The Rand is at R12.90 to the $ and every mine company is down scaling faster than their share price is falling, which is VERY fast! If you are a South African investor, your only saving grace is the depreciation of the Rand against the US$ and other currencies. I have been pulling a 12% return on every US$ I bought at the beginning of the year without even getting out of bed.

Now we all know the bad apple is actually China. They just got up and left the party, leaving us all with a major headache. So our eyes turn towards Uncle Sam off-course! They have to get up and help us because we are not capable of being forward thinking and productive. No, we would rather demand wage increases twice the rate of inflation and working as little as possible for it. We would also rather squeeze as much out of the the few productive companies and entrepreneurs in South Africa than providing uninterrupted power to do business.

So here is the deal. If you want me to pay taxes, which will provide you with the funds to develop the country, then you have to provide me with a stable and reliable platform and, understand that if I have to pay more than what I can earn from running my business, then I will close the shop and go fishing.

"Ask not what your country can do for you, ask what you can do for your country"

So in the South African version of this quote the"your country" is replaced by "ZUMA"

We have to do it for ourselves until the government wakes up. Here are some things to remember:

• Newspapers only tell the bad of a story. There are always some positive as well.
• Cash is king for only a short period of time. It has a very short shelf life.
• Inflation is you target for investment returns, not your neighbor's returns.
• Never focus short term, you might live longer than you think.
• People want to spend money, invest in those companies that give them the opportunity.

Remember, things change for the better, always!

Time is running out for easy money

Well, it has been running out for a while now. Yesterday I wrote an investment note to some of my clients with direct equity portfolios and advised them on a few shares we should buy at target prices, rather lower than the then live trading prices. Today we are almost at those target prices after a rather steep drop in the South African shares.

The thing is, the countdown started when the US Fed stopped lowering interest rates in the USA. Now the Fed is looking at hiking interest rates in September or October. The long and the short of the story is that rising interest rates will be negative for most shares.

Now the question is: What do I do?

I think one should consider the following:

You already have an equity investment:
If you have been in the market for a while you have made good money. If you are still a longer term investor (5 yrs +), then do nothing. Yes, just sit on your hands! Trying to time the market will cost you.

You have new money to invest:
If you want to be an investor for the longer term and you want to invest on a monthly basis, then start now. There is no reason why starting later will work better cause we might see the markets go higher before they go lower.

If you have a single Lump Sum to invest, the safest option will be to invest a portion now and leave some for later in the year. Perhaps the first rise in rates will not have such a negative impact because everybody knows it will happen, BUT, maybe there will be a better buying opportunity later in the year.

You are a shorter term TRADER
I will take some profits on shares that have performed well and build up the cash position. Set a lower target price that will be fair value and start buying back when the share gets there.

Consider this:
The old adage is "sell in May and go away". So the markets are usually weaker from May till November but now the markets might get a double whammy if interest rates are hiked in September.

We might have seen the best returns 2015 has to offer!