Offshore Investments: Greater Responsibility Required

Although investing offshore will broaden your opportunity set, you will also be exposed to greater risks if your offshore investments are not correctly managed.

- Rüdiger Naumann & Natalie Phillips

The offshore allowance provided for by the relaxation of foreign exchange controls over recent years has broadened the opportunity set available to South African savers. This larger investment opportunity should support returns while lowering the volatility of the overall investment. Or so the theory goes.

In practice, the greater investment universe may add to risk, rather than reduce it, unless managed responsibly.

Offshore assets now make up a significant portion of most unit trusts used for discretionary savings and of most retirement funds. In most cases, these assets are managed independently by third-party managers or as standalone portfolios.

When separating the on- and offshore asset allocation and asset selection decision, the combined portfolio may well generate a suboptimal risk-return outcome, which is contrary to what is expected by investors.

Based on our work and track record across multiasset strategies, we believe SA investors are best served by a completion approach. The alternate is, in our view, inappropriate as it fails to sufficiently, if at all, consider the risk and return contribution it makes to local investments.

Diversification – at what price?

Portfolio construction theory relies heavily on the concept of diversification, which maintains that holding assets with low correlation to one another can deliver returns at low or lower volatility.

Low or lower volatility is associated with lower ‘risk’. Conceptually, this is both intuitive and, above all, an attractive proposition. In practice, however, the facts may provide only limited support for this argument.