The Investor May 2019

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By Richard Cluver

Over half of all the income tax collected in 2018 came from just 5 040 449 South Africans out of a total population currently estimated to number 57 398 421.

Putting that into understandable numbers, 8.8 percent of South Africans paid half the income tax collected while just 109 783 or 1.5 percent of taxpayers who earned over R1.5-million a year contributed nearly 27 percent of collected income tax totaling R134.6-billion.

Putting that another way, one in every 523 citizens paid an average of R1.26-million in income tax while another one in 357 paid an average of R385 681.

In the past tax year, 85.5 percent of all taxpayers earned more than R350 000 a year.

Given persistent rumors that in the face of the destructive Zuma years and a constantly-rising tax burden, wealthy South Africans are leaving the country in droves. It is interesting to note that ten years ago, in the 2008 tax year, there were in fact only 5.2-million individuals registered for income tax. So the total number has actually trebled and, going back a further five years to the year 2002 when only 3.415-million South Africans were registered for tax, the number has actually increased more than four-fold.

More importantly, the aggregate rate of tax paid by people whose income exceeded R1.5-million a year represented 26.6 percent of their income compared with 40 percent back in 2008 and 60 percent 40 years ago back in 1978.

Back in 2008 the maximum marginal rate of taxation of 40 percent came into effect for persons earning over R490 001. So let us escalate the buying power of that sum by the five percent average rate of inflation since then and you will see that R490 000 back then is equal to a present day buying power of R798 160 which, referring back to the table above, shows that currently 6.8 percent of present day taxpayers have incomes greater than this amount and are collectively paying 50.1 percent of total taxes collected.

The apparent conclusion to draw from these figures is that if the wealthiest group of South Africans is indeed emigrating in the hope of being less taxed elsewhere, then it would appear that sufficient numbers are rising in wealth in order to replace them. Furthermore, the income tax burden appears to be more evenly spread than in the past.

What might, however, be the greatest cause for concern is the following graph provided by Trading Economics which shows how Government has been extracting an ever-rising proportion of Gross Domestic Product which implies that there is a steady reduction in the sums available to fund infrastructure and industrial investment with an obvious negative knock on for job creation.

Small wonder then that our unemployment rate has soared in recent years! Here, in case you have overlooked what has been happening is a graph of the past ten years from the same source:

And if you want to see the history of tax collection in South Africa in actual numbers, consider the following very informative table provided by SARS:

Finally, SARS also provided the following useful graphic so that you can see where all the tax revenue came from:

But the most telling graph of all is the following which shows how our taxes have grown in aggregate so that today they represent 15.12 percent of South Africa’s gross national product; way ahead of developed countries like Germany and Italy and three times those gathered by developing nations like India, Nigeria and, surprisingly global economic powerhouse, China.

There is a simple conclusion; if we want to achieve economic growth we need to reduce taxation.

Squeezing a monthly income out of a small sum

By Richard Cluver

Last month I detailed how to go about creating an inflation-proofed investment portfolio for a well-heeled retiree with R12-million lump sum by investing half the sum in sovereign bonds and half in blue chip shares. And then I promised to explain how I provided an adequate income for an elderly retiree out of a relatively tiny capital sum.

And I promised to tell you how.

Sadly, nine out of ten South Africans fail to adequately provide for their retirement and end up needing support from the State or their children or both because most folk fail to understand that they need to save in addition to their employer-based contributions to pension funds and insurance policies.

Inevitably then one of the most frequent calls I receive is from people asking for help in creating an adequate living income from very modest capital sums. I was recently called upon to assist a retiree of advanced age who was deriving an income of 8.5 percent a year from his sovereign bond investment. That was providing him with a monthly income of R14 000 and he needed R20 000 to live on.

Though the approach that I adopted for him is not without risk, I was able to create

a portfolio for him which provided R20 784 a month. Furthermore, his portfolio should provide him with an inflation-beating growth rate of 8.5 percent a year based upon its average growth over the past decade. I need to stress, however that by opting to invest the bulk of his capital into just two shares, we were in a traditional investment sense being somewhat imprudent insomuch as by doing so we have removed the very important aspect of “spread”.

Normally I try to emphasise to all retiree share market investors the importance of spreading their money over at least 10 and preferably more Blue Chip shares and for every year thereafter to add one additional Blue Chip.

To understand why this is a concern you need to appreciate that in the 1987 bear market the JSE Overall Index lost 30.13%, in the 1990/91 market the index lost 24.12% etc

In fact, on average since 1987 the JSE has had a serious bear phase every 54 months during which it has lost on average 29.19 percent. This has been compensated for by the fact that in each subsequent phase the market has gained an average of 56.28 percent. The following tabulation sets this out in detail:

JSE Overall Index bear markets 1987 Onwards

Markets since 1987





Running average

Months between Peaks

Gain % between peaks

19 Oct 87




19 Mar 90







3 Jun 92







6 Aug 97







17 Apr 98







21May 2002







21 May 2008







23 Apr 2015







24 Jan 2018











What one needs to take from this analysis is that on average every four and a half years the share market loses a third of its value and, although it has always recovered handsomely thereafter, it is very uncomfortable to sit back and watch your hard-earned capital simply disappear in a phase of pessimism. Furthermore, between these overall decline phases, individual companies suffer their own profit cycles and, while the best-managed invariably recover, both the value of the shares and the dividends they pay tend to suffer. That is why analysts customarily advise investors to spread their money over a larger number of shares and, as they grow older and become increasingly unable to “go back to work to earn some more money,” they recommend increasing the spread.

It makes sense that if you have a 10-share spread within your portfolio and one of them loses a third of its value then the overall effect is a 3 percent loss while the same event in a 20 share portfolio is a 1.5 percent loss. Taking this example and applying it to a two-share portfolio; a 30 percent loss in value of one of them means our elderly investor would have lost 15 percent of his savings. Clearly then, spread is desirable.

However here is the problem, in the table below I have listed the top 35-JSE-listed companies in descending order of their dividend yields which, you can see, ranges from 10.9 percent to 1.2 percent a year while the average of all that I define as Blue Chips on the basis of them all having satisfied some discerning financial fundamentals, was a mere 4.2 percent a year.

Clearly you can see that a retiree with R1-million to invest who opted for a very safe 35-share spread could only expect an income of R42 000 a year which equals R3 200 a month whereas a four-share portfolio chosen in descending order of my list would offer a 10.25 percent return or a monthly R8 541.66.

High income also comes at a cost if you consider the second column of figures for it is also plain that the companies offering the highest Dividend Yields have also enjoyed a below average dividend growth rate over the past five years while the third column of figures headed 5YrGro makes it clear that on average the highest dividend payers have also enjoyed comparatively low share price growth.

These latter observations should be no surprise for the reality is that investors usually compete to invest into the shares of companies that enjoy the highest levels of profit growth which tends to reflect in dividend and price growth over time. That is why Italtile which has enjoyed an average dividend growth rate of 62.99 percent a year over the past five years has been so driven up in price that its dividend yield is a mere 2.5 percent whereas the Emira Property Fund which has seen its dividend grow by 4.9 percent a year has been sold down to the extent that its dividend yield currently stands at 10.8 percent.

In the graph composite below you can see that over the past five years, Italtile shares (top graph) have risen steadily in value while Emira (lower graph) have been all but static:

The lesson to draw from this is that when there is a need to draw a high income from a share portfolio one is exposed to risk since there are few good companies sitting at high dividend yields and so one cannot achieve a safe spread. Secondly one pays the price of diminished dividend growth which means that over time such a portfolio would normally suffer from inflation erosion.

To counter these risks, the best option is to choose the best combination of high dividend yield and high profit growth whenever it occurs. Two high-yielding Blue Chips were, at the time of writing, Growthpoint which had enjoyed a five-year dividend growth rate average of 7 percent and Hyprop which has recently been available at a dividend yield of 10.9 percent and had in the past enjoyed average dividend growth of 29.27 percent. Though both companies have done well over the past 20 years as my graphs below illustrate, recent dividend growth has not, however, been reflected in the growth of the price of the shares.

The implication is clear. Long-term investors should as a general rule avoid risk-prone small portfolios and high dividend yield shares unless there are special exceptions where a high yield is required. In such cases one needs to adopt an alternative policy of setting aside as much of the hopefully surplus of income over expenditure in order to acquire as regularly as possible parcels of high quality growth shares so as to, over time, revert to a wider spread.
In the case of the elderly investor for whom equal investments in Growthpoint and Hyprop property companies has provided him with something over R20 000 a month and, provided long-term-history repeats itself, a steadily rising income, I considered his age was the factor that allowed us to take the risk of avoiding an investment spread. However, I strongly cautioned him to use ALL surplus income towards re-investing in either the money market, Blue Chip shares or bonds depending upon the state of all three markets whenever such sums arose.

Rising risk as dividends outpace earnings on the JSE

By Brian Kantor

JSE dividends (All Share Index dividends per share) have increased significantly faster than earnings over recent years. The payout ratio (dividends/earnings) that averaged about a steady 40% between 1995 and 2016 has increased to about 60% of earnings.

If we leave Naspers, now about 18% of the All Share Index, out of the calculation, the payout ratio is now close to 70% of reported headline earnings. This ratio is unusually high by international and emerging market comparisons.

Since 2012 JSE dividends per share in Rands have doubled while reported earnings are only 20% higher than they were in 2012. Share prices are about 100% up on 2012 levels and have tracked dividends more closely than depressed earnings. A value gap between dividend flows and the price paid for these dividends has opened up. Our model of the JSE indicates that the JSE may be about 15% below its ‘fair value” as predicted by reported dividends and interest rates (see figure below).

Fig.1 JSE All Share Index, earnings and dividends per share (2012=100)


Source; Ires and Investec Wealth and Investment

JSE dividends and earnings are currently growing at about the same rate of about 13% p.a. and are forecast to sustain growth rates of about 10% p.a over the next twelve months. (see chart below).

Fig.2 JSE growth in All Share Index earnings and dividends per share


Source; Ires and Investec Wealth and Investment
Should shareholders welcome or disdain this higher payout ratio? If a company has prospective returns from its investment programme that exceed its cost of capital, it should retain all the cash it is generating and invest it back into the company on behalf of its shareholders. Shareholders can only hope to achieve lower market related, risk adjusted returns with the cash distributed to them. If the company can beat this opportunity cost of capital, it should not pay dividends or buy back its shares. Indeed in such circumstances free cash flow (cash retained after capital expenditure) will ideally be negative rather than positive. A true growth company would be well justified in raising fresh equity or debt capital to fund its expansion and be revalued accordingly with sustainably faster growth in mind.

That SA companies are paying out more of their earnings is both good news and bad news for shareholders and the economy at large. The good news is that paying out 

The attempts SA companies have made seeking growth offshore have often proved value destroying rather than value adding. Such attempts typically add unwanted complexity to SA businesses and reduce their value. While they may diversify away some SA specific risks, shareholders are fully able to undertake their own diversification investing directly in offshore companies. They do not need SA managers to do it for them and venture outside their area of competence.more is better than undertaking capital expenditure, including mergers and acquisitions, that cannot be expected to beat their cost of capital and add value for shareholders.

The bad news implication of higher SA payouts is that it reflects an understandable reluctance to invest more in what has become very slow growth South Africa. Such a reluctance to invest more in capital or people (also called working capital) while good for shareholders, inevitably reinforces the slow economic growth under way.

The solution to the problem of high pay outs in South Africa is to get growth going again. Companies will then invest more in growing markets for their goods and services and retain more cash to the purpose. They would be doing more good for shareholders, their customers, their employees and the wider economy.

It is unrealistic to expect SA firms to invest more unless the markets for what they produce can also be expected to grow. It is the spending of SA households that determines the path of the SA economy. It is the consumption egg that leads the investment chicken.

Without the stimulus of lower interest rates household spending will remain subdued. We can only hope a stronger rand and consequently less inflation will allow the Reserve Bank to help the economy along – rather than stand in its way.

The world’s most profitable company

Aramco, the Saudi Arabian state-owned oil giant has earned the title of world’s most profitable company.

Why this is a big deal: Aramco’s financials have been locked away from public view since it was nationalized in the late ’70s. Now that Moodys has published the numbers, it’s Christmas in May for us balance sheet voyeurs.

Show me the money

On revenue of about $360 billion, Aramco made $111.1 billion last year, which beats annual profits at runner-up Apple ($59.5 billion) and Alphabet ($30.7 billion) …combined. It’s also 5x that of Aramco rival Royal Dutch Shell.

Moody’s said that unparalleled profitability is due in part to economies of scale. No surprise Aramco’s oil and gas assets are of “unmatched size,” per the NYT.

  • Aramco produced an average of 13.6 million barrels per day in 2018…
  • Which is more than 3x Exxon Mobil’s daily production average.

Making it more impressive: Aramco pays taxes of about 50% to the government, accounting for 70% of Saudi Arabia’s revenues from 2015-2017, per Fitch Ratings. The government has come to realize that’s not the recipe for a healthy economy in the long-term, so it’s started to use those funds to invest in other ventures, like smart cities.

Why get transparent now? Aramco is seeking a credit rating to raise money for its plan to buy a 70% stake in Saudi petrochemicals company Sabic for $69.1 billion.

About that IPO. Saudi Crown Prince Mohammed bin Salman had earlier announced plans to list 5% of Aramco in 2018 at a valuation of about $2 trillion…in what would likely have been the biggest IPO ever. The listing has been put on ice following concerns Aramco’s value wasn’t close to MBS’s estimate.

Recession Signs Everywhere

By John Mauldin

In April the US Federal Reserve joined its global peers by turning decisively dovish. Jerome Powell and friends haven’t just stopped tightening. Soon they will begin actively easing by reinvesting the Fed’s maturing mortgage bonds into Treasury securities. It’s not exactly “Quantitative Easing I, II, and III,” but it will have some of the same effects.

Why are they doing this? One theory, which I admit possibly plausible, was that Powell simply caved to Wall Street pressure. The rate hikes and QT were hitting asset prices and liquidity, much to the detriment of bankers and others to whom the Fed pays keen attention. But that doesn’t truly square with his 2018 speeches and actions. The Fed’s March 20 announcement suggests more is happening.

I think two other factors are driving the Fed’s thinking. One is increasing recognition of the same slowing global growth that made other central banks turn dovish in recent months. The other is the Fed’s realization that its previous course risked inverting the yield curve, which was violently turning against its fourth-quarter expectations and possibly toward recession (see chart below, courtesy of WSJ’s “Daily Shot”). That would not have looked good in the history books, hence the backtracking.

On the second point… too late. The yield curve inverted, and recession forecasts became suddenly de rigueur among the same financial punditry that was wildly bullish just weeks ago.
My own position has been consistent: Recession is approaching but not just yet. Yet like the Fed, I am data-dependent and the latest data is not encouraging. Today, we’ll examine this and consider what may have changed.

Cracks Appearing

Let’s start with a step back. The global economy clearly hasn’t recovered from the last recession like it did in previous cycles. Yes, the stock market performed well. So has real estate. We’ve seen some economic growth, which in a few places you might even call a “boom”, but for the most part it’s been pretty mild. Unemployment is low, but wage growth has been sluggish at best. Rising asset prices, fuelled by almost a decade of easy monetary policy, also contributed to wealth and income inequality, which fuelled populist and now semi-socialist movements around the world.

This slow recovery began fading in the last few quarters. The first cracks appeared overseas, leaving the US as an island of stability. Not coincidentally, we also had (slightly) positive interest rates and thus attracted capital from elsewhere. This let our growth continue longer. But now, signs of weakness are mounting here, too.

Recall, this follows years of astonishing, amazing, unprecedented, and astronomically huge monetary stimulus by the Federal Reserve, Bank of Japan, European Central Bank, and others. In various and sundry ways, they opened the spigots and left them running full speed for almost a decade. And all it produced was the above-mentioned weak recovery. (Chart below from my friend Jim Bianco, again via “The Daily Shot”)

That, alone, should tell you that putting your faith in central bankers is probably a mistake. We can’t know how much worse the last decade would have been without their “help,” but does this feel like success?
Yet here we are, with millions still in the hole from the last recession and another one possibly looming. We also can’t rely on historical precedent to identify where, when, or why it will start. But we can make some educated guesses.

Earlier, I called the US an “island of stability.” Other such islands exist, too, and Australia is high on the list. The last Down Under recession was 27 years ago in 1991. No other developed economy can say the same.

The long streak has a lot to do with being one of China’s top raw material suppliers during that country’s historic boom. Australia has done other things right, too. Alas, all good things come to an end. While not officially in recession yet, Australia’s growth is slowing. University of New South Wales professor Richard Holden says it is in “effective recession” with per-capita GDP having declined in both Q3 and Q4 of 2018.

(By the way, Italy is similarly in a “technical recession.” Expect more such euphemisms as governments try to avoid uttering the “R-word.”)

As often happens, real estate is involved. Australia’s housing boom/bubble could unravel badly. Last week, Grant Williams highlighted a video by economist John Adams, Digital Finance Analytics founder Martin North, and Irish financial adviser Eddie Hobbs, who say Australia’s economy looks increasingly like Ireland’s just before the 2007 housing collapse.

The parallels are a bit spooky.

Australia’s household debt to GDP was 120.5 per cent as of September last year, according to the Bank for International Settlements, one of the highest in the world. In 2007, Ireland was sitting at around 100 per cent.

At the same time, the RBA puts Australia’s household debt to disposable income at 188.6 per cent. Ireland was 200 per cent in 2007, while the US was only 116.3 per cent at the start of 2008.

RBA figures also show more than two thirds of the country’s net household wealth is invested in real estate. In 2008, that figure was 83 per cent in Ireland and 48 per cent in the US. Meanwhile, 60 per cent of all lending by Australian financial institutions is in the property sector.

In 2007, the International Monetary Fund gave the Irish economy and banking system a clean bill of health and suggested that a “soft landing” was the most likely outcome. Last month, the IMF said Australia’s property market was heading for a “soft landing”.

House prices in Sydney and Melbourne have fallen nearly 14 per cent and 10 per cent from their respective peaks in July and November 2017, coinciding with sharp drop-off in credit flowing into the housing sector both for owner-occupiers and investors.

Real estate is, by nature, credit-driven. Few people pay cash for land, homes, or commercial properties. So when credit dries up, so does demand for those assets. Falling demand means lower prices, which is bad when you are highly leveraged.

It gets worse from there as the banking system gets dragged into the fray. Losses can quickly spread as defaults affect lenders far from the source.

This is not only an Australian problem. Similar slowdowns are unfolding in New Zealand, Canada, Europe, and China. It’s a global problem, and one company reveals the impact. Shipping and transport stocks are kind of a “canary in the coal mine” because they are among the first to signal slowing growth. Last week, FedEx reported its international shipping revenue was down and cut its full-year earnings guidance. Its CFO blamed the economy, reported CNBC.

“Slowing international macroeconomic conditions and weaker global trade growth trends continue, as seen in the year-over-year decline in our FedEx Express international revenue,” Alan B. Graf, Jr., FedEx Corp. executive vice president and chief financial officer, said in statement.

Despite a strong U.S. economy, FedEx said its international business weakened during the second quarter, especially in Europe. FedEx Express international was down due primarily to higher growth in lower-yielding services and lower weights per shipment, Graf said.

To compensate for lower revenue, Graf said FedEx began a voluntary employee buyout program and constrained hiring. It is also “limiting discretionary spending” and is reviewing additional actions.

FedEx shares have dropped roughly 27 percent in the past year, lagging the XLI industrial ETF’s 1 percent decline.

This little snippet overflows with implications. Let’s unpack some of them.

Revenue fell due to “higher growth in lower-yielding services.” So those who ship international packages have decided lower costs outweigh speed. Likewise, “lower weights per shipment” signals they are shipping only what they must, when they must.

FedEx is responding with an employee buyout program and “constrained hiring.” The company is overstaffed for its present requirements. This might also reflect increased automation of work once done by humans. In any case, it won’t help the employment stats.

In addition, FedEx is “limiting discretionary spending.” I’m not sure what that means. Every business always limits discretionary spending, or it doesn’t stay in business long. If FedEx is taking additional steps, then whoever would have received that spending will also see lower revenues. They might have to “constrain hiring,” too.

Obviously, FedEx is just one company, although a large and critically positioned one. But statements like this add up to recession if they grow more common… and they are.

Tariff Trouble

One reason FedEx is in the vanguard is that it’s uniquely exposed to world trade, the growth of which is diminishing for multiple reasons.

Part of it is technology. The things we “ship” internationally are increasingly digital, and they travel via wires and satellite links instead of ships and planes. These sorts of goods aren’t easily valued for inclusion in the trade stats.

Energy is another factor. Between US shale production and renewable energy sources, we don’t import as much oil and gas from across the seas as we otherwise would. That shows up in both trade and currency values. The US dollar is stronger now, in part because we send fewer dollars to OPEC.

Note the massive (and stealthy!) growth in LNG (liquified natural gas) exports in the past few years. Think what this will look like in a few years, with not one but four LNG export terminals on the US coasts. Natural gas is also the basis for much of the chemical and fertilizer industry. Abundant US supplies (and prices less than half the cost of Russian gas in Germany) help many US industries compete.

Those are just signs of normal progress and change. The economy can adapt to them. The greater threat is artificially constrained international trade, which is what the Trump administration’s trade war is creating.

Last year, I explained how trade wars can spark recession and trade deficits are nothing to fear. I won’t repeat all that here. But we have since seen several market swoons/rallies as harsher trade restrictions looked more/less likely. Whether you like it or not, asset values depend on the (relatively) free flow of goods and services across international borders. Interfere with that and all kinds of assets become less valuable.

Starting a trade war, at the same time growth is slowing for other reasons, is more than a little unwise. Agricultural tariffs have already ripped through US farm country to devastating effect, leaving losses some farmers may never recover.

The president’s tariff threats had other impacts as well. Companies raced to import foreign-supplied components and inventory before the tariffs took effect. This jammed ports and highways last year, not with new demand but future demand shifted forward in time.

This is important, and I think we will see the impact soon (if we are not already). Transport and logistics companies geared up for last year’s surge, expanding their facilities and hiring new workers. Importers built up inventory in an effort to avoid tariffs that were supposed to take effect in January. The deadline was extended, but the threat is still alive.

At some point, all this has to stop. Carrying inventory is expensive and will eventually outweigh the benefit of avoiding tariffs. Then the boom will come to a screeching halt. Imports will fall as companies work down inventory. All those jobs and construction projects will disappear.

That, combined with the other cyclical factors and high debt loads everywhere, could easily add up to a recession. Exactly when is hard to say. Recessions usually get pronounced in hindsight, so there’s some possibility we are in one right now. But I still think we’ll avoid it this year. Getting into this box took a long time and so will getting out of it.

Regardless, we’ll have a recession at some point. I think the next subprime crisis will be in corporate debt and that the next decade will bring little or no economic growth. I realize this is not a happy conclusion, but I call them as I see them. I’ll leave you with one final but critically important thought: Prepare, don’t despair. Tough times are coming but we can handle them. You have a chance to get ready. I highly suggest you take it.

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