PRACTICE MANAGEMENT

COVID-19 Patience and perspective are key PRACTICE MANAGEMENT

We are currently experiencing what is possibly the biggest global event since World War II, and we have definitely witnessed the fastest inflection from bull market to bear market globally. We certainly live in very interesting times.

Andrew Dittberner, chief investment officer: Old Mutual

Wealth Private Client Securities

HE EXTREME MARKET

volatility that has ensued recently is unprecedented. The sell-off has been swift. Compounding the volatility, OPEC+ (The Organization of the Petroleum Exporting Countries, an intergovernmental organisation of 13 nations) failed to agree on the oil production cuts required to stabilise the falling oil price. This resulted in the oil price, along with anything oil-related, plummeting to record lows.

Given the current environment, central banks around the world have reacted aggressively by cutting interest rates, while governments are ready to support the economy through fiscal stimulus measures of varying degrees. Yet, despite these efforts, equity markets continue to trend lower – an indication that market participants believe that these efforts may not sufficiently manage the crisis.

Unsurprisingly, investor reactions vary widely. While we have received many questions, they all ultimately boil down to the same thing: what should we do? Offering a definitive view is no more than guesswork and is likely to be incorrect. In the short-term, whether markets go up or down from here will largely be driven by investor psychology, and we do not know what the immediate future holds.

Every crisis is different, making it increasingly difficult to draw inferences from previous pandemics. It is important to remember that all market participants are human, and irrespective of the façade put forth, it is likely that everyone has had

T

a moment or two of panic. While this is a human reaction, it is important not to allow those emotions to drive our investment decisions.

With central banks acting incisively, it is positive to see that fiscal stimulus is following suit. Fiscal stimulus is viewed as the more appropriate response given that the panic we are witnessing is due to a cash flow crisis. Business owners face mounting costs, yet cash flow is diminishing as the economy slows. Fiscal intervention and potential bailouts should therefore be viewed as positive developments in this environment.

OUR VIEW ON MARKETS

Heading into 2020, our view on both local and global equity markets was neutral. While we viewed SA equities as attractively priced, we were not confident that local corporates would be able to deliver sustainable earnings growth in a depressed economic environment. Globally, we were concerned about ever-rising valuations in a slowing global economy.

Given the recent sell-off, the local market has become even more attractively priced. However, the likelihood of earnings growth from SA corporates this year is diminishing. Globally, equity markets certainly appear more attractively priced today. Similar to SA though, we expect to see steep declines in company earnings in the first half of 2020, and possibly into the second half too. We will be in a better position to gauge market levels relative to economic reality once data becomes available and we begin to see the extent of the economic fallout.

It is important to note that markets tend to bottom before the bad news does. Therefore, it is prudent not to sell out of the market during times of volatility, as one is likely to miss the recovery that ultimately ensues. Similarly, it is prudent not to invest all of ones’ capital in the first leg down of a bear market. Investors often forget how low markets can go; and as John Maynard Keynes famously said, “Markets can remain irrational longer than you can remain solvent”.

PATIENTLY AWAIT AND ASSESS THE OPPORTUNITIES

Going back to the question around what investors should do, our answer would be: exhibit patience and avoid panic. The market will present opportunities that we will look back at one day as once-in-a-lifetime bargains. Investors need to be ready and prepared to capitalise on them when they occur.

In identifying opportunities, valuations will always remain important. However, in these circumstances, we believe that focusing on companies’ balance sheets is critical. Can companies survive a sustained downturn in the economy without having to raise further capital? This consideration should be at the top of the checklist. Secondly, is the impact of the coronavirus a transitory event, or is it likely to lead to a permanent impairment of all future earnings and cash flows? The answer to this question needs to be considered when valuing the business. If it is transient, the longerterm impact on a company’s valuation is likely to be less significant. Similarly, certain companies will benefit in the current environment. Equally important is understanding whether consumer behaviour and preferences will change permanently, or whether behaviour reverts to normal post COVID-19.

In these times, it is far easier to hold a pessimistic view. Hearing that the world is coming to an end is interesting, while hearing that things will get better in time is less so. Paraphrasing from an article by Morgan Housel (former columnist at The Wall Street Journal), “The difference between pessimism and optimism often comes down to time.” In the short term, there is a vast amount of uncertainty that lies ahead of us. However, history has repeatedly proven that long-term gains exceed short-term shocks. And, given our innate ability to evolve and adapt to situations, we see no reason why the ultimate outcome should be any different this time around.

REFERENCES

de Marinis F et al. ASTRIS: a global real-world study of osimertinib in >3000 patients with EGFR T790M positive non-small-cell lung cancer. Future Oncology 2019 10.2217/fon-2019-0324. Wu,YL et al.CNS Efficacy of Osimertinib in PatientsWith T790M-Positive Advanced Non–SmallCell Lung Cancer: Data From a Randomized Phase III Trial (AURA3). 2018;26:2702-2709.

Are there tax planning opportunities amid COVID-19?

In these uncertain times, the old adage, ‘Nothing is certain except for death and taxes’ rings true. But during these challenging times, the COVID-19 pandemic may provide an opportunity for savvy investors to reduce their taxes by taking advantage of the estate and tax planning opportunities at their disposal.

COVID-19 SENT THE

global equity markets into freefall, including that of the Johannesburg Stock Exchange (JSE). At its lowest point in March, the JSE All Share Index had declined by over 30% since the beginning of the year and while it has since recovered some ground, the losses are still quite substantial.

TRANSFERS TO TRUSTS

Over the last few years, trusts have come under increased regulatory scrutiny and it is now much more expensive for individuals to transfer assets to trusts. More specifically, Section 7C of the Income Tax Act (effective 1 March 2017) has resulted in the transfer of growth assets – usually fixed properties and share portfolios – by way of an interest-free loan now being subject to tax. This has made it more costly to fund a trust by means of a loan account.

The aim of section 7C is to prevent estate duty and donations tax avoidance using interest free or low interest loans to transfer assets to trusts. If a trust incurs: • No interest in respect of a loan or • Interest at a lower rate than the official rate of interest, then the difference in interest between the official rate of interest and what was charged will be treated as a donation payable by the person who granted the loan to the trust. The official rate of interest is the repurchase rate plus 1%; currently 6%. If the client has not utilised the annual R100 000 donation, it can be offset against the “deemed donation” on the interest free loan. This means that only loans owed by the trust in excess of R1 600 000 will attract donations tax.

However, with markets in rapid decline, the value of share portfolios has significantly decreased. Therefore, the current environment might represent a good opportunity to transfer share portfolios into a trust as the capital gains tax (CGT) payable would have reduced significantly. As markets recover, the share portfolio – now owned by the trust – should then increase in value to the trust’s benefit.

USING THE OMI LIFE WRAPPER

Similarly, an existing offshore share portfolio could be transferred to the Old Mutual International (OMI) life wrapper, thereby triggering a CGT event (a ‘deemed disposal’). As the value of the share portfolio would be lower because of the decline in global markets, less CGT would be payable. The maximum effective CGT rate currently payable by an individual is 18%, which is much lower than the 40% situs tax payable on death should the portfolio remain in the individual’s name.

The OMI life wrapper has many benefits for investors, including: • Lower CGT rates at 12% • No probate application necessary on direct offshore investments housed in the

OMI wrapper • No offshore will be required, therefore no offshore executor and reduced fees • No executor’s fees are payable where there are nominated beneficiaries • No situs tax applicable on direct share portfolios within the wrapper. In the UK, 40% inheritance tax is payable on the value exceeding £325 000, and on the value exceeding US$60 000 in the US • Old Mutual is responsible for the tax reporting obligations and payment to SARS.

THE VALUE OF ADVICE

While the current turmoil across global markets presents numerous challenges, there are some valuable tax planning opportunities. As always, we encourage investors to seek professional advice in order to find the solution best suited to their unique circumstances.

Elbe Thatcher

– fiduciary specialist, Old Mutual Wealth Fiduciary Services

The current environment might represent a good opportunity to transfer share portfolios into a trust