We shine a spotlight on the various asset classes. We look at concerns surrounding growth in SA equities and how this may negatively impact companies with a large exposure to the domestic economy. We also cover the negative view on listed property due to SA Inc stocks operating in a weakening economic backdrop.
After a strong start to the domestic outlook for 2017, there are now real concerns that growth may not reach its potential due to economic policy and political uncertainty and its impact on business and consumer confidence.
This is likely to negatively impact companies that have large exposure to the domestic economy, such as banks and retailers. Year-on-year headline inflation surprised yet again to the downside, moderating from 6.1% in March to 5.3% in April. This was primarily due to a significant dip in food price pressures. While this gave the South African Reserve Bank (SARB) some room to ease monetary policy, the monetary policy committee (MPC) kept rates on hold at its meeting in May. It cautioned that risks to inflation remained in the form of a potentially weaker rand, due to global and domestic political uncertainty and imminent ratings decisions.
The central bank maintained that the bar for rate cuts remained high and would be breached if further downward surprises to inflation sufficiently offset the SARB’s concerns. Annualised first-quarter GDP contracted 0.7%, falling considerably short of expectations and resulting in the local economy slipping into a technical recession.
In particular, the performance of the services sectors (business services, finance and real estate) disappointed and offset the gains that were seen in the agriculture, mining and tourism sectors. Our outlook is more positive on randhedge companies, such as Mondi and Richemont, that are beneficiaries of improving global growth.
The JSE All Share Index (ALSI) ended May marginally lower (down 0.4%), but it was a very narrow market. A handful of large-cap industrial counters showed strong gains in the month. Naspers was yet again the big gainer, up 7% in May after having rallied 10% in April. Strong gains by its Chinese subsidiary, Tencent, has now driven Naspers 34.8% higher in the first five months of 2017.
If we were to take out Naspers’ contribution to the ALSI over the past 12 months, our market’s return would be around -0.2%. Having said that, Naspers gave back more than 7% in the first 10 trading days of June.
The financials sector gave back some of April’s strong gains with the sector closing May 1.3% lower. While banks fell 1.4%, it was especially the life companies (-3.9%) that came under pressure. The real estate sector, however, managed to post a positive return of 0.1% in May.
Industrials had decent gains in May (+1.4%) driven by a few individual large-cap stocks, mainly Naspers (+7%), Aspen (+7%), British American Tobacco (+5%) and Steinhoff (+3%). These gains, however, were in sharp contrast to the sell-off seen in especially ‘SA Inc.’ retailers such as Truworths, Foschini and Woolworths, which fell 13.5%, 13.2% and 7%, respectively, in May. MTN continued to decline falling another 7%. Richemont was marginally lower (-1.4%) after having shown strong gains over recent months.
Resources continue to come under pressure (down 4.1%) in May, especially the platinum counters. Weak commodity prices (iron ore fell 17% in May) and concerns around the release of the new SA Mining Charter saw the platinum sector fall 15.5% and the general mining sector decline 3.8%. While BHP Billiton held up reasonably well, down only 0.9%, AngloAmerican fell more than 8% in the month. Declines from gold counters (-1.9%) and paper (-1.1%) were more muted. Oil prices also came under pressure driving Sasol 4.4% lower.
SA Listed Property
We have a negative view on listed property based on our view that ‘SA Inc.’ stocks (companies that derive most or all of their revenue from South Africa and are highly sensitive to the local economic environment) are operating in an increasingly weakened economic backdrop.
Although changes in distribution growth lag the property cycle, meaning that stocks could remain above or below market rates for extended periods before they are adjusted, we believe the sector’s rating is vulnerable to further macroeconomic shocks.
Returns within the SA Listed Property Sector (SAPY), which excludes the UK property companies Capital & Counties and INTU, were fairly mixed in May, with the sector ending the month basically flat (up 0.1%).
While large-cap counters such as Growthpoint (-2.1%), Redefine (0%) and Hyprop (-3.8%) came under some pressure, European counters such as NEPI (+4.4%) and domestic-orientated Resilient Group +3.2%) posted decent gains. UK property counters such as INTU, Capital & Counties and Hammerson were all between 1% and 3% softer in May. However, shares such as Capital and Counties had a difficult start to June on the back of the UK election results with the share declining more than 10% in the first two weeks of the new month.
The outlook on domestic bonds is neutral. Despite initially improving macroeconomic fundamentals, such as an improving current account, falling inflation and rebounding growth, our outlook is impacted by political events, a continued lack of policy certainty as well as recent ratings actions. In our view, the risk of further sovereign credit rating downgrades remains high.
The All Bond Index (ALBI) had another decent month in May gaining 1% on the back of continued strong foreign buying of SA bonds alongside other emerging markets. Emerging market yields are favoured by investors at present, overshadowing the negative news flow following the country’s credit downgrade.
While the yield on the 10-year government bond moved lower to end the month at 8.6%, yields at the very long end of the yield curve remained nervously high. The 30- year yield closed the month at around 9.7%.
Over the past 12 months, SA bonds have done reasonably well having gained 13.3%. Just note, most of the gains from the SA bond market happened in the first half of last year. This means that the one-year returns from bonds will most likely start to come off over the next few months.
Offshore fixed interest
In our view, developed market bonds offer little opportunity. We believe that stretched valuations, coupled with improving economic and inflation data, raise the prospects of capital loss. With the increasing shift globally towards monetary policy tightening, led by the US Federal Reserve, short-end bonds (up to and including 10-year maturities) are particularly vulnerable in our opinion. However, our bearish view on the asset class is not universal. US long-dated Treasuries are starting to look interesting. A moderation in US growth or even a larger-than-expected degree of tightening by the US Federal Reserve should provide support to the 30-year area of the yield curve.
Global bonds gained 1.6% in US dollars in May. Over 12-months, the asset class is up only 0.8% in US dollars and therefore down 15.5% in rand terms as the SA currency appreciated roughly 17% against the US dollar.
Global stock markets wobbled mid- May due to increasing concerns over President Trump’s ability to push through regulatory changes and deliver tax reforms in the US. However, by month-end, the MSCI All World Index had recovered, to end May 2.2% higher. The bull market in emerging markets continues. MSCI Emerging Market Index was up +3.0% in US dollar terms in May, outperforming MSCI World Index (+2.2%), which is represented by the developed markets. We are positive on offshore equities.
The broader theme of a cyclical improvement in global growth, although not synchronised, has been sustained in the last few quarters and all indications point to this trend persisting in the foreseeable future. After years of accommodative global monetary policy, focus is now shifting towards how best to approach monetary policy normalisation. This is supported by improved economic activity and rising headline inflation and, if sustained, points to a healthier macroeconomic environment.
Nothing contained in this article should be construed as financial advice and is meant for information purposes only.