The Weekly Focus A Market and Economic Update 17 July 2017
Contents Newsflash ..................................................3 Market Comment ...................................................................................................................... 3 Other Commentators ............................................................................................................... 5
Economic Update ......................................7 Rates .......................................................11 STANLIB Money Market Fund............................................................................................... 11 STANLIB Enhanced Yield Fund............................................................................................ 11 STANLIB Income Fund .......................................................................................................... 11 STANLIB Extra Income Fund ................................................................................................ 11 STANLIB Flexible Income Fund ........................................................................................... 11 STANLIB Multi-Manager Absolute Income Fund................................................................ 11
Newsflash The global stock market has in the midst of the northern hemisphere summer, suddenly spiked up to a new record high
Market Comment
The global stock market has in the midst of the northern hemisphere summer suddenly spiked up to a new record high (see chart below), putting it an extraordinary +31.9% above its -20% correction low last February. I hope those poor souls who sold last February managed to get back in! The trend looks powerful, pierced briefly only during a -5% correction between last September and early November. So far in 2017 the index’s total return is +12.9% in dollars, or +7.4% in rands. Is it expensive or not? Garzarelli (see below) is now using 2018 earnings in her quants model and based on that estimate for the US, she calculates the S&P 500 Index is now 6.7% undervalued.
Source: I-Net Bridge
The upbeat news this morning on China’s economy is important for sure, with factory activity up nicely (+7.6% year-on-year) and fixed asset investment firm (+8.6%), both better than expected. This could well be positive for commodity prices and mining shares. We have seen a decent bounce in the iron ore price and copper is looking firm too. The weaker dollar is positive for commodity prices. The dollar was at 104 to the euro in early January and is now at 114.5. That’s a serious loss of value relative to the world’s second biggest currency. The MSCI World Index is being assisted by the weak dollar, because the 47.5% of the MSCI World Free Index that is in other currencies is now pushing the dollar-priced index up as those currencies translate into more dollars. Meanwhile the MSCI Emerging Markets Index, which rose by +4.5% in dollars last week, helped too by currency appreciation versus the dollar, appears to be breaking a 6-year downtrend. So far in 2017 the MSCI Emerging Markets Index has a total return of +23.4% in dollars or +17.3% in rands. In rand terms it is at an all-time record high.
In fact the chart in rands is an amazing one to see (below), showing an annualised return since the low in April 2003 of +16.4% per year…in rands. The MSCI World Index has returned +13.4% per year over the same 14-year period in rands. So…who said we should avoid emerging markets because we are an emerging market? The MSCI China Index is now almost 28% of the MSCI Emerging Markets Index, whereas the MSCI South Africa Index is 6.6%. There is some duplication with MSCI SA in that Tencent is either the biggest or 2nd biggest share in the MSCI China Index.
Source: I-Net Bridge
So…with inflation lower than anticipated (1.6% in the US and still low in most countries, including only 1.5% in India and China), interest rate hikes may be delayed in the US and elsewhere too. With growth looking quite good and interest rates still very low and importantly with earnings growth looking good in the big countries, the stock markets still have a decent tailwind. Locally, our market is up +4.3% over the past two weeks. We thought the rand would weaken, which it did for a week, but then it powered back to 13 to the dollar last week and today. The ALSI still managed to gain +3.3% last week, even with the rand +2.7%. There is quite a high probability that the SA Reserve Bank may cut interest rates this week, so we have seen a bounce in depressed General Retail shares, although they are still -25% from their levels last August, also a bounce in banks and other financials. Last week Naspers bounced +9.6% after a -12% correction (following Tencent’s bounce), Mr Price +8.7%, Standard Bank gained +5.4%, Capitec +4.8%, First Rand +4.1%, MTN +5.1% and even Sibanye Gold +4% plus the big mining shares bounced too, with BHP +3.7%. Anglo American is +22% from its low last month, after correcting by -33%. SA industrial-related shares are known to do well after interest rate cuts. If the Reserve Bank doesn’t cut this week, it may do so in September. There is no question the JSE would do better if the rand weakened. The current weak dollar is holding back the rand-hedge shares. The rand has been broadly trading sideways versus the dollar for the last 5 months, probably in line with emerging markets. So technically (chart-wise) it could be forming a base from which to weaken a bit; but no-one really knows when it may happen.
Source: I-Net Bridge
Looking at the graph above of the SA asset class returns so far in 2017, one can see how the three risk-oriented asset classes have bounced smartly over the past few weeks, with the red line (All Share Index) now in the lead (+7.4% total return), followed by the SA Listed Property Index (blue line) with +5.9%, then the All Bond Index’s +5.3%...all ahead of Cash’s +4%. The ALSI will be interesting to observe over the next month or so. Will it peak again at the 54,000-55,000 level, as it did in May and on at least three other occasions in the past three years, or will it finally manage to break out and up? At this stage, no-one knows. It may well need a weaker rand in order to break out. The break-out upwards is likely to happen somewhere along the line, but just when, we don’t know.
Other Commentators US Market Analyst, Elaine Garzarelli
The trade-weighted dollar’s loss in value of almost -7% so far in 2017 lifts US multinational earnings, increases the chances that commodity prices rise and boosts US exports. Garza’s quants model improved to 73% from 71% last week, remaining in bullish territory. Some investors are worried about geopolitical risks (e.g. N Korea), stock market valuations, Fed tightening and Trump policy uncertainties. Garza is forecasting earnings growth of +21% in 2017 in the US and +14% next year, which seem to be very high expectations. Her PE (price-to-earnings) model, now based on 2018 earnings, shows fair value for the S&P 500 Index of 2,628, which means the S&P 500 Index is actually now -6.7% undervalued, no longer overvalued, as it was based on 2017 earnings. The fundamentals supporting consumer spending, which represents two thirds of economic growth, such as a strong job market, good income and wealth gains and high levels of consumer confidence remain positive. Income tax cuts next year would be an additional fuel for spending growth and it would raise the personal savings rate. Garza believes consumer spending will continue to be an engine of US economic growth going forward. Household finances have improved due to the strength of employment, real incomes, share and mutual fund prices and home values. Household net worth is at record levels.
Rising home ownership among adults, low inventories of homes for sale, rising prices and homebuilder optimism should lead to more construction and lift spending on durable goods. Garza is looking for a solid pace of economic growth in the US for at least the next two years. She believes a US recession is years away.
BCA Research
BCA sees limited downside risks in the Chinese economy in the near-term. The company profit cycle recovery has continued to unfold and business confidence has improved sharply, both of which are conducive to private sector expansion. So the case for a modest upturn in private capital spending continues to strengthen. Also the risk of a significant housing growth slowdown due to the government’s tightening measures, a major concern amongst investors earlier this year, has abated. Housing starts have continued to improve, which should lift real estate investment going forward. Meanwhile, global equities broke out of their two-month consolidation last week, to new record highs. A strong earnings season, upbeat guidance about the road ahead and reduced geopolitical uncertainty have spearheaded the breakout and financial conditions have eased substantially, falling to multi-year lows. Leading economic indicators signal that the global economy is also on track to continue expanding at a healthy clip, sustaining a goldilocks equity market scenario. The risk premium attached to equities is expected to decline further. This could boost global equities by another +15%.
Paul Hansen Director: Retail Investing
Economic Update 1. SA manufacturing production declined in May 2017 and remains depressed on an annual basis. Over the past year manufacturing has achieved an average annual growth rate of -0.3% 2. SA consumer confidence weakened further in Q2 2017. This is the first consumer confidence reading since the cabinet reshuffle and credit rating downgrade 3. Food prices are driving a strong disinflationary trend in Namibia - SSA Region likely to be in disinflation in 2H 2017 pushing the bias towards easing rates 4. Economic data and events highlights for the week ahead - 17 to 21 July 2017 5. Low Growth Environment has a negative impact on Sub-Saharan Africa credit ratings
1. In May 2017, SA manufacturing production declined by -0.3%m/m, after growing by 2.3%m/m in April (monthly data is seasonally adjusted). The market was expecting production to rise by a further 0.5%m/m in May. Over the past year, manufacturing production has fallen by -0.8%y/y is still far below the level of activity recorded prior to the onset of the global financial market crisis in 2008. Furthermore, the volume of manufacturing (seasonally adjusted) is still far below the level that was achieved prior to the global financial market crisis. Overall, the manufacturing sector remain is still effectively in recession having average an annual growth rate of -0.3% over the past twelve months. The decline in production during May 2017 of -0.3%m/m was largely due to a -3.4% drop in vehicle output, a -3.6%m/m decline in chemical production (including petroleum), and a 1.5%m/m fall-off in food and beverage manufacturing. More positively, clothing production was up 3.2%m/m, while iron and steel output rose 2.8%m/m. Unfortunately, the manufacturing data remains extremely volatile month-to-month, making it difficult to identify any useful trends over shorter periods. Over the past year, South Africa’s better performing manufacturing sectors have been food, various metal products, and communication equipment. Most other sectors have either contracted or stagnated. During 2010, SA manufacturing activity grew by 4.7%y/y, which was obviously a vast improvement on the 13.5%y/y decline recorded in 2009. In 2011, production averaged a more modest rise of 2.8%, with the sector experiencing significant disruptions due to strike activity. For 2012, manufacturing growth averaged a mere 2.3%, which is somewhat understandable given the weakness in the global economy and the extensive mining strikes. In 2013, activity rose by an average of only 1.4%y/y, which is really more stagnation than expansion, with the motor industry heavily disrupted by labour unrest. In 2014, South Africa’s manufacturing production increased by a very disappointing 0.2%y/y. This was despite the Rand/Dollar weakening by 30% over the preceding three years. Clearly the sector was plagued by periodic electricity outages. In 2015 as a whole, South Africa’s manufacturing sector averaged growth of -0.04% for the year as a whole which was the worst annual performance since the 2009 recession, and signalled that the sector experienced stagnation or a low intensity recession. This trend continued in 2016 with growth of 0.8% and has underperformed further in early 2017, entering a recession at the end of 2016. For 2017 as a whole, we are now forecasting a decline of about -1.0%. Clearly South Africa’s manufacturing sector is struggling to gain any meaningful traction and has been one of South Africa’s most disappointing economic sectors since the global financial market crisis. This is despite various policy initiatives to boost the sector, as well as a relatively weak exchange rate. Hopefully, the improvement in agricultural production (helped by the better summer rain in the maize planting areas) together with some pick-up in mining activity (helped by somewhat higher international commodity prices and a modest pick-up in global demand), will combine to provide some support to the sector over the coming months; off a relatively low base. This could see manufacturing activity drift largely sideways rather than continue to decline significantly further.
2. After increasing from -10 in the fourth quarter of 2016 to -5 in the first quarter of 2017, the FNB/BER Consumer Confidence Index fell to -9 in the second quarter. The consumer confidence index (CCI) has been negative for three years, which is the longest period of outright weakness in consumer confidence since the data series started in 1982. This has had important implications for the performance of the South African economy, and needs to improve meaningfully before one can anticipate a meaningful and sustained increase in SA’s economic performance. Most of the recent decline in the CCI was due to the worsening economic outlook. In fact, the economic outlook component of the CCI slipped to a worrying -22 in Q2 from -1 in Q1 2017. This would suggest extreme concern about the state of the economy and the risk that the current recession is sustained. More positively, the household sector’s financial outlook increased to +6 in Q2 from +3 in Q1. This was helped by slowing inflation and stable interest rates. There is a fairly close relationship between consumer confidence and consumer spending. This means that barring a dramatic confidence-inspiring change in the political landscape, consumer spending is likely to remain under pressure for the remainder of the year. Pease note, historically the SA Consumer Confidence Index (SACCI), as measured by the Bureau of Economic Research (BER), used a respected market research company (Nielsen) to undertake three standard questions to 2 500 mostly urban adults in South Africa every quarter. This year, for a number of reasons the service provider changed to Ipsos Markinor. Although this is a different service provider, the results remained consistent given that Ipsos’s survey method (ie. sampling and interviewing) compares closely with that of Nielsen. The fieldwork for the first quarter survey took place between 4 April and 13 May and the second quarter survey took place between 26 May and 22 June. 3. The annual inflation rate in Namibia again decelerated sharply to 6.1%y/y from 6.7%y/y in the preceding month. This was mainly driven by food prices of which some items are still in deflation. M/m remained the same as the previous period at 0.1%. The largest increase in prices happened to be in the largest portion of the basket which is the Housing, Water & Electricity sector which experienced an inflation rate of 9.8% the same figure as in May 2017. The high increases stem from increased water tariffs as there are continuing water shortages in the region. Food inflation increased slightly to 4.6% from the 3.7% recorded in the previous month. Vegetables as well as some processed foods are still in deflation. Meat and fish though are still experiencing high price increases at 8.5% and 13.4% respectively. Coffee is still increasing at an alarming rate of 19.2% (averaging over 20% for the past 12 months). At this stage, inflation is expected to move back below 6% in the July 2017. Inflation could even move below 4% by January 2018, however that is likely to be offset by an increase in administration costs, which usually happen at the beginning of the year moving the expectation to a more realistic 5%. Inflation in Namibia averaged 5.4% in 2014. Driven by the lower oil prices Namibian inflation decelerated sharply in 2015 and averaged 3.4%. The impact of the drought had intensified in 2016 and Namibian inflation increased to an average of 6.7%. For the first half of 2017 inflation averaged 7%. With the disinflationary trend an average of 5.9% is expected for the second half of the year lowering the forecast for 2017 to 6.4% on average.
Namibia does not strictly have an inflation target band, however it tracks the South African Reserve Bank’s (SARB’s) interest rate movements, occasionally with a spread. With the increasing likelihood of the SARB MPC decreasing rates towards the end of the year (and into the beginning of next year) this would give the Bank of Namibia room to cut their rates. The bias for a rate hike has clearly diminished and the question would now be if the Bank of Namibia would cut rates following the SARB’s direction. This is the likely especially considering the pace of the disinflationary trend and the recession in the economy. The strong disinflation development is a Sub-Saharan Africa (SSA) wide trend and on balance should put a bias towards lower interest rates especially in tight monetary policy regions. These would include Ghana, Uganda and South Africa. Areas such as Nigeria, Kenya and Namibia might include such rhetoric in their speeches. This could help in compressing yields on sovereign debt keeping all other factors constant in the context of the reflationary trend in developed markets. Of course specific risks such as the political backdrop in some countries would have to be considered. The second half of the year is generally expected to be a good one for SSA but mainly driven by the primary sectors. Household Consumption activity is a concern and probably one of the biggest risks for the next 3 years. 4. Key economic data and events scheduled for this week are likely to be: China Q2 2017 GDP data today came in at 6.9%, with a stable outlook ahead of the lead-up to party congress in October SA CPI data on Wednesday - which is likely to moderate slightly in June, but still remain above 5%y/y SA Retail Sales data on Wednesday, likely to confirm that consumer spending remains under pressure as confidence remains depressed US Leading Indicator, on Thursday - the recent trend in the US LEI, supported by strong confidence indicators, is expected to continue pointing to a growing economy SA MPC Announcement on Thursday - rates are expected to remain on hold in July with a 25 basis point cut in September. Tone of MPC statement should be dovish 5. Low Growth Environment has a negative impact on Sub-Saharan Africa credit ratings S&P released the Midyear 2017 update of Sub-Saharan Africa (SSA) Sovereign Ratings. S&P currently rates 17 countries in the SSA region which is an increase from 12 in 2008 and just 2 in 2000. The average rating has systematically deteriorated from just above BB- in 2008 to B+ currently (BBB- is the cut off for investment grade). The inclusions of certain sovereigns such as Republic of Congo, DRC and Ethiopia could distorted the average but the trend has generally been to the downside. On average fiscal deficits widened to 5.1% of GDP in 2016 from 2.4% in 2010. To fund the deficits debt levels have increased from 30% of GDP in 2010 to 52% of GDP in 2016, most of which was external and opens them to currency risk. Botswana is the only investment grade sovereign with an A- negative rating with South Africa being a distant second with a rating of BB- with a negative outlook. Botswana was rated neutral to strength on all matrices except for economic assessment. Botswana has been affected by lower mining output as well as depressed commodity prices which have been a drag on overall growth. South Africa’s only strength was its monetary assessment. The SARBs policy of inflation targeting and a having a floating currency have put it in good standing. South Africa is the only country in the Sub-Saharan African region which had its monetary policy assessed as a strength. It is clear that the low growth environment has had a negative impact on the revenue bases of many countries in the continent. Of the 17 countries that were rated, 13 were rated as having weaknesses in their budgetary performance with fiscal balances deteriorating over the past year.
The challenges experienced by the SSA countries highlight their dependence on commodity prices. And even though some of the high growth in these countries was attributable to sectors outside of mining, the impact of lower commodity prices has had an adverse impact on the rest of the economy. Consequently the recovery in 2017 will be supported by a modest increase in commodity prices however this will not be enough to improve revenue bases and therefore their fiscal balances. The low global interest rate environment allowed SSA sovreigns to borrow at favourable rates as money was chasing high yielding assets. With the advent of normalization of rates in developed markets, the benefit will no longer be available. The most vulnerable countries in this regards would be those with high dollar-denominated debt as a percentage of total debt. These would include the likes of Kenya, Ghana as well as Zambia. Their interest costs would move up significantly should their currencies depreciate meaningfully.
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Kevin Lings, Laura Jones & Kganya Kgare (STANLIB Economics Team)
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