Facing up to fixed income volatility
Trying to make sense of what’s currently going on in the wider f ixed income environment is not easy, but Investec Asset Management por t f ol i o managers Malcolm Charles and Peter Kent, and economist and strategist Nazmeera Moola made an excellent job of it at a recent briefing in Johannesburg.
Kent reiterated the widely held view that the domestic economy is in a tough spot, but said that 3% growth in South Africa wouldn’t be impossible against the external environment, were it not for the many unnecessary handbrakes.
He was referring to a host of issues such as high levels of policy uncertainty, t win def icits, electricity constraints, labour-related production disruptions, structural problems in key sectors and the erosion of competitiveness.
Charles concurred: “We could make ourselves a lot more insulated to external shocks i f we could eliminate these handbrakes. That’s what’s frustrating. With good sense we could make it a lot easier for ourselves.”
Moola pointed out that the Reserve Bank’s economic growth forecasts for 2015 had declined from 3.8% in May 2013 to 1.8% in July 2015, and are currently expected to be slightly above 2% for 2016 and 2.8% in 2017.
“Significant has been the i mpact of this downward structural shift in growth potential on domestic demand (such as weak consumer spending and lower vehicle sales), and it’s not surprising that inf lation is actually on the downside,” she said.
Charles added: “The Reserve Bank is in a comfortable position and is unlikely to increase interest rates significantly in the foreseeable future. Given that there is not much pressure on the demand side, it can afford to sit on its hands for some time. In fact, the hike that we had in July could easily have been postponed. You can say that the Reserve Bank is confidently ahead of the yield curve.”
He observed that among the eight or nine domestic inflation drivers, almost all with the exception of food are down. In Eskom’s case, in which price is regulated, there isn’t much that the public can do, because they don’t have the pricing power. And in the case of oil, which is in a downward trajectory, there’s not much that they can do either.
“Back in Tito Mboweni’s time a 10% currency depreciation led to a 2% increase in inf lation. It then fell to 1% and it’s now 0.8%. That, for instance, allows retailers to put enormous pressure on suppliers, who, in turn, are forced to cut costs to maintain margins. Signs of global deflation are also creeping through,” he explained. “Our view is that the US economy has made considerable progress – though not perfect – and the Fed could hike interest rates next month. US inf lation is not going to be as bad as has been feared; and if you add the Chinese component, it adds to the story,” he said. Believe it or not, several leading emerging markets are faring worse than SA, from a policy perspective, added Charles. “Turkey has been ver y experimental and has lost quite a bit of credibility. Similarly with Brazil . Investment bank JP Morgan says that its central bank will be forced to hike rates to such an extent that it will put its economy into recession this year and that it will have to cut rates next year merely to regain credibility.
“The South African Reserve Bank, in contrast, has done everything spot on. It is one of the most credible in the emerging markets stable and is even better than some of its developed market counterparts,” said Charles.
Investec Income Team portfolio managers (left to right): Peter Kent, Nazmeera Moola and Malcolm Charles