Market rally obscures SA’s depressed economic state
The rally in financial and currency markets suggests that SA’s fortunes have improved. But the country still faces a sustained and structural economic crisis. By
At a cursory glance, it looks as though financial markets in South Africa are out of step with the worrying economic reality gripping the country. Take the JSE and currency markets, for instance. General equities (the JSE AllShare Index) have delivered a total return of 15% (in rand terms) so far in 2021 for income-chasing investors. In US dollar terms, the JSE All-Share Index has returned more than 20% over the same period compared with the 13% delivered by the S&P 500.
The rand has become the best-performing emerging market currency, with the local unit gaining more than 17% against the US dollar so far this year. At the time of writing, the rand was below the R14/$ level and far off from the volatility seen in the early days of the Covid-19 pandemic, when the currency exploded to R19/$ in April 2020.
Judging from the gains of the JSE and local currency, it seems sentiment towards South Africa and its economic outlook has turned overwhelmingly positive.
Yet in reality, the pandemic-hit economy and labour market remain in the doldrums. The economy fell by 3.2% in the first quarter of 2021 compared with the same period in 2020; 1.4 million people remained unemployed over the same comparable period; Covid-19 vaccines are not being administered fast and wide enough; and Eskom load shedding has intensified in recent days.
Behind the rally
So, how do we reconcile the apparent overoptimism of financial markets when there are harsh economic realities on the ground? After all, sentiment in the investor community was turning against South Africa two years ago, with some money managers increasingly favouring offshore markets.
“Even though the economic outlook isn’t that good, it is ... significantly better than what investors were expecting last year. Shares on the JSE and the currency market were pricing in a far worse economic outcome. But the [economy’s] recovery is much better than what the market was anticipating,” says Wayne McCurrie, a senior portfolio manager at FNB Wealth & Investments.
In early 2020, when Covid-19 burrowed its way into South Africa, some economists argued that the economy would fall between 10% and 17%. But the economy officially crashed by 7% in 2020, and the outlook has improved, as the Reserve Bank expects the economy to grow by 4.2% in 2021. This is due to more sectors of the economy reopening under eased lockdown regulations.
Global factors are mostly at play regarding the exuberance of financial markets this year – less so the fundamentals of the SA economy, volatile politics or sustained policy inertia on electricity generation capacity.
The US, European Union and China are going through a period of exceptional economic growth owing to the roll-out of vaccines, interest rates that are at near zero and governments pumping money into economies through fiscal bazookas.
Runaway global commodity prices have also been a driver of markets in South Africa, says Reuben Beelders, chief investment officer at Gryphon Asset Management. A boom in commodity prices of platinum group metals has benefited exporters such as mining companies, whose output contributes a big portion to South Africa’s economic activity.
Outlook for markets and the rand
Beelders doesn’t believe in the “commodity bull market” narrative, which involves prices continuing to rise for a sustained period. A precipitous fall in commodity prices will be bad news for South Africa’s economy and financial markets.
“We continue to believe that supply-side pressures have driven many commodity prices higher and that as these supply pressures ease and economies reopen fully, supply [and commodity prices] will normalise.”
He pointed to pressures in the financial results of global shipping companies, which are central to commodity exports. In the quarter to end March 2021, such companies reported a 5% increase in shipping volumes, while the cost of shipping a container rose more than 30%. “This to us again is reflective of a relatively muted increase in volumes (and off a low base) but a pick-up in rates owing to supply pressures,” says Beelders.
Another risk for financial markets in SA is if central banks worldwide start to increase interest rates to tame rising consumer inflation and their withdrawal of economic relief such as government bond purchases.
“The core theme for the rand and all global financial markets will be US inflation and when US interest rates will rise. We have a benign view. Inflation will be contained and the Federal Reserve will be slow to hike interest rates. US inflation might be higher than expected and the Federal Reserve will bring forward its tightening approach,” said John Cairns, a global markets strategist at RMB, during a webinar on 8 June.
RMB’s house view on the rand is that it should trade at R14/$ if there is a large gap/ difference between inflation in the US and SA, and R13,36 if commodity prices and exports continue to rise.
It seems sentiment towards South Africa and its economic outlook has turned overwhelmingly positive. Yet in reality, the pandemichit economy and labour market remain
in the doldrums