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Investonline – 2019 4th Quarter Outlook

The investment market is gloomy as anxiety over the future direction of our country continues to consume most of us. This is fuelled by a five-year period of weak (below inflation) investment performance across most investment classes. Many South Africans feel frustrated and hopeless about the future and pursuant to this, the future of their precious savings, poses a challenge.

It is essential to know that your investment performance is not directly related to the weak SA economy. There are many other investment drivers, such as foreign investments, irrational low valuations, winning company strategies, etc., that all play a vital role in driving performance.

An example of this is the strong performance of our number one ranked Prosperity Worldwide Flexible Fund. The fund is up 18.4% over the last 12 months and well ahead of the JSE All Share Index up 4.1%, the average balanced unit trust up 2.3%, and the MSCI Global Index, up 3.8% in Rands.

The economic and political landscape remains uncertain both locally and abroad as news channels across the world remind us daily. The real issue is how much of this uncertainty is priced into our investments and what will have the biggest impact into the future.

Local changes are needed to restore confidence

It’s all about boosting consumer, business and investment (local and international) confidence, which locally, is at a 20-year low. The key issues for investments are as follows:

Meaningful government structural reform – This is proving difficult with the different political factions within the ANC. Even different philosophies, such as Pravin Gordhan’s socialist (government dominance) resistance to Tito Mboweni’s privatisation inclusion to stimulate the rehabilitation of the SEOs. Ramaphosa is navigating a very difficult environment, which is frustrating the urgent change needed and leading to a loss of confidence in his leadership.

Prosecuting corruption – The Zondo Commission is an initial and important step in the process of uncovering state capture, but prosecutions are necessary to restore some faith to the country’s rule of law and to set an example for future, tangible legal boundaries.

Taking on the Unions – There is slow progress here. This is a very difficult situation as Ramaphosa is being accused of betraying the electorate that put him in power. Unfortunately, reducing the government wage bill is critical in reversing its growing debt.

Land Reform, Prescribed Assets and the NHI are important issues, but we do not believe that they will be irresponsibly implemented while Ramaphosa is president as he has the business acumen and intellect to understand their effects on the SA economy.

The international environment remains tricky

The global economic slowdown – This is taking place all over with the biggest effect coming from a Chinese slowdown. Global manufacturing is slowing, and global trade has been flat for the last two years.

More geopolitical tension – The Middle East appears to be a “powder keg” with many different global agendas fuelling the situation. Added to this are the political disruptions of Brexit, broad-based European economic distress, Donald Trump and China. This all ends up being costly and adds to the economic slowdown.

Beware! The Rand is not a one-way bet

Four years ago, the R/$ was 13.40. Today it is 14.80, a 2.6% p.a. depreciation, which is below the SA / USA inflation differential of 3%. Plus, during this period, the R/$ fluctuated wildly between 16.90 and 11.65.

Over the last two years, fluctuation has been due mainly to a strong US dollar, appreciating 6% p.a. But, against the Euro, Pound and Aussie dollar, the Rand has been fairly flat.

The Rand remains difficult to forecast as it is largely driven by foreign investment flows in and out of emerging markets. Barring a global financial crisis, we do not believe that the Rand will weaken materially for the remainder of the year.

Three key upcoming financial events:

Eskom’s Recovery Plan – to be discussed in parliament this week and finalised in November. We do not believe the “lights will go out”, but the cost to the taxpayer will be determined by the resources that are employed.

Moody’s Review in the beginning of November – Moody’s is the last of three international rating agencies not to have downgraded us to Junk status. We believe it is likely they will change their “outlook status” to “negative” in November. This means that there is a high likelihood that SA will be downgraded to Junk status in 2020. The effect of this will not be disastrous as this downgrade is mostly expected from the investment markets. Although there is likely to be an initial knee jerk reaction with a sharp decline in the Rand, it is unlikely to be sustained. The positive is that the long-deflected downgrade will hopefully get the government to be more proactive in implementing the necessary structural changes to improve economic growth.

The government mini-budget speech (30 October) – Negative surprises are not expected, but hopefully more details will be provided in restoring SA economic growth. Presently SA is expected to grow GDP around 0.6% in 2019 and then 1.2% and 1.5% in 2020 and 2021 respectively. This will not alleviate unemployment of 29%. We believe the country can grow far quicker, with structural reforms implemented, which will boost confidence and the much-needed inflow of capital.

Investment Outlook

Despite the gloomy economic conditions, the local investment outlook is positive for four reasons:

  • Local equity valuations are near their all-time lows;
  • Local real interest rates (4%) are relatively high and provide lots of room for interest rate cuts, which would be very positive for the economy and investments;
  • These high, real interest rates are attractive to global investors where aggregated global real interest rates are currently negative;
  • SA is at the bottom of the business cycle, meaning any growth will be very positive for company earnings.

Globally, we continue to be cautious. Developed market (especially the US) valuations are high, while general Emerging Markets (including SA) offer value, in our opinion.

Benefiting from attractive local valuations in the short term is difficult to predict, but over the medium term (+3 years) we are confident that double digit investment growth should be restored.

For most investors, the best returns are realised over the long term and therefore, a long-term view – that would reap the benefits from the current attractive local valuations – should be adopted.  However, if one is reliant on a stable income or just cannot tolerate longer periods of slow returns, we recommend adopting a “parking strategy” into our low-risk investment portfolio which has generated a return of 9% to 10%. Once the environment appears more certain, we will recommend moving into more growth assets, which should generate double digit returns.

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