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Cape Town - The SA Reserve Bank's leading business cycle indicator points to six factors which may signal that better times are ahead for the economy, according to Overberg Asset Management in its weekly economic overview.
"The leading cycle indicator confirms that the recession is well behind us, signalling better times ahead, pointing to a steady recovery in economy activity over the next 6-9 months," said OAM.
South Africa economic review
• Although the trade surplus narrowed from R9.3bn in July to R5.9bn in August this is well above the consensus forecast of R2.1bn and the highest surplus for August since the data series began in 2011.
Seasonally, August tends to be a poor month for exports. While imports fell 1.3% year-on-year exports grew by 15% boosted by resurgent demand in key export markets. Vehicle exports were disappointing, declining by 17.0% on the year.
However, mineral exports including coal and iron ore, and base metals exports grew by 21.0% and 12.0% respectively. The year-to-date trade surplus has grown to R43.5bn compared to a deficit of -R13.7bn in the same period last year, boding well for South Africa’s balance of payments and the rand.
• Growth in private sector credit extension (PSCE) increased marginally from 5.7% year-on-year in July to 6.0% in August. The mild acceleration was led by corporate credit growth which increased from 7.8% to 8.2%. Household credit growth gained to a lesser extent from a lower base of 3.3% to 3.4%.
Growth in unsecured credit slowed from 4.8% to 4.0%. While credit growth has been lackluster South Africa’s total PSCE as a percentage of GDP remains relatively high at 72.8% although slightly improved on 73.9% in the first quarter. An acceleration in credit growth will require improved business and consumer confidence, which depend largely on the removal of political and policy uncertainty.
• Producer price inflation (PPI) accelerated from 3.6% year-on-year in July to 4.2% in August, close to the consensus forecast of 4.1%. The rise is attributed to inflation in coal and petroleum products, which accelerated from 3.0% to 7.3%. Inflation in intermediate manufactured goods also increased, from a low base, from 1.5% to 2.0% with a month-on-month rise of 0.5%. Similarly, mining inflation increased by a hefty 3.9% on the month.
However, agricultural inflation continued to decline falling by 1.2% on the month and 0.9% on the year. As a result, manufactured food inflation continued to slow year-on-year from 3.3% to 1.9%. Despite the latest uptick in PPI, its trajectory remains constructive benefiting from the rand’s strength and the positive outlook for the currency. Modest PPI should feed through to benign consumer price inflation.
• The Quarterly Employment Survey was worse than expected reporting a 35 000 loss in formal non-agricultural sector employment in the second quarter (Q2). This follows a loss of 41,000 in Q1. By sector the biggest losers were manufacturing, construction, transport, and community services, with losses of 13 000, 11 000, 5 000 and 10 000, respectively. The public sector made progress in reducing its headcount, helping to stem the burgeoning wage bill.
Job losses at national department and provincial department level were 6,000 and 18,000. Encouragingly, growth in average gross earnings per worker slowed from 6.6% year-on-year in Q1 to 5.9% in Q2, contributing to a decline in inflationary expectations.
However, in real terms, growth in average gross earnings gained from 0.3% to 0.6% helped by the decline in the actual inflation rate. A recovery in jobs growth is required to restore domestic demand and to boost government’s revenue collection.
• The FNB/BER Civil Confidence Index, which indicates the percentage of civil engineering contractors that are satisfied with prevailing business conditions, fell sharply from 28 in the second quarter (Q2) to 15 in Q3, the lowest level since Q3 2000. The index reading indicates that 85% of all respondents are dissatisfied with prevailing business conditions.
Respondents cited insufficient demand, stemming from depressed domestic demand and policy uncertainty, in particular surrounding the revised mining charter and renewable energy programmes.
• South Africa’s equity market suffered its worst monthly net foreign investor outflows since October 2008 in the month of September. Monthly outflows amounted to -R27.95bn lifting year-to-date outflows to -R73.36bn.
The negative trend continued in the past week with equity outflows measuring -R1.67bn. By contrast, net foreign flows into South Africa’s bond market remained positive at R1.04bn in the past week, R17.16bn over September and R69.52bn in the year-to-date.
Moody’s credit rating agency last week, while acknowledging these positive bond inflows cautioned the danger of foreign investors holding 48% of South Africa’s rand-denominated bonds. The level of foreign penetration in the bond market makes long-term interest rates and the rand especially susceptible to any change in global investor sentiment.
• South Africa fell sharply in the World Economic Forum’s Global Competitiveness report from its position of 47 last year to 61 this year, out of 138 countries. The ranking for the quality of auditing and reporting standards fell from 1 to 30. The ranking of the country’s institutional environment fell from 40 to 76.
The rankings for South Africa’s financial markets and goods market efficiency also fell sharply to 44 and 54. The most problematic factors for doing business in the country were cited as corruption, government instability, crime and theft, and tax rates. Health and primary education scored an abysmal 121 out of 138 countries.
Technical analysis
• The rand needs to break through key resistance at R/$13.00, which if broken would target further gains to R/$12.50 and thereafter R/$12.00.
• The US dollar index has tried but failed to break through a major 30-year resistance line suggesting the three-year bull run in the dollar may be over.
• The British pound has broken above key resistance at £/$1.30 promoting further near-term currency gains to a target range of £/$1.35-1.40.
• The JPMorgan global bond index is testing the support line from the bull market stemming back to 1989, which if broken will project further sharp increases in bond yields.
• The US 10-year Treasury yield has failed to break below key resistance at 2.0% raising the probability that the multi-year bull trend in US bonds is over.
• The benchmark R186 2025 SA Gilt yield is trading in a tight trading range of 8.5-9.0%. A break above 9.0% is required for the yield to move decisively higher towards the 10.5% target level.
• Key US equity indices, including the S&P 500, Dow Jones Industrial, Dow Jones Transport, Nasdqaq and Russell 2000, have simultaneously set new record highs, confirming a bullish outlook for US equity markets.
• The Brent oil price has broken above key resistance at $50 and likely to remain in a trading range of $50-60 over the foreseeable future. Base metal prices are in a bull trend confirmed by copper’s increase above key resistance at $6000 per ton.
• Gold has developed an inverse “head and shoulders” pattern, which indicates further upward momentum and a test of the $1400 target level.
• The break above 54 200 on the JSE All Share index projects an upward move to 60 000 marking a new high for the JSE.
Bottom line
• South Africa’s economic outlook has brightened considerably. The South African Reserve Bank’s forward-looking composite leading business cycle indicator unexpectedly jumped from 95.8 in June to 97.3 in July.
The leading business cycle indicator, which tends to be a reliable barometer of economic activity 6 to 9 months ahead, is back at levels last reached in February when it hit 98.4 prior to the ill-fated cabinet reshuffle. February marked the highest level since November 2014, also at 98.4.
• The leading cycle indicator confirms that the recession is well behind us, signalling better times ahead, pointing to a steady recovery in economy activity over the next 6-9 months. Eight of the ten subcomponents showed an improvement on the month, led by a rise in the number of building plans passed and an increase in job advertisements.
There were only two detractors, including money supply growth and a slight decline in the leading business cycle indicator of South Africa’s major trading partners.
• The economic slowdown in the fourth quarter (Q4) last year and Q1 this year when GDP shrank by -0.3% and -0.6% quarter-on-quarter annualised had been predicted by the leading business cycle indicator. Around 6-9 months prior to the recession, the leading cycle indicator had collapsed to 92.2 in January 2016 plumbing a low of just 91.4 in April 2016, not recovering the 93.0 level until September 2016. The leading cycle indicator is greatly recovered from these levels, rising by a solid 5.6% year-on-year in July.
• Positive economic momentum is expected to draw further strength from the Reserve Bank’s monetary policy easing cycle initiated in July. With consumer price inflation firmly established within the Reserve Bank’s 3-6% target range the central bank is expected to cut the benchmark repo rate by a further 50 basis points over the next three policy setting meetings.
• With only 10 weeks to go before the ANC elective conference from the 16th to 20th December, the current cloud of political and government policy uncertainty will soon lift. The Zuma camp is losing ground to either a Cyril Ramaphosa leadership or to the compromise candidate Zweli Mkhize. Either would bring about a marked improvement on the status quo.
• The leading cycle indicator is set to post additional gains during the second half of the year stemming from further monetary easing and the likely outcome of the ANC’s elective conference.
For the full report, including a look at international markets, click here.
* Overberg Asset Management (OAM) is an Authorised Financial Services Provider No. 783. Overberg specialises in the private management of local and global discretionary portfolios as well as pension products.
Disclaimer: Information and opinions presented in this report were obtained or derived from public sources that Overberg Asset Management believes are reliable but makes no representations as to their accuracy or completeness. Any opinions, forecasts or estimates herein constitute a judgement as at the date of this Report and should not be relied upon. There can be no assurance that future results or events will be consistent with any such opinions, forecasts or estimates. Furthermore, Overberg Asset Management accepts no responsibility or liability for any loss arising from the use of or reliance placed upon the material presented in this report.
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