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Cape Town - Despite growing uncertainty in global financial markets due to the impasse in Greek debt talks, foreign investors were net buyers of SA equities in the past week, says Overberg Asset Management in its weekly overview of the SA market landscape.
In the past week foreign investors bought a net R2.54bn of SA equities, taking year-to-date net purchases to R30.74bn. Net purchases of SA bonds were less pronounced at R1.5bn over the past week and R5.25bn for the year-to-date.
In the past week foreign purchases of SA equities were tilted in favour of the industrial sector followed by the property sector.
There was slight net selling of the financial sector and more pronounced net selling in the resources sector.
South Africa economic review
• In a further “hawkish” speech SA Reserve Bank (SARB) Governor Lesetja Kganyago raised the likelihood of a 25 basis point rate hike at the upcoming policy meeting in July. Kganyago said that the upside risk to the consumer price inflation (CPI) forecast had “deteriorated quite markedly” due to higher electricity prices, higher wage settlements, a weaker rand and higher oil prices.
Eskom has applied for a 25% increase in electricity tariffs which if granted would increase annual headline CPI by around 0.5 percentage points.
• Retail sales unexpectedly increased in April by 0.2% month-on-month, better than the -0.5% consensus forecast decline. On a year-on-year basis sales growth improved from 2.5% in March to 3.4% in April.
However, the outlook for retail sales remains constrained by steep fuel price increases, low employment growth, weak consumer confidence and slow credit expansion.
The pending 25% increase in electricity tariffs will add further pressure on household disposable income. Unfortunately weak consumer demand will not deter the SA Reserve Bank from hiking interest rates by an expected 25 basis points in July.
• Eskom’s quarterly system status update indicates a continuation of load shedding over coming months. Eskom is planning 5 500 megawatts (MW) of planned maintenance over the winter months which is three times the usual amount during the peak winter season.
Furthermore the new plant build programme is experiencing additional delays. While the Medupi Unit 6 is operating at full capacity the expected synchronisation of the next unit has been pushed back from late 2015 to 2017.
The expected synchronisation of Kusile Unit 1 has also been pushed back from early 2017 to mid-2017. The delays are likely to dent business confidence and investment spending. Meanwhile consumer confidence is likely to be affected by Eskom’s application for a 25% increase in electricity tariffs. The National Energy Regulator of SA (Nersa) is due to announce its ruling on tariff increases on 29 June.
• Consumer price inflation (CPI) increased slightly from 4.5% year-on-year in March to 4.6% in April compared with the consensus forecast for no change. CPI was held in check by fuel prices which remained unchanged over the month and food price inflation which reduced from 5.1% to 4.7%.
However, the fuel price is expected to increase 3.7% month-on-month in June with a further 3.8% increase likely in July.
Meanwhile the end of favourable base effects signals a pick-up in food price inflation in coming months, likely to be exacerbated by the drought in maize growing regions. The pending electricity tariff increase will add further inflationary pressure pushing CPI through the upper limit of the SA Reserve Bank’s 3-6% target range to as high as 7.5-8.0% in the first quarter of 2016.
Political review
Gold mining wage talks are ongoing, with extravagant union demands and intense rivalry between the two representative unions, the NUM and Amcu, indicating a high risk of strike activity in the gold sector.
The unions are demanding wage increases of up to 100% for the lowest paid workers. The Chamber of Mines is offering a “social pact” addressing high levels of personal indebtedness among employees and profit sharing.
Although the unions are willing to accept terms of the social pact these would have to be over and above the basic wage demands.
The week ahead
• SA Reserve Bank’s Quarterly Bulletin, due on Tuesday showed the deficit on the current account narrowed in the first quarter of the year, although weak exports kept the trade balance under pressure.
The Reserve Bank also said spending growth accelerated in the first three months of the year, helped mainly by a faster pace of consumption by households.
The current account shortfall was smaller at 4.8% of GDP in Q1 compared with 5.1% in the last three months of 2014, as a narrower deficit on the services, income and current transfer account offset a wider trade gap.
The current account deficit was expected to widen slightly from 5.1% of GDP in the fourth quarter (Q4) 2014 to 5.2% in Q1 according to consensus forecast.
• Producer price inflation (PPI), due on 24 June, is expected to accelerate slightly from 3.0% year-on-year in April to 3.1% in May.
PPI is traditionally viewed as a lead indicator for consumer price inflation (CPI) and will be closely watched by the market given the SA Reserve Bank’s growing concern over inflationary pressure.
Technical analysis
• The rand remains below successive support levels suggesting a continuation in the rand’s depreciation. A break above the key “Fibonacci” level of R12.15/$ signals further depreciation in the rand to the R13.00/$-level.
READ: Rand double-edged sword for current account gap
• The US dollar index is testing a major 30-year resistance line, which if broken will pave the way for further strong gains in the currency.
• Despite the recent uptick in bond yields the long-term JPMorgan global bond index, bull trend remains intact, with the yield targeting a new low during the fifth and final wave.
• The US 10-year Treasury yield has broken above key resistance levels of 2.0% and 2.2%. However, there is unlikely to be a major bear trend in US bonds as the deleveraging phase is still in its early stages.
• The benchmark R186 SA Gilt yield is testing support at 8.15% and needs to break below resistance at 7.90% in order to resume its bull trend.
• The MSCI World Equity index is in the 5th and final wave of a rising-wedge formation. A rising-wedge formation is a typical trend-ending signal. European equities are set to outperform US markets. The Nikkei exhibits the most bullish pattern.
• Since the 1950s the Dow Jones and S&P 500 have displayed 7-year up-cycles and the top of the current US equity cycle can be expected in the next year. The next major wave down will complete the 16-17 year secular bear market that started in 2000. The secular bottom should occur around June 2016.
• The S&P 500 is breaking down from a rising wedge pattern, which is traditionally a trend-changing pattern. A break below the previous low of 2 067 will confirm a trend reversal. A further negative signal is that the Dow Jones Transport Index, traditionally a lead indicator for the broader market, has already broken down from its rising wedge.
• Although enjoying a temporary respite Brent crude’s previous break below key support levels at $60 and $50 suggesting a continuation of the weakening long-term trend.
• Copper is regarded a reliable lead indicator for industrial commodity prices and barometer of global economic growth. It has broken below the 2011 low of $6 500 suggesting a further downside move to $5 500.
• Despite recent advances gold is in a protracted bear market, signalled by rapid declines through successive support levels at $1 400, $1 300 and $1 250. Gold’s next target is $1 100 and is likely to breach $1 000 before the bear market ends.
• The All Share index has lost most of its gains since the start of the year. The All-share index is testing the key support line which has been in place since 2009. A break below 50 000 would signal a sharp move lower to the October low of 47 000.
Bottom line
• Net foreign purchases of SA equities and bonds were no doubt encouraged by stable outlooks from credit rating agencies Fitch and Standard & Poor’s credit rating agencies over the past fortnight.
However, the Federal Reserve’s policy setting meeting last week probably provided the biggest boost to foreign appetite for SA financial assets. While leaving the benchmark Fed Funds rate unchanged the Federal Open Market Committee (FOMC) issued a “dovish” statement implying a later and more gradual trajectory for interest rate increases.
• Mapping the Fed’s rate hiking cycle is key to forecasting portfolio capital inflows into SA. The global liquidity cycle tends to be led by the US Federal Reserve Bank.
On the last six occasions when the Fed started tightening interest rates portfolio capital inflows into emerging markets either diminished or reversed. SA with its large current account deficit is especially dependent on portfolio capital inflows or so-called “hot money”.
• The FOMC lowered its “dot plot” of interest rate projections. Seven members of the FOMC now forecast less than two rate hikes in 2015 compared with just three members following the March policy meeting.
During the press conference Fed chair Janet Yellen repeatedly mentioned that the trajectory of rate increases will be “gradual”. Yellen said that “we absolutely do not expect to follow any mechanical 25 basis points a meeting… (or) 25 basis points every other meeting”.
• Furthermore Yellen cited persistent slack in the labour market: “Some cyclical weakness in the labour market remains. The participation rate remains below most estimates of its underlying trend, involuntary part-time employment remains elevated, and wage growth remains relatively subdued”.
A tight labour market is typically required before the Fed starts to raise interest rates. Following the FOMC meeting the probability ascribed by interest rate futures to a September rate hike fell to just 17%.
• The FOMC has tempered expectations on the timing of the first Fed rate hike and the trajectory of rate hikes thereafter, in turn boosting portfolio capital inflows into SA.
Although there will be some respite for the rand this is only likely to be temporary. Ultimately the rand’s long-term trajectory will be guided by the outlook for economic growth which unfortunately remains uninspiring.
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* 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.
