Publications
Partners
Cape Town - The economy is in a crisis of confidence and most of the blame lies at the door of political and regulatory uncertainty.
This is according to Overberg Asset Management in this week's overview of the economic landscape.
Business and consumer confidence has been dealt a severe blow by this year’s sequence of political events, starting with the Cabinet reshuffle, followed by credit rating downgrades, and most recently a mountain of evidence pointing to state capture.
South Africa economic review
• The Bureau of Economic Research (BER) manufacturing survey collapsed from an already depressed 28 in the first quarter (Q1) to just 16 in Q2 the lowest since it hit 11 in the middle of the 2008/09 global financial crisis. This means that 84% of survey respondents viewed business conditions as unsatisfactory.
Among the sub-indices, the manufacturing production index collapsed from -3 to -18, the domestic sales index from -14 to -27 and the export sales volumes index from +1 to -14. The most concerning finding of the BER manufacturing survey is that 47% of respondents expect conditions to deteriorate even further, up from just 16% of respondents in Q1.
The percentage of respondents who rate the political climate as a deterrent to investment reached its previous all-time high of 87%. (See Bottom Line for further analysis).
• Following its rebound from 44.7 to 51.5 in May the Absa manufacturing purchasing managers’ index (PMI) fell back sharply to 46.7 in June well below the key 50-level which signals contraction. The extreme volatility in the PMI series suggests a high level of uncertainty relating to the political outlook.
Looming wage disputes in the steel and engineering sectors may also have contributed to the PMI slump. Among the PMI sub-indices, the business activity index fell from 52.3 to 45.4 while the forward-looking new sales orders index declined precipitously from 54.1 to 43.7 its lowest since August last year.
The purchasing commitments index fell from an already depressed 44.0 to 39.4. The index measuring expectations in six months’ time fell from an elevated 61.4 to 50.0, which although not yet in contractionary territory is the weakest since February 2016.
The PMI data signals a continuation of the manufacturing sector’s decline into the second quarter. The sector has already contracted for three straight quarters.
• In its fifth production estimate for this year’s summer harvest the Crop Estimates Committee maintained its forecast for a record 15.6 million ton maize harvest and raised its soya bean forecast to a record 1.3 million tons. The maize harvest is well above the estimated annual domestic consumption of 10 million tons indicating a solid net export boost of around R6-8bn.
The upbeat harvest forecasts confirm continued expansion in agricultural output over the remainder of the year building on the first quarter’s 22.2% quarter-on-quarter annualised growth. While agricultural output only contributes 2-3% of South Africa’s GDP the pace of growth should provide a useful counter-balance to the shrinking manufacturing sector.
• The trade account recorded a surplus in May for the fourth straight month. The trade surplus increased from R4.97bn in April to R9.50bn in May lifting the cumulative trade surplus for the first five months of the year to R19.52bn compared with a R13.29bn deficit over the same period in 2016.
Exports of mineral products increased 38.5% year-on-year followed by chemical products with an increase of 19.3% and base metals by 8.9%. Export values are likely to be buoyed by improving global demand and rising commodity prices while imports are expected to remain constrained by subdued economic growth.
The positive trade outlook should support the continued narrowing in the current account deficit which at 2.1% of GDP shows a marked improvement on the 5.0% deficit in the same quarter last year and the 3.3% recorded for 2016. A narrowing current account deficit is positive for the rand.
• Growth in private sector credit extension (PSCE) increased from 5.9% year-on-year in April to 6.7% in May above the 6.0% consensus forecast. The pick-up in PSCE is attributed to company credit extension, which increased 1.0% month-on-month lifting year-on-year growth from 8.2% to 9.9%.
By contrast household credit extension slowed from 2.9% to 2.8% on the year although growth in mortgage advances increased from 4.3% to 4.6%. Growth in other loans and advances, which includes unsecured loans and makes up 43% of total credit, increased 0.7% on the month and 9.4% on the year up from 8.1% in April.
Despite the latest uptick credit extension remains subdued and unlikely to show any meaningful acceleration until the Reserve Bank initiates its cycle of interest rate cuts.
The week ahead
• New vehicle sales growth: Due on Wednesday 5th July. Vehicle sales are expected to fall by a further 2.5% year-on-year in June following-on from the 2.6% decline in May.
Sales have declined in every year since 2014 culminating in an 11.3% contraction in 2016 amid depressed business and consumer confidence. The National Association of Automobile Manufacturers of South Africa (NAAMSA) forecasts mild sales growth of 0.2% in 2017.
• Conclusion of African National Congress policy conference: Due on Wednesday 5th July. The ANC’s fifth policy conference, held every five years, provides policy direction for the party although formal decisions will be taken at the party’s elective conference in December.
The ANC conference concludes on Wednesday and should provide useful insight into the evolving balance of power between the pro-Zuma and pro-Ramaphosa factions.
Technical analysis
• The rand has broken key resistance at R/$13.00 pointing to further gains towards 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.
• Following the announcement of the snap election the British pound has broken above key resistance at £/$1.25 which has now become a key support level and should promote further near-term currency gains. Recent strong gains have diminished prospects for a £/$1.18-1.22 target.
• 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 broken back below the key resistance level of 2.0% providing continued support for the multi-year bull trend in US bonds.
• 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 below key support at $50-55, indicating a sharp decline to the $40-45 range. Base metal prices are in a bull trend confirmed by copper’s increase above key resistance at $5 500 per ton.
• Gold has developed an inverse “head and shoulders” pattern, which indicates further upward momentum and a test of the $1 400 target level.
• A break above 54 200 on the JSE All Share index would project an upward move to 60 000 marking a new high for the JSE.
Bottom line
The Zuma faction of the ANC has sought to deflect the growing evidence of state capture and corruption through the adoption of “radical economic transformation” policies including land expropriation without compensation, a profoundly negative Mining Charter and repeal of the Reserve Bank’s inflation targeting mandate.
READ: Mining Charter: Hope of a 'different' final version
• Reflecting the economy’s crisis of confidence, the Bureau of Economic Research (BER) manufacturing survey collapsed from an already depressed 28 in the first quarter (Q1) to just 16 in Q2 the lowest since it hit 11 in the middle of the 2008/09 global financial crisis. This means that 84% of survey respondents viewed business conditions as unsatisfactory.
Among the sub-indices, the manufacturing production index collapsed from -3 to -18, the domestic sales index from -14 to -27 and the export sales volumes index from +1 to -14.
• The most concerning finding of the BER manufacturing survey is that 47% of respondents expect conditions to deteriorate even further, up from just 16% of respondents in Q1. The percentage of respondents who rate the political climate as a deterrent to investment reached its previous all-time high of 87%.
• The BER manufacturing survey seems to be in contradiction with the purchasing managers’ index (PMI), which, except for April and June, has spent most of this year above the expansionary 50-level.
Unfortunately, the PMI has consistently overshot the hard data, perhaps due to there being no weighting for firm size in the PMI so that a couple of large firms reporting negative conditions could easily be outweighed by a few more positive small companies.
The BER survey has tended to be the most accurate barometer of actual conditions. The manufacturing sector of the economy has contracted in real terms for three straight quarters and in nine of the past 13.
• While it is hard to be optimistic given the dismal BER manufacturing survey it is fair to say that we are likely close to if not already at the bottom. A cyclical recovery is probably imminent fuelled by the Reserve Bank’s looming interest rate cutting cycle and pent-up demand after years of sub-trend business investment and household consumption.
Furthermore, a secular recovery is not out of the question in the likely event that the “technocratic constitutionalist” arm of the ANC manages to beat Zuma’s patronage-based faction in December’s elective conference.
• Equity markets are forward-looking. It is always darkest before dawn and the best performance will come from portfolios which are invested during this time.
In the words of Warren Buffet in the 2016 Berkshire Hathaway financial report: “Every decade or so, dark clouds will fill the economic skies, and they will briefly rain gold. When downpours of that sort occur, it’s imperative that we rush outdoors carrying washtubs, not teaspoons. And that we will do.”
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.
SUBSCRIBE FOR FREE UPDATE: Get Fin24's top morning business news and opinions in your inbox.
