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Record high All-share index brings hope to embattled economy

Cape Town - The All-share index hit an all-time-record high during trade on Tuesday, exceeding 55 200 for the first time ever.

Following the lacklustre 7% gain in the index over the past three years, this is welcome news emitting a positive signal for prospects over the remainder of the year.

This is according to Overberg Asset Management in this week's overview of the economic landscape.

South Africa economic review

• Foreign net buying of South African financial assets has picked up substantially with net inflows of R8.6bn and R6bn in the respective two weeks ended 21 July.

For the month-to-date net foreign purchases of South African listed equities measured R10.9bn marking the biggest inflow since June 2015.

While net equity outflows for the year-to-date remain a hefty -R44.09bn, recent meaningful inflows may signal a turning point in the outlook for the JSE.

For the year-to-date total net inflows into the South African bond market remain strongly positive at R41.65bn.

• The trade surplus increased from R7.22bn in May to R10.67bn in June marking the fifth straight monthly surplus and longest winning streak since 2011. For the year-to-date the cumulative trade surplus increased to R27.68bn compared with a deficit of -R5.04bn over the same period in 2016.

Export growth has risen faster than import growth. Exports increased in June by 1.1% year-on-year while imports fell 1.3%. The positive trade momentum is expected to continue into the second half of the year amid a pick-up in synchronised global growth and muted domestic demand.

The positive trade outlook supports a further narrowing in the current account deficit which, at 2.1% of GDP in the first quarter, shows a marked improvement on the 5.0% deficit in the same quarter last year. A narrowing current account deficit is positive for the rand.

• The SA Reserve Bank (SARB) composite business cycle leading indicator, measuring expected business conditions 6 to 9 months ahead, remained unchanged in May at 95.8, defying expectations of a further decline following the declines in the prior two months. The leading indicator is up 3.6% on its year ago level.

Among the indicator’s sub-components, the biggest detractors were a deterioration in the BER’s business confidence index and a decrease in the South African produced export commodity price index.

The biggest contributors were the increase in the number of residential building plans passed and a widening in the interest rate spread.

The business cycle coincident indicator (for April) increased from 117.8 to 118 suggesting economic growth is likely to be restored in the second quarter following two successive quarters of contraction in Q1 and Q4 2016.

• In its sixth estimate of this year’s summer crop the South African Crop Estimates Committee raised its projection yet again, increasing its forecast for the season’s maize harvest by a further 2% to 15.96 million tonnes.

This would be the largest on record comprising a 4.8% increase in yellow maize and 0.4% increase in white maize. The raised forecast suggests continued strong momentum in the agricultural sector in the second half of the year following the 22.9% quarter-on-quarter annualised growth in agricultural gross value added in the first quarter.

• Producer price inflation (PPI) maintained its downward trend decelerating sharply from 4.8% year-on-year in May to 4.0% in June, its lowest since September 2015 and well below the 4.3% consensus forecast. The decline in PPI is attributed largely to slowing food price inflation, which fell from 5.7% in May to 4.9% despite a rise in meat product inflation from 15.5% to 17%.

The 1.8% month-on-month cut in fuel prices also contributed to a softer PPI reading. The easing in PPI is likely to be maintained over coming months helped by further declines in food price inflation and a relatively strong rand, contributing to a benign trajectory in consumer price inflation.

•  Growth in private sector credit extension (PSCE) slowed from 6.7% year-on-year in May to 6.2% in June well below the 6.6% consensus forecast.

For the first half of the year PSCE growth averaged 5.8% compared with 7.9% in the same period last year. Corporate credit growth eased from 10.1% to 9.0% in response to falling domestic demand and heightened policy uncertainty.

While household credit growth increased slightly from 2.8% to 2.9% the rate of expansion in real terms, taking inflation into account, remains at a negative -2.2% reflecting weak consumer confidence and tight credit conditions.

While the SARB’s monetary easing cycle may help lift PSCE from its current depressed state a sustainable recovery will also require a pick-up in business and consumer sentiment.  

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 to 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 $5500 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.

• 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

• The sharp upward move in the All-share index over the past fortnight is attributed to two key events, being the surprise SARB repo rate cut and the resumption of dividend payments by bell-weather resource shares.

• The SARB initiated its long-awaited interest rate cutting cycle on 20 July with a 25 basis-point reduction in the repo rate. The SARB’s policy initiative paves the way for further rate cuts possibly as soon as September in recognition of a stable rand and tame inflation.

Dividend yields become increasingly attractive as interest rates decline boosting the demand for equities.

• Bell-weather resource stocks, Anglo American and Kumba Iron Ore, have reinstated their dividend payments. Based on the interim dividend alone Anglo American is now trading on a historic dividend yield of 3% and Kumba Iron Ore on a yield of 8%.

Extrapolating for the full year the two shares are trading on mouth-watering six-month forward dividend yields of 6% and 16%.

With the basic materials index comprising 19.48% of the market capitalisation of the All-share index, the resumption of dividend payments in key resource counters may provide the catalyst to a further re-rating in the equity market.

• The All-share index has struggled to break the key 55 000 mark for the past three years. With catalysts in place, notably the interest rate cycle and compelling dividend yields in the resources sector, the short- and medium-term prospects for the local share market have improved dramatically.

• Technical analysis corroborates the positive outlook. The decisive breakout in the All-share index above key resistance at 54 200 is expected to herald a sharp move upwards to 60 000 and the potential start of the next bull market.

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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