Be careful

The economic upside is over-emphasised says Dave Mohr, CIO at Citadel. There are some issues and risks that are not being addressed or highlighted. Growth is at levels that are not often seen, in terms of GDP.

Car sales are up 50% in the last two years, while house prices have almost doubled. The way that economists are measuring things is not accurate.

It seems that most of the population are benefiting says Mohr. On the property front the current levels are only seen every 15 years or so.

The JSE has also been profitable over the last two years. There has been a substantial increase. The investors in equities also benefited, while those less fortunate people receiving social grants have increased. There has been growth in labour market, and there have also been solid real salary increases. The beneficiary net has widened and is widespread.

Foreigners have endorsed the new found prosperity in South Africa. There have been huge financial inflows in the past two years. There has also been a substantial increase in the spending power of the locals.

The direct benefit has been the strength of the rand for the last two years. The country is blessed with the strongest currency in the world, with the rate at similar levels as far back as 1998. Added to which forex reserves have been steadily climbing. The currency is stable on average.

Growth rates are exceeding the inflation rates – something undreamt of several years ago.

South African are not the greatest savers in the world, and have benefited from the lowest interest rate in decades. Added to which salaries have increased by a huge percentage, in international terms, and this had led to huge levels of confidence.

A little bit of the fly in the ointment is that this may not be sustainable. The country’s growth rate should be compared to the rates of other emerging markets – and SA is still behind its competitors. Having said that, while SA is in a sweet spot in terms of world growth, it is unlikely that this can be sustained.

There seems to be soaring credit demand, based on mortgage, installment debt and leasing. It is feeding on itself. On the property side there was buy to let, then buy to invest, and then buy and renovate. Most people are active in the property market.

You can’t sustain borrowings if these are higher than real income growth.

Added to which government spending is also surging, as a percentage of GDP, which is also growing. Government seems to be leading the race. The arms deal seems to be one of the drivers, as this spending will only stop in six years time.

Guns and butter – priority was buying arms first, now social grants is starting, and then government infrastructure spending happens – all three at the same time. One of these should have been stopped. Guns, butter and dams.

It seems that government is also projecting that the good times will continue. They are basing their spending projections on the current good times, something that Mohr says is not maintainable. The biggest mistakes happen when people assume that the current situation will continue and they build their projections on these. Tax income will increase in the good times, but this will drop when the good times come to an end. Added which the deficit is rising again.

The uncontrolled currency appreciation is dangerous as SA is now essentially non-competitive with other goods producing countries. Added to which import cover is still low at about three months. Exports are stagnating as the country is non-competitive. People continue exporting in the hope that the exchange rate will turn, and they are afraid to loose the contract. But many people have simply given up and got out of the export game.

The issue of forward cover was also touched on. There are not many companies that are taking out forward cover and this is dangerous. Many companies have gone to the wall because they saw the long term as two to three years, and not 100 years.

The local car market is an anomaly as the margins remain fat, and the international players have realized this. There is competition on price but the margins remain in place. One simply has to compare the cost of a German luxury car in London and look at a similar vehicle in SA, including all the cost of bringing that vehicle to SA.

Mohr also suggests that you should cost a golf club on the internet and then compare it to what you would pay for at your local golf pro shop. There is a gap here.

How many times has the argument been used that the USA twin deficits mean that the strength of the rand against the dollar, will continue. In fact, the local deficit in percentage terms, against the GDP numbers in the USA, are very similar. Added to which personal savings for both countries are similar.

Mohr also warns about the real house price property cycle, which has been moving in 15 year cycles. The current cycle has taken longer than 15 years, but it will happen. Property is not the safe option, it is volatile.

The problem with the market economy and the property market is that there are now lots of resources operating there. When it is booming more people get involved.

On a closing note – the JSE ALSI discount is gone – simply compare the UK FTSE and JSE SA pe ratios the gap has closed.