Lower oil prices to boost festive spending
Izak Odendaal, Investment Analyst at Old Mutual Wealth.
November is known as the month of the moustache in support of cancer awareness, but at least investors didn’t need hair on their teeth this month. Following the ups and downs of September and October, the past month definitely felt calmer. In fact, there were fairly solid performances across a broad range of local and global asset classes.
The benchmark US index, the S&P 500 returned 2.7% in November (including dividends), taking the return for the first 11 months to 13%. European equities also rallied in November, partly on the expectation that the European Central Bank (ECB) would be launching an aggressive monetary stimulus programme. The Paris CAC 40 returned 3.7% in November and the Frankfurt DAX 7%. While European investors are hoping the ECB will come through with full-scale quantitative easing, the Bank of Japan has already announced further increases and the yen dropped 6% to 118 in November, boosting Japanese share prices by a similar amount.
Chinese equities also had a strong month after a surprise interest rate cut. Despite a strong performance from China, the MSCI Emerging Markets index lost 1% in November but was 3% up year-to-date, in part due to the depreciation of emerging market currencies against the US dollar.
Commodity prices stabilised in November, with the notable exception of iron ore and especially crude oil. Oil prices fell a further 12% during the month to close at $70/barrel, when it became clear that the OPEC (Organisation of the Petroleum Exporting Countries) oil cartel would not be cutting back production targets to prop up the price. Instead, the OPEC countries agreed to stick to their 2011 quotas, implying only marginally lower output, a literal drop in the bucket compared to the flood of US shale oil. This has given consumer spending a boost that has not yet fully turned up in official global retail sales numbers, but certainly in the share prices of retailers, especially those targeting the lower end of the market (the likes of Walmart). The oil price drop has also lowered inflation expectations across many countries, including South Africa. Shares in Sasol, the only major petroleum company listed on the JSE, fell by 16% in November. The lower oil price has placed massive pressure on currencies of key producers and the MTN share price is down 10% this month partly due to its large Nigerian exposure.
Local bonds returned 2.36% in November and 5% since the end of September, as expectations for interest rate hikes have been pushed out to the second half of next year. The benchmark R186 government bond yield rallied from 7.8% to 7.6% during the course of the month. Listed property shares rallied as bond yields fell, returning 8% in the quarter so far.
The JSE All Share index returned 0.6% in November, led by the Financials index which returned 3%. Financials are also the year-to-date leader, with 26% returns compared to Industrials’ 16% and Resources at -10% (without the 6% year-to-date depreciation of the rand against the dollar, resource shares will probably have fared worse). The announcement of one of South Africa’s biggest corporate deals and the purchase of Pepkor by furniture retailer Steinhoff, valued at R62.8 billion, created much excitement on the local market and lifted the Consumer Goods index. The rationale for the deal, further expansion outside slow-growing South Africa, has become familiar among local listed companies.
With only one month left of the year, 2014 returns can be compared with long-term averages. The long-term real return of US equities is around 6% compared to a year-to-date real return of 10%. German equities have returned 4%, slightly behind the post-war average of 5%. The resource-heavy FTSE 100 is marginally positive, against the long-term real return of 5.3%. The JSE All Share has returned 11% year-to-date (including dividends), which is roughly 6% ahead of inflation. The long-term real return on local equities is 7%, which is among the best in the world over the past 100 years (according to research from London Business School academics Dimson, Staunton and Marsh). In US dollar terms the JSE All Share has moved sideways since mid-2011, illustrating the beneficial impact of a weak rand on the local market. Local bonds have returned 4% in real terms so far this year, well ahead of the long-term average of 2% per year. Year-to-date listed property returns of 16% in real terms are substantially higher than the long-term average of 4% per year total return after inflation (although the long-term history of listed property in South Africa is only about 30 years). A diversified portfolio such as a typical balanced fund would therefore have given decent inflation-beating returns in 2014, while avoiding the worst volatility associated with equities. But to get the returns, one has to be invested. Cash returns have lagged inflation yet again in 2014, meaning that sitting on the side-lines was the worst place to be.
Chart 1: JSE in 2014
Source: Datastream
A better third quarter, but nothing to get excited about
The local economy grew by 1.4% in the third quarter after adjusting for inflation. Due to the impact of a revision and rebasing exercise by StatsSA, second quarter growth was revised down from 0.6% to 0.5% and first quarter growth from -0.6% to -1.6%. Real GDP growth for 2013 was upgraded to 2.2% from 1.9%. Year-on-year growth in the third quarter was also 1.4%, pointing to weak underlying growth.
The best performing sector in the third quarter was agriculture, which grew by 8.2% up from 5.3% in the second quarter. The economy’s biggest sector, finance real estate and business services, grew by 2.4% in the third quarter, up from a revised 1.2% in the second.
The second largest private sector, wholesale, retail and motor trade; catering and accommodation, posted a strong rebound from -0.2% in the second quarter to 3.4% in the third.
Mining turned positive in the third quarter after big declines in the first half of the year, but quarterly growth of 1.6% was marginal. Manufacturing contracted by 3.4%, the third consecutive negative quarter.
The economy-wide wage bill grew by 7.6% year-on-year up from 7.3% in the second quarter. With inflation falling to below 6%, it means real incomes are improving, partly explaining the better performance in the trade sectors in the third quarter.
The GDP numbers are history; we are already two thirds of the way into the fourth quarter. Three other data releases from last week gave a view of the future. The Bureau for Economic Research’s fourth quarter Business Confidence index rose to 51 points from 46 in the third quarter, signaling that a slight majority of respondents are now net positive about the business environment. This was largely led by a jump in confidence among building contractors, whose confidence levels are the highest since the 2008 recession. Confidence among manufacturers also improved, but remains net negative. Although retailers and wholesalers are still positive, new motor dealers are net negative at 30 index points.
The SA Reserve Bank’s (SARB’s) composite leading indicator slipped by 0.7 index points to 99.8 in September. The leading indicator gives an idea of the direction of economic activity six to nine months ahead, and as such is not pointing to growth accelerating or slowing further (and certainly not to a recession).
Credit growth lifted marginally to 9.1% year-on-year in October, mainly due to rising corporate credit growth. Borrowing by households only grew by 3.3% compared to October 2014. Overall, this credit cycle remains the weakest since the 1970s, explaining why low interest rates had a limited impact on consumption and growth.
If there are no major strikes next year it should already be enough to lift the growth rate compared to this year. Unfortunately, the electricity supply situation is looking more perilous. A new research paper from SARB economists suggests that the country’s potential growth rate – the rate at which an economy can grow without overheating and hitting capacity limits – is now only 2.5%, down from 4% before the global financial crisis. Sadly, it means that mediocre growth is something we should become accustomed to.
Chart 2: SA economic growth
Source: Datastream
