Money market prices in one more 50 bp rate cut on tariff and GNU tensions
April started with a big bang as global financial markets experienced a multi-trillion-dollar sell-off, rocked by Trump’s shock “reciprocal” tariff announcement, but then clawed back most of these losses on his decision to postpone these for 90 days.
Locally, the double whammy of escalating political uncertainty and tariff announcements took its toll on markets in the first week of the month before relative calm returned and markets rallied again, resulting in the money market pricing in one additional 0.50% cut over the next year.
Though April highlighted how quickly investor sentiment can change and that significant global challenges remain a threat, there is still cause for prudent optimism in SA financial markets based on several fundamentals that should sustain the performance of SA assets.
1. Operation Vulindlela remains largely insulated from Government of National Unity (“GNU”)-related developments, allowing structural reforms to continue regardless of fractured coalition politics.
2. The Infrastructure Investment Programme is still on a sound footing. The National Treasury is targeting fixed investment growth of 4.7% annually, translating to R1 trillion over three years.
3. Private Sector Capital Expenditure is increasing, particularly in mining, manufacturing, and construction, though recent developments may dampen this momentum.
4. Corporate Resilience remains strong, with battle-hardened company management and robust South African companies after years of operating under challenging conditions.
5. Attractive Valuations persist in both equity and fixed-income markets, with SA equities trading at a discount to their emerging market peers.
6. Monetary Policy Flexibility provides room to counteract economic headwinds if needed. Current and currently expected future inflation is not standing in the way of cuts.
For our view on the markets to turn unreservedly optimistic again, the global and local challenges undermining broad economic and financial market prospects must get back onto an even keel, which could prove challenging.
Political Turbulence: The GNU Under Pressure
The cohesion of the GNU facing its first significant test with the national budget, deteriorated further in early April when the Democratic Alliance (“DA”) voted against it, creating profound uncertainty about South Africa's governing arrangement.
Two critical questions arise from these tensions: If budget amendments are required, particularly regarding the proposed VAT increase, what alternative revenue sources will enable National Treasury to maintain fiscal discipline? More fundamentally, what will become of the GNU itself?
Should the DA depart, the GNU may either incorporate smaller parties like BOSA and Action SA (the "middle road") or bring in the Economic Freedom Fighters or MK Party (the "low road") – an outcome likely to trigger significant market concern.
As one analyst noted: "The ANC has yet to fully accept the political limitations that it faces as a result of losing the national majority last year, and the DA has yet to learn how to operate as a part of, rather than in opposition to, government."
Global Headwinds: US Tariffs and Trade Relations
Compounding domestic challenges and President Trump's "Liberation Day" tariffs have altered the global economic landscape. South Africa now faces a 30% blanket tariff on exports to the US (with some exceptions), raising serious concerns about continued African Growth and Opportunity Act eligibility.
The economic implications are substantial. We estimate these tariffs could reduce economic growth by about 0.3% and potentially increase inflation by up to 1% through sustained rand depreciation.
Market Performance and Outlook
South African equities delivered a 4.3% return in April and 10.5% year to date, notwithstanding the sharp selloff following Liberation Day. The performance in April was driven primarily by the financial (+5.8%) and industrial (+5.2%) sectors, with the resource (-2.3%) and basic materials (- 2.3%) sectors losing ground.
Fixed income markets were initially resilient, with the 10-year government bond yield reaching a high of 11.1%, declining to 10.4% and ending the month at 10.9% – still a substantial premium over current headline inflation of 2.7%. However, these bonds remain vulnerable to domestic political developments.
Monetary Policy Flexibility
The South African Reserve Bank (“SARB”) still has room to move after cutting the repo rate by 0.25% to 7.5% in January and holding it steady in March. We consider current monetary policy to be tight, with a real repo rate of 4.3% compared to the neutral rate estimate of 2.5%. That gives the central bank flexibility to respond to economic challenges, though the SARB continues to view inflation risks as skewed to the upside.
If needed, money markets are pricing in one additional 0.50% cut within the next year, creating a potential buffer against growth shocks.
Navigating the Way Forward
The outlook for South African markets has undoubtedly become more complex. While risks have inevitably increased, compelling domestic valuations, continuing SA structural reforms, and resilient businesses provide reasons for cautious optimism at home amid the global uncertainty.
What remains clear is that the path forward will require careful navigation through increasingly unpredictable terrain and that making emotional investment decisions is not the answer. Instead, it is time to rely on balanced and diversified investment portfolios in the best position to minimise losses and take advantage of opportunities as they arise.
