IN THIS WEEK’S BOTTOM LINE

  • Ramaphoria which welcomed the first few weeks of Ramaphosa’s presidency has made way for a growing sense of impatience and concern that he wears a paper crown lacking the authority to push through his economic reform agenda. The events of the past fortnight will solidify Ramaphosa’s support within the ANC and for his economic reform agenda boosting his ability to push through structural reforms and real transformation of the economy.

SOUTH AFRICA ECONOMIC REVIEW

  • The Reserve Bank composite business cycle leading indicator, which signals expected economic conditions 6-9 months ahead, remained unchanged in May at 105.9. Having spiked to a multi-year high in February, indicating a pick-up in economic activity in the second half of the year the recent stalling in the leading indicator suggests economic growth may subside again into the start of 2019. Among the ten components making up the leading indicator, six improved and four deteriorated. The largest positive contributors were a widening in the interest rate spread and increased number of hours worked in the manufacturing sector. The largest detractors were declines in job advertising space and in the BER Business Confidence Index. Other positive contributors include an increased number of building plans passed, increased vehicle sales and money supply growth as well as an improvement in the leading indicators of South Africa’s major trading partners. Other detractors include falling manufacturing order volumes and falling commodity prices.
  • Following months of gradual deceleration, growth in private sector credit extension (PSCE) increased sharply in June by 1.0% month-on-month lifting year-on-year growth from 4.5% to 5.7%. Credit extension to both households and companies registered a significant increase in growth. Credit extension to households grew 0.4% on the month lifting annual growth from 4.2% to 4.5%, while to companies PSCE grew a robust 1.9% on the month lifting annual growth from 3.3% to 5.3%. Credit demand is expected to pick-up in the months ahead supported by lower and stable interest rates and benign inflation. A stronger upward move is likely in 2019 after the general election with improved political certainty and policy clarity expected to boost business and consumer confidence.
  • Producer price inflation (PPI) accelerated in June to 5.9% year-on-year up from 4.6% in May well above the consensus forecast of 5.2%. On a month-on-month basis PPI also increased by a higher than expected 0.9%. The “coke, petroleum, chemical, rubber and plastic products” category was the biggest culprit, contributing 3.1 percentage points to annual PPI and 0.7 percentage points to the monthly PPI measure. PPI is likely to rise in the months ahead pushed higher by fuel prices, a volatile rand, and expected food price increases. However, weak domestic demand should keep increased PPI from translating into sharply higher consumer price inflation (CPI). Amid weak economic growth and a benign CPI outlook the Reserve Bank will likely refrain from lifting its benchmark repo interest rate at least for the next 12 months.

SOUTH AFRICA: THE WEEK AHEAD

  • Quarterly Labour Force Survey: Due 31st July. It is unlikely that the unemployment rate will have improved from its first quarter (Q1) level of 26.7% in Q2 due to continued weakness in the agricultural sector and across the industrial sectors of the economy.
  • Trade balance: Due 31st July. The trade surplus is expected to have lifted in June to R5.0 billion according to consensus forecast up from R3.5 billion in May, with weakness in the rand improving export competitiveness. At the same time lacklustre domestic demand will supress import growth.
  • New vehicle sales: Due Wednesday 1st August. Following a stronger than expected 3.0% year-on-year increase in new vehicle sales in June, growth is expected to have slipped slightly in July, hampered by increased VAT, higher fuel costs and generally weak domestic demand. At the same time new vehicle exports may have already been affected to some extent by US trade protectionism.
  • Absa manufacturing purchasing managers’ index: Due Wednesday 1st August. The manufacturing purchasing managers’ index (PMI) is likely to have lifted slightly in July from its June reading of 47.9 although expected to have remained below the neutral 50-level for a third straight month. The PMI, a forward-looking indicator, will be closely watched for clues on the likely health of the manufacturing sector in the third quarter.

GLOBAL

  • President Trump and European Commission President Jean-Claude Juncker pledged to work together to negotiate towards a broad reduction of tariffs and to cooperate against unfair Chinese trade practices. Trump agreed not to implement the threatened 20% tariff on European autos for as long as negotiations continue although cautioned that the threat of escalation remains if negotiations fail to yield results. The EU pledged to boost purchases of US liquified natural gas and soybeans. The temporary trade truce between the US and EU signals a de-escalation of the trade conflict amid broadening resistance from US businesses and Republican politicians.
  • Citigroup analyst Mark Schofield cautioned that the recent rally in global equity markets off their February lows may be unjustified, citing geopolitical risks, global trade protectionism and tightening monetary policy. Schofield noted that the global economy was “riding the tailwinds of easy policy and fiscal stimulus, but these drivers are failing. Meanwhile, storm clouds are gathering and risks look biased to the downside.” The narrowing leadership in the S&P 500, where a shrinking number of stocks are lifting the market higher, raises a red flag. Declining market breadth is a traditional warning signal for the market.

NORTH AMERICA

  • GDP growth accelerated in the second quarter (Q2) to 4.1% quarter-on-quarter annualised up strongly from 2.2% in Q1. This marks the fastest growth since hitting 4.9% in Q3 2014. The biggest contributors were strong personal consumption spending and non-residential fixed investment spending, boosted by US tax cuts and capital spending incentives. A jump in exports also contributed strongly, although the boost was probably a once-off, driven by an annualised 80% jump in food exports to avoid tariffs. Personal consumption expenditure, which accounts for over two-thirds of GDP, increased by 4.0% annualised. Non-residential fixed investment increased 7.3% albeit a slowdown from 11.5% growth in Q1. Detractors to growth include residential fixed investment, which fell 1.1% annualised in Q2. An inventory decline subtracted 1 percentage point from GDP growth although a normalisation in inventories should provide a boost to GDP in Q3.
  • The US expansion, which began in 2009, is the second longest in history. By mid-2019 it will have beaten the ten-year expansion which ended in 2001. Although a majority of fund managers surveyed by Bank of America believe the US is heading for a recession in late 2019 or early 2020, due to the fading effect of Trump’s fiscal stimulus, there is also cause for optimism. There are many precedents for far longer periods of uninterrupted growth. The UK and Canada enjoyed 16-year expansions ending in 2008. Australia has enjoyed uninterrupted growth for 26 years. The average annual growth in the current US expansion is relatively slow at just 2.2%, well below the 2.9% growth rate in the 2001-2007 expansion and the 3.6% pace in the 1991-2001 expansion. This means that even though the duration of the current US expansion is close to making a new record the magnitude of the expansion is far less than previous cycles, potentially indicating continued durability. Encouragingly, there are few signs of financial imbalances or instability with the banking system in a robust position. In addition, there is little indication of wage pressure or inflationary pressures which would compel the Fed to constrain economic growth. Wages are being supressed by long-running structural factors, including demographics and globalisation. The aging population is suppressing wage growth as highly paid retirees are replaced by younger lower-paid workers. Meanwhile, globalisation keeps wages under pressure due to the competitive impact of cheaper workforces in low-wage regions.
  • Durable goods orders, after falling month-on-month in May by 0.3% and by 1.0% in April, rebounded by 1.0% in June signalling a recovery in manufacturing momentum. Vehicle orders enjoyed their strongest monthly gain in three years. Excluding the defence sector, which suffered a pullback in June, durable goods orders increased in June by a solid 1.5% on the month. New orders for non-defence capital goods excluding aircraft, a closely watched proxy for business investment spending, increased 0.6% on the month, maintaining its positive trend. In the year-to-date, the proxy for business spending has increased year-on-year by 6.8% boosted by tax incentives. Increased business spending bodes well for a recovery in productivity growth.
  • New home sales fell sharply in June by 5.3% month-on-month while the previous month’s 6.7% increase was revised lower to 3.9%. in addition, prices decreased and inventories increased signalling potential weakness in the US housing market. The median sale price of new homes fell in June by 4.2% year-on-year while the inventory increased to 5.7 months’ supply at the current purchase rate, the highest since August 2017. Housing market weakness also reflected in existing home sales, which fell in June by 0.6% on the month taking the year-on-year decline to 2.2%. Existing and new home sales are being hamstrung by declining affordability following several years of successive price increases and the recent rise in mortgage rates. According to Freddie Mac the average rate for a 30-year fixed rate mortgage was 4.57% in June up from 4.03% in January.
  • The University of Michigan US consumer sentiment index slipped in July from 98.2 to 97.9 its lowest since January although still at a relatively elevated level. The index hit 101.4 in March its highest level in 14 years. While the present situation index fell from 116.5 to 114.4 the forward-looking expectations index edged up from 86.3 to 87.3 indicating a recovery in consumer confidence in the months ahead. Richard Curtin, the survey’s chief economist noted that: “Despite the expectation of higher inflation and higher interest rates during the year ahead, consumers have kept their confidence at high levels due to favourable job and income prospects.” He added, however, that: “Consumers who had negative concerns about the tariffs voiced a much more pessimistic economic outlook.” The proportion of respondents expressing concern about the likely impact of a trade war increased from 21% to 35%.

CHINA

  • China’s spiralling debt and excessive leverage is often cited as one of the key risks to global financial market stability. Following massive monetary stimulus and investment spending in the wake of the 2008/09 Global Financial Crisis, China’s gross debt to GDP ratio surged from an already elevated 171% in 2008 to 299% in the first quarter 2018. Historical precedents indicate that credit booms eventually end in a crisis. However, several factors suggest China’s credit boom is manageable. The most compelling factor is the overriding power and size of the Chinese government’s finances and the authority of its central bank. The government has the capacity and ability to shore up its banking system if it needs to. Besides, while China suffers from excessive indebtedness the country also enjoys an exceptionally high savings ratio. This is reflected in the much higher than usual capital adequacy of China’s banks and the fact that China is the world’s largest net creditor nation, protecting the country and its banks against a run by depositors.
  • In response to increasing government restrictions on the real estate market, the Financial Times Confidential Research (FTCR) China Real Estate Index fell sharply in July from 55.0 to 46.2 below the neutral 50-level. The FTCR China Home Price Index fell from 62.6 to 59.2 although still in expansionary territory while the FTCR Home Sales Index fell from 51.6 to 43.0 its lowest in five months. Development activity also slowed with the FTCR New Home Supply Index declining from 52.5 to 46.2. While China’s residential real estate market appears finally to be experiencing a broad-based slowdown it is likely, that since it has been induced, authorities would be able to resuscitate the market if needed.

JAPAN

  • As expected, the Bank of Japan (BOJ) left its quantitative and qualitative easing programme unchanged. However, after intervening in the government bond market three times in a week to suppress the 10-year government bond yield as part of its “yield curve control” (YCC) policy introduced in late 2016, the BOJ announced a more flexible YCC framework. While maintaining its target for the 10-year yield at around zero and the short-term interest rate target at -0.1%, it explained that the yields may move up or down “to some extent mainly depending on developments in economic activity and prices.” The BOJ also acknowledged that achieving its 2% inflation target will take “more time than expected.” As the world’s only central bank still committed to an indefinite expansion of its balance sheet, the BOJ policy decision provided relief to global bond markets, which had begun to fret over a more substantial shift in policy.
  • Tokyo’s core consumer price inflation (CPI) excluding fresh food, a leading indicator of nationwide inflation, unexpectedly accelerated in July to 0.8% year-on-year up from 0.7% in June beating the 0.7% consensus forecast. Tokyo’s CPI caps its 13th consecutive positive reading and suggests the nationwide average may also increase in July from June’s level of 0.8%. Among the CPI components, processed food inflation increased from 0.6% to 0.8% and rents increased from 0% to 0.3% marking the first positive reading in over two years. Core-core CPI, excluding fresh food and energy, also accelerated from 0.4% to 0.5% indicating a gradual normalisation in inflation.

EUROPE

  • The ECB stuck to the decision made at its last policy meeting in June, to halve its bond purchase programme from €30 billion to €15 billion in September before ending purchases altogether in December. The ECB however, maintained its overall accommodative monetary outlook reiterating that it would keep interest rates on hold at record low levels “at least through the summer of 2019”. The deposit rate, currently at -0.4% is therefore unlikely to rise before September 2019. Moreover, the ECB would continue to reinvest the proceeds of maturing bonds on its €2.5 trillion balance sheet “for an extended period of time” indicating no plans for the foreseeable future of “quantitative tightening”. ECB President Mario Draghi maintained an upbeat outlook for the Eurozone economy despite GDP growth slowing in the first quarter (Q1) to 0.4% quarter-on-quarter from 0.7% in Q4 2017, noting that: “While uncertainties, notably related to the global trade environment, remain prominent, the information available since our last monetary policy meeting indicates that the euro area economy is proceeding along a solid and broad-based growth path.”
  • Germany’s Ifo Business-Climate headline index fell in July from 101.8 to 101.7 marking its lowest reading since March 2017. The Ifo survey compiled from 9,000 companies across the manufacturing, services, trade and construction sectors, scaled back expectations amid mounting trade tensions between the US and the EU. Germany’s economy, with its heavy reliance on exports, is especially prone to changes in global trade. The Ifo expectations index fell from 98.5 to 98.2 continuing its decline for an eighth straight month. Clemens Fuest, president of the Ifo Institute noted that: “The German economy continues to expand, but at a slower pace.”
  • In contrast to the depressed Ifo Business-Climate survey, Germany’s IHS manufacturing purchasing managers’ index (PMI) surged in July from 55.9 to 57.3 its first increase in seven months. The PMI, recovering to its highest in three months far exceeded the consensus forecast of 55.5. The improvement is attributed to increases in output, new orders and stocks of purchases. IHS Markit economics director Trevor Balchin noted that: “Private sector output growth in Germany continued to regain momentum in July, having previously sunk to a 20-month low in May. The manufacturing sector was the source of stronger growth in the latest month, after services had driven the expansion in June.”
  • Sweden’s GDP growth defied expectations increasing in the second quarter (Q2) by 1.0% quarter-on-quarter double the 0.5% consensus forecast while Q1 growth was revised up from 0.7% to 0.8%. On a year-on-year basis GDP growth held steady at 3.3%. The stellar growth rate is attributed to consumer spending. Household consumption expenditure grew 0.9% on the quarter. The trade balance also contributed with exports rising 0.5% while imports decreased by 0.2%. Gross fixed capital formation detracted from GDP, falling on the quarter by 0.2%. The faster than expected pace of economic activity may prompt the Riksbank to exit its ultra-accommodative negative interest rate policy ahead of the ECB, which is expected to keep its key deposit rate at -0.4% until late summer 2019.

UNITED KINGDOM

  • The GfK Consumer Confidence Index fell in July for a second straight month despite the summer heatwave and major sporting events. The consumer confidence index fell from -9 to -10 below its 12-month average for the first time in five months. The reading has been consistently stuck at or below “0” since February 2016. The decline is attributed to declining consumers’ perceptions of their personal finances and the general economic situation, and a declining appetite for large durable goods purchases. Reflecting the decline in consumer confidence, the GfK Savings Index increased from +8 to +9. Chief Strategy Director at GfK, Joe Straton, noted that: “In the medium-term, and during the uncertainty in the run-up to the UK leaving the European Union in eight months, it is hard to forecast what kind of good news will change the numbers from negative to positive, or indeed where such good news could originate.”

FAR EAST AND EMERGING MARKETS

  • India’s equity market has registered successive all-time record highs in the past week pushed higher by fast moving consumer goods shares, banking shares and the shares of outsourcing giants Tata Consulting and Infosys. Banking shares, which make up around 40% of the Sensex Index, have benefitted from the new bankruptcy code. The legislation has helped to clear legacy bad debts from banks’ balance sheets enabling a recovery in credit extension. While the estimated forward price-earnings multiple of the Sensex appears expensive at 19 times, ahead of the 10-year average of less than 16 times, the fundamental outlook appears bright. India was the world’s fastest growing major economy in the first quarter with growth of 7.7% year-on-year, providing a solid boost to company earnings. In aggregate, companies comprising the MSCI India Index are forecast to grow earnings by 28% in 2018.

KEY MARKET INDICATORS (YEAR TO DATE %)

JSE All Share - 03.68
JSE Fini 15 - 04.99
JSE Indi 25 - 06.23
JSE Resi 20 + 12.87
R/$ - 05.94
R/€ - 03.46
R/£ - 03.11
S&P 500 + 04.82
Nikkei - 00.97
Hang Seng - 03.96
FTSE 100 + 00.17
DAX - 00.92
CAC 40 + 03.36
MSCI Emerging - 05.90
MSCI World + 02.13
Gold - 05.75
Platinum - 11.15
Brent oil + 12.49

TECHNICAL ANALYSIS

  • Although the rand has broken its spell of recent declines and now consolidating in a trading range of R/$13.00-13.50 the likelihood of continued strength below R/$13.00 is limited. The trading range is likely to persist for the foreseeable future.
  • The rally in the US dollar index has reached its medium-term goal suggesting a correction from current levels. The dollar remains below a major 30-year resistance line suggesting the bull run in the dollar may be over.
  • The British pound has broken back below key resistance at £/$1.35 suggesting a trading range of £/$1.30-1.35. The £/$1.30 level is expected to provide strong resistance.
  • 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 is struggling to break decisively above key resistance at 3.0%. However, a break above this level is expected and would open the next target of 3.6%.
  • The benchmark R186 2025 SA Gilt yield has retraced earlier weakness and fallen back below the key 9.0% level. A trading range of 8.4-9.0% is expected over the foreseeable future.
  • Key US equity indices, including the S&P 500, Dow Jones Industrial, Dow Jones Transport, Nasdaq and Russell 2000, have simultaneously set new record highs, confirming a bullish outlook for US equity markets.
  • The Brent oil price has struggled to break above key resistance at $75 per barrel, indicating a likely trading range of $65-75 per barrel. The outlook for base metals prices is less certain after the copper price retreated sharply from the key $7000 per ton level. A break below $6000 per ton would herald a bear market in copper and base metals’ prices.
  • Gold has developed an inverse “head and shoulders” pattern, which indicates a price recovery and a test of the $1400 target level.
  • Despite the consolidation since the start of the year the break in the JSE All Share index above key resistance levels at 56,000 and 60,000 in December signals the early stages of a new bull market.

BOTTOM LINE

  • Ramaphosa’s share price has been boosted by events of the past fortnight. The KZN provincial elective conference outcome is a resounding vindication of Ramaphosa’s strengthening political capital within the ANC. The provincial elective conference in KZN, significant due to its size and its erstwhile support for Zuma, swung decisively towards a “unity” vote, giving Ramaphosa greater support in the key province.
  • The BRICS Summit, attended by heads of state of all BRICS partners and from other African countries as well as Turkey, was a significant success. China pledged an investment of $14.7 billion in South Africa. While unclear what the timeframe will be or whether it will comprise loans, foreign direct investment or developmental assistance, the amount is a clear boost to Ramaphosa’s investment drive.
  • The $14.7 billion Chinese investment pledge comes close behind pledges earlier in July from the United Arab Emirates and Saudi Arabia to invest $10 billion each, bringing the total close to $36 billion, including $700 million from Mercedes Benz. Given the targeted total of $100 billion over five years, these inward investment pledges totalling $36 billion are impressive and should solidify ANC support for Ramaphosa’s economic agenda.
  • Ramaphoria which welcomed the first few weeks of Ramaphosa’s presidency has made way for a growing sense of impatience and concern that he wears a paper crown lacking the authority to push through his economic reform agenda. The events of the past fortnight will solidify Ramaphosa’s support within the ANC and for his economic reform agenda boosting his ability to push through structural reforms and real transformation of the economy.
  • Real transformation policies are vital to boosting business confidence. With both the state and household sectors of the economy afflicted by over-indebtedness it is incumbent on the corporate sector to provide the funds to spark a cyclical economic recovery.
  • South Africa’s corporate sector has very low debt levels by global standards and substantial cash reserves resulting largely from the investment strike over the latter part of Zuma’s presidency. Meaningful long-lasting structural reforms will create an environment which is conducive to investment, providing the catalyst to mobilise the wall of corporate money.