2019/10/23 00:00:00

Global policy discord was the main theme in 3Q19 as political decisions hurt growth, leading to demands from politicians for monetary policy to do more.
Trump expanded tariffs on Chinese imports, although implementation will be staggered. The decline in the equity market stoked recession fears, with the US 2s/10s curve inverting. The Fed has cut rates twice since mid-2019, but the statements, minutes, and dot-plots have revealed a less dovish tone. Yet the Fed Funds futures are pricing in one more cut for 2019 and two more for 2020.
It is a case of the Fed following the market, albeit reluctantly, given that falling rates, a 50-year low in unemployment, and trend GDP growth are offsetting fiscal tightening and trade wars. The slump in the ISM manufacturing index may be an overreaction to data and politics, but the fact that the oil price has not rallied despite attacks on Saudi production facilities suggests that global growth is faltering.
The ECB has already embarked on the next round of QE with Draghi’s swansong delivering deeper negative rates and asset purchases of EUR20bn per month. Negative yields across Europe and Japan are spilling over to the US and, from there, pushing investors further out the risk frontier. This search for yield has helped mask South Africa’s deteriorating fiscal position, as local bond yields have risen only modestly in the face of higher issuance.
The government announced a second large bailout for Eskom, which will have to be funded by higher taxes or expenditure reprioritisation. Both will be a net drain on the economy, as the cash injection will go towards debt redemptions rather than infrastructure.
While we all bemoan that the SARB has not cut rates more aggressively, we must acknowledge that weak fiscal policy and lack of reform has hamstrung monetary policy. Cautious language accompanied the July MPC repo rate cut, highlighting that the SARB is cognisant of the risks. Hence, the Medium Term Budget Policy Statement will have to go beyond business-as-usual in laying out a clear and credible plan on how government will steer the fiscal ship on a more sustainable course.
Market developments
During 3Q19, SA floating-rate credit (3.1%) beat cash (1.8%), while fixedincome asset classes (fixed-rate credit (1.5%), nominal bonds (0.8%), and ILBs (0.3%)) trumped property (-4.4%) and equities (-4.6%).
Relatively resilient US growth and sporadic safe-haven demand related to trade tensions, geopolitical risks, and impeachment uncertainty added impetus to the greenback. The rand lost 7.2% against the dollar in Q3, with some of the weakness reflecting hedging activity. The rand is marginally cheap versus our 14.50 – 15.00 fair value range for USD/ZAR, but weak productivity growth and a substantial fiscal funding requirement are headwinds to major gains in the local currency.
Central bank easing did not counter trade wars and Trump tweets in Q3, with the MSCI World flat for the quarter, while the MSCI EM lost 5.1% in dollar terms. The MSCI SA lost 13.2%, with the rand accounting for just over half the decline. Despite the September rebound, the SWIX lost 4.3% (total return) in Q3, with broad-based underlying weakness: telecommunications (-7.8%), financials (-6.8%), basic materials (-6.4%), consumer services (-6.2%), industrials (-3.9%), health care (-2.5%), technology (-1.1%), and consumer goods (-0.8%). Stock-specific issues and policy uncertainty constrained the local market, with gold (12.3%) and platinum (25.8%) the standout sectors thanks to the higher rand commodity prices.
Portfolio performance and positioning
The fund lost 3.9% in 3Q19, outperforming the 4.3% decline in the SWIX. The fund’s outperformance was driven by our overweight positions in AngloGold, Bidcorp, and British American Tobacco, while our overweight allocations to Sasol, FirstRand, BHP, and Barloworld detracted partly from the relative performance. Our underweight allocation to Standard Bank was accretive to the relative performance.
During 3Q19, the equity market suffered largely from generalised global growth fears and mixed commodity prices, which weighed on most counters – most notably the diversified miners. Disappointing results and credibility concerns hit specific SA names, such as Shoprite and Sasol. In addition, idiosyncratic factors were also at play: the release of the NHI Bill negatively affected Discovery, while the rebound in sterling amid ongoing Brexit fears benefited the likes of Capital & Counties. Falling real yields boosted the gold price, which benefited counters such as AngloGold Ashanti. The equity market posted a modest rebound in the final month of the quarter, with domestic retailers and industrial stocks recovering off a low base.
During the quarter, we increased our positions in British American Tobacco and Aspen, while reducing our exposure to BHP, Richemont, Glencore, Old Mutual, and Sasol.