Sanlam Select Strategic Income comment - Sep 18
September proved to be a very tricky month – at least for those present for the full 30 days. For those that only witnessed the latter half of the month, where the MPC left rates unchanged, the Rand rallied 3.3% and bond yields moved more than 60bps lower, all seemed well with the world. It’s the early-month price action that left some scars across the risk universe that mattered. Equities probably tell the story best, dropping 4.2% on the month to once again take the year-to-date (YTD) return back into negative territory (-3.8%). Ongoing pressure in the first week of October saw the rand giving back the bulk of its gains - after testing R15.50 against the dollar more than once over August and early September - with the ALBI (Sept YTD 4.8%) down 1.7% after the first week in October. The latest South African finance minister scandal clearly took its toll.
The STeFI 3-month Index returned 51bps in September, while the 3-month JIBAR ended the month at 7.00%, declining by 0.8bps compared to the previous month. South Africa’s August CPI printed at 4.9% y/y, which was lower than consensus expectations of 5.2% y/y. The downside surprises were primarily in categories that tend to be sensitive to exchange rate pass-through, namely in food, alcoholic and non-alcoholic beverages, clothing and footwear as well as household contents – proving the lack of demand pull in the economy. However, it is expected that risks to the inflation outlook are now firmly to the topside. The SA Reserve Bank’s Monetary Policy Committee (MPC) kept the repo rate unchanged at the September MPC meeting, although with a surprising 4-3 vote split in favour of a hold. The statement was hawkish and was it not for the weak second quarter of 2018 GDP print, an interest rate hike would likely have been a foregone conclusion. With the departure of Brian Kahn the November meeting seems ‘live’.
Retail sales volumes grew 1.3% year/year (y/y) in July, below the June upwardly revised number of 1.8% y/y (from 0.7% y/y previously) and Bloomberg consensus forecast of 1.6% y/y. Seasonally adjusted sales increased by 1.3% month/month (m/m), compared to June’s contraction of 1.1% m/m. The significant upward revision for June was due to two large retailers not submitting their data on time for June’s retail sales publication, according to Statistics South Africa (Stats SA). The weakness in retail sales is consistent with the view of a weak SA consumer faced with high and generally inelastic petrol prices and VAT increases reducing spending power. The low consumer confidence environment has seen a slow take up of debt even as banks are more willing to lend.
September was again a busy month in terms of issuance, with Aspen, Hyprop, Landbank, Woolworths, and new entrant in the capital markets AECI issuing primary bonds. Credit demand remains strong and average credit spreads are still slightly above average historical levels. Perhaps this speaks to the fact that demand is contained to specific names as evident in the inconsistency in bid-tocover ratios for credit auctions. In line with our view, the market has become more selective on names.
On the global front September was dominated by a decisive break higher in developed market yields. The common theme of this break higher relates to the unwind/expected unwind of stimulus policy dating back to the global financial crisis. to 2.25%. The Fed is forecasting hike rates to a peak of around 3.25%. Market expectations for the peak using Fed Fund futures are around 3.00%. In Europe, Mario Draghi commented that domestic inflation pressures were strengthening and that uncertainty over inflation was receding.
The trade war theme continued through September with the following noteworthy events taking place: ·September 7: Trump threatens new tariffs on about $250bn’s more worth of goods ·September 12: The US invites China to trade talks ·September 17: The US finalises tariffs on $200bn’s worth of Chinese goods ·September 18: China retaliates and announces tariffs on $60bn’s worth of goods ·September 22: China cancels planned trade talks with the US
September provided some reprieve for emerging market (EM) currencies with some of the Turkey/Argentina driven August weakness reversing. The broader trend for EM currencies since the start of the year is still decisively toward weakness.
Toward the end of September, the market focussed once again on the Italian debt theme. This was triggered by the Italian government’s plan to loosen the budget deficit to 2.4%, which put the government on a collision course with the European Commission. Italian yields sold off about 30bps dragging some of periphery European (Portugal, Greece, Spain) yields with it.
Still there is no respite in the price of oil with September seeing a roughly 7% increase in the price of Brent. This is on continued expectations of constrained supply as a result of US sanctions to be imposed in November. It is important to note though that there have been some attempts by China, Russia and Europe to try and find a mechanism to bypass these sanctions – setting up for some more conflict with the US.
The Brexit saga continued to add volatility to the British pound. Negotiations between Prime Minister May and Brussels have been slow. In addition to this, there seems to be internal squabbling within May’s Conservative Party on the terms in which Brexit should be applied. The volatility of the pound is likely to remain elevated as the Brexit deadline approaches. Equities in the US continued its upward trend with the S&P500 postings its sixth consecutive monthly gain. Important to note is that this upward trend in equities has been confined to the US with broader equity indices outside the US performing quite tepidly during 2018.
Portfolio overview The investment environment remains challenging. Risks remain from more aggressive US Fed monetary policy tightening and quantitative tightening in Europe, while locally we face policy uncertainty around land and mining reform, political risk, a constrained fiscus and subsequent impact on the rand. The risk premia that SA government bonds trade at is unlikely to unwind in the near term and under certain conditions could extend even further. Risk management seems prudent in the current context.
The portfolio will invest across the full spectrum of South African fixed income assets which include government bonds, inflation-linked bonds, corporate bonds, listed property, preference shares and money market instruments. This portfolio will be managed in accordance with regulations governing pension funds. The investment manager will also be allowed to invest in financial instruments (derivatives) as allowed by the Act from time to time in order to achieve its investment objective. This is an institutional portfolio, which will form part of a multi manager solution.
Apart from the above, the portfolio may also invest in participatory interests of portfolios of collective investment schemes registered in the Republic of South Africa or of participatory interest in collective investment schemes or other similar schemes operated in territories with a regulatory environment which is to the satisfaction of the manager and the trustee of a sufficient standard to provide for investor protection which is at least equivalent to that in South Africa.
The Trustee shall ensure that the investment policy set out in the preceding clauses are adhered to; provided that nothing contained in this clause shall preclude the Manager from varying the proportions of securities in terms of changing economic factors or market conditions or from retaining cash in the portfolio and/or placing cash on deposit.
The Manager shall be permitted to invest on behalf of the Sanlam Multi Managed Institutional Prudential Income Provider Fund One in offshore investments as legislation permits.
For the purpose of this portfolio, the manager shall reserve the right to close the portfolio to new investors on a date determined by the Manager. This will be done in order to be able to manage the portfolio in accordance with its mandate. The Manager may, once a portfolio has been closed, open that portfolio again to new investors on a date determined by the Manager.