SA Markets Update

Below are a few quick notes on the current situation as at the beginning of April

General:

• South Africa received a double whammy, with ‘Liberation Day’ tariffs and the spectre of the potential dissolution of the GNU as it currently stands occurring a day apart, on the 2^nd and 3^rd of April.
• The risk of a global recession has seen a pullback in commodity prices.
• This poses a risk to SA on all fronts as it impacts fiscal CIT revenue, growth and the currency.
• Our reading of budget events is that the tax increases proposed in the Budget as presented on 12 March are now baked into the cake.
• According to the finance minister, a discussion can be had with respect to finding alternative tax increases to bracket creep and a 1% VAT hike.
• In our opinion it is unlikely that parliament will be able to make any realistic suggestions around this.
• The future of the GNU is very uncertain.
  • As articulated by Action SA in parliament on Tuesday, the party had been convinced by the ANC that the VAT increase would be reversed before 1 May 2025.
  • This is at odds with the statements made by the finance minister.
  • If the VAT increase is instituted, we expect the trust between Action SA and the ANC will be eroded.
  • This puts the future constitution of the GNU in even more doubt.
  • We also suspect that DA funders will be putting pressure on the DA not to leave to GNU.
  • If the current GNU survives the budget debacle, we expect asset prices will recover marginally, although tariff implications will limit the positive impact.
• Also of concern is the deteriorating relationship between the US and SA.
  • SA’s preferential trade benefits under the African Growth and Opportunity Act (AGOA) as well as the US Generalized System of Preferences (GSP) trade preference program was estimated to have resulted in the creation of approximately 62 000 jobs, according to the US embassy.
  • These are now hanging in the balance, as the automotive and agricultural industries assess their future.
  • Of more concern from a macro as opposed to sectoral perspective is the risk that sovereign sanctions are instituted.
  • It is estimated that there are 600 US companies with operations in SA, employing about 250 000 people.
  • Also, US investors own roughly half of the global holdings in SA listed bonds and equities.
• An upside to the geopolitical dynamic is that South Africa is strengthening ties with the EU.

Currency:

• US
  • The USD is weaker is against the EUR, stronger against Emerging Markets currencies.
  • On average, the DXY dollar index has maintained its strong level against a wide basket of currencies.
  • We expect EM currency weakness to persist after the tariff announcement.
  • This is in line with the renewed expectation of a global recession alongside higher inflation.
  • Higher inflation will limit central banks’ ability to respond to lower growth by reducing interest rates.
• SA
  • EM and SA specific weakness around budget, GNU and wider US relationship.
  • Our USDZAR fair value model suggests that the fair value of the dollar based on weak commodity prices, a positive inflation differential with the US and the DXY index at 103 (currently 102) is 18.40, indicating the rand at 19.00 is undervalued.
  • However, our fair value model in the event of a risk-off event has the USDZAR at 19.40. We advise that these estimates are indicative of the midpoint of the trading range where the range is 50c to the dollar.

Monetary policy (short end rates):

• US
  • Higher inflation and increased probability of a recession due to tariffs.
  • Risk of recession leads to an increased chance of earlier and deeper rate cuts by the FOMC – the market is now expecting 4 x 25bps cuts this year.
• SA
  • Pressure on the ZAR, the risk of higher inflation and potential portfolio flows out of SA, makes it difficult for the SARB to cut rates.
  • However, the market is still expecting a 1x25bps cut this year – albeit with the SARB maintaining a high repo rate in real terms (2.5 to 3.0% above expected inflation).
  • We therefore expect money market rates to remain high relative to inflation (CPI+3 to 4% over the near term)… making this asset class particularly attractive on a risk vs real return basis (has been for a while).

Nominal bonds:

• US
  • US 10y treasuries strengthened amid global risk aversion and flows to safe haven assets (UST 10Y yield down from 4.5% to 4.2% over the past weeks).
  • However, the risk of higher US inflation and a potentially weaker USD against other DM currencies, may limit the rally.
• SA
  • SA nominal bonds sold off with the ALBI down -2%+ over the MTD.
  • Once again, the size of the correction was commensurate to both US tariff and SA specific issues.
  • SA nominal bonds are now offering especially high implied real yields – around CPI+7% at these levels.
  • The future of the GNU and US relations will determine if the sell-off continues to even higher levels.
  • As noted above, the US accounts for 50% of foreign portfolio flows into SA and US investors own an estimated 14% of SA’s bonds, which makes the US one of the largest holders of SA sovereign debt.

Inflation linked bonds:

• US
  • US TIPS have rallied over the past few weeks and may be approaching levels to take profit if you were holding them in your portfolio.
  • Note that the Matrix MA portfolios have maintained a relatively high holding in US TIPS of late – providing some good news ito portfolio returns.
• SA
  • SA ILBs have maintained value well through the turmoil so far – offering a defence against potentially higher inflation down the line.
  • Longer dates SA ILBs held their levels at around CPI+5% and have added stability to our portfolios.
  • Also, SA ILBs are mostly held by local investors and are less susceptible to global portfolio flows.

Equities:

• US
  • The scope and implications of US and reciprocal tariffs on global trade can be far reaching on corporate earnings.
  • Indiscriminate selling of risky assets has seen equity value destruction across the board – but most notably in sectors that were trading especially expensive such as technology stocks.
  • US valuations remain high relative to earnings growth expectations, and we currently prefer other DM equity exposure such as Europe, even at these levels.
• SA
  • SA equities have tracked global markets lower amid the rising concerns of a global recession following the US’s reciprocal tariff announcement and domestic developments related to the budget and the GNU.
  • Defensive sectors such a food services, tobacco and breweries which do tend to be cushioned by a weaker rand have held up better than SA Inc names, with resources selling off hard particularly after China’s 34% retaliatory tariff.
  • Our equity team continues to monitor developments to identify opportunities for new investments or adding to existing holdings.
  • We have recently maintained relatively low levels of equity exposure (both SA and global) and have some dry powder across the MA portfolios.
  • Indiscriminate selling always provides opportunities to invest in quality companies with high earnings growth expectations at compelling valuations.