The million rand question for South African investors

South African investors are facing a difficult few months concerning investing in local companies as there is uncertainty about whether the new government can execute its bold ambitions. 

This is feedback from the head of portfolio management at Standard Bank Stockbroking, Ed Southey, who said the million rand question is whether the positive momentum in financial markets can be sustained. 

At Standard Bank’s Democracy and Markets event, Southey explained that it is still unclear whether the Government of National Unity (GNU) will be the catalyst to unlock significant value in South African assets. 

South African assets, particularly local government bonds, have soared since the formation of the new government as investors became increasingly optimistic of a brighter future for the country. 

Since the end of the election, local government bonds have returned 7.6%. This is without investors receiving any interest payments, which would only improve their returns. 

The JSE All Share Index, meanwhile, has hovered near all-time highs, and the rand briefly strengthened below R18/$. 

Stanlib’s head of fixed-income investments, Victor Mphaphuli, said the entire investment landscape will change in South Africa if the country can achieve growth of above 3%. 

Mphaphuli even said that if everything goes perfectly to plan, yields on South African government bonds could hit single digits. 

This will boost local assets but may result in bonds losing favour as the yield on them declines due to improved government finances. 

This year is proving to be one of two halves, with the second six months dominated by questions about whether this positive momentum can be sustained. 

However, Southey cautioned against unbridled optimism, saying the recent rally is more a sign of relief rather than an indication of fundamental change. 

South African companies are valued relatively cheaply for good reasons, but there are still pockets of very good value on the JSE.

Whether South Africa’s economic fundamentals improve and whether the government can deliver on its reform programme remains to be seen. 

There is a risk of repeating the Ramaphoria boom and the bust seen in 2018. Southey said investors and South Africans want action and need to see results. 

This echoes a warning from Allan Gray portfolio manager, Thalia Petousis, who said that political goodwill is not enough to drive tangible change that is needed to unlock value. 

With South Africa’s election being conducted without any major hiccups and the GNU formed, financial markets have responded positively due to an expectation of greater certainty. 

Petousis said these developments are promising for South Africa, reflecting “market enthusiasm” following the election results and the formation of the GNU.

The positive effects go beyond financial returns, as the increase in South African asset prices is expected to benefit the wider economy.

“With a more confident South African market and a stronger rand, we could see reduced imported cost inflation, which may help alleviate inflationary pressures on fuel and certain food items.”

“Consequently, the local market is now factoring in two to three interest rate cuts over the next couple of years,” Petousis said.

Reflecting on past events, the market’s excitement following Cyril Ramaphosa’s election as ANC president in 2017 led to notable shifts in bond performance.

Known as Ramaphoria, this period saw the 20-year bond spread against US Treasuries drop from 725 basis points (bps) to 560bps, resulting in an approximately 13% capital gain over just three months.

“Currently, the 20-year spread stands at 716bps relative to US Treasuries, suggesting that South African bonds are now more attractively priced compared to before Ramaphoria.”

This change is primarily due to South Africa’s significantly increased debt and higher costs associated with servicing that debt.

“Looking ahead one year from Ramaphoria to December 2018, the bond yields widened again, and the capital gain compared to the pre-Ramaphoria period fell to just 3%, with the rand also weakening.”

“The key takeaway from this period is that in a globally interconnected economy, interest rates may struggle to maintain a downward trend if global inflation remains volatile,” explained Petousis.

“Another important lesson from Ramaphoria is that political goodwill alone cannot alter the direction of our country’s development.”

For a different outcome this time, South Africa needs competent leaders who can effectively implement their plans, especially after years of decline in crucial government sectors.

Only a combination of creativity and skill can enhance South Africa’s economic growth and address unemployment issues.

Some political parties, for example, have proposed reforms for Home Affairs and solutions to the ongoing tourist visa challenges that impact various sectors of the economy.

Effective leadership in key departments could make a substantial difference, akin to how Edward Kieswetter revitalized SARS after its operational capacity and integrity were compromised by state capture.

“Whether we will see a similar broad-scale recovery remains to be seen as the GNU and newly appointed ministers begin their work,” Petousis concluded.