South African assets set to boom in 2025

South African assets are set to increase in value throughout 2025 as economic fundamentals that were previously headwinds have now flipped to become clear tailwinds for the local economy. 

This is feedback from Momentum Investments’ head of asset allocation, Herman van Papendorp, who outlined the company’s approach to next year. 

Van Pandeorp said Momentum is cautiously optimistic about the direction of the South African economy and the potential for returns from domestic assets. 

This picture only holds for as long as policymakers enable and not derail the positive momentum South Africa has following the elections in late May. 

There has certainly been a huge positive momentum shift in the local environment since earlier this year when South Africans were still facing high stages of load-shedding and an uncertain political future. 

Van Papendorp also said the economy was teetering on the edge of recession, with inflation at the top-end of the target range, interest rates at 15-year highs and the currency at very weak levels.

This has almost completely flipped since then, with the country being load-shedding free since 27 March 2024 due largely to improved performance at Eskom’s power plants. 

Load-shedding coming to an end by itself has a positive impact on local equities and bonds, with a better-performing economy and declining costs supporting corporate profitability. 

Local bonds should benefit from better fiscal numbers due to a higher corporate tax take, lower Eskom bailout risk and lower country debt default risk. 

The seeming end of load-shedding has been coupled with renewed optimism for policy reform and economic growth from the formation of the Government of National Unity (GNU). 

While this positive expectation has already led to a lower risk premium attached to local assets, the risk premium could fall even lower once the fruits of reform measures and the enhanced private sector participation across the economy become evident over time.

The decline in the risk premium attached to South African government bonds can be seen in the graph below. 

A number of other tailwinds are also set to boost the local economy and returns from local assets. 

Chief among these is a decline in inflation and interest rates, which should free up disposable income for consumers and result in increased spending. 

Van Papendorp said the recent past indicates that local bonds and stocks react positively to interest rate cuts, with stocks outperforming. 

In addition to the fundamental support factors for SA equities and bonds outlined above, valuations are also supportive of the potential returns from these asset classes in the future.

Even after a significant rally in SA equities since March of this year, their valuations remain attractive. 

Based on its conservative 19% earnings growth assumption for the South African equity market in the next year (the consensus estimate is 25%), Momentum estimates that the forward P/E is currently substantially below its historical average.

Local equities are also attractively valued compared to their emerging market peers, with a forward P/E that is below average and a dividend yield that is higher than comparable markets. 

Van Papendorp said that since emerging market equities are currently cheap compared to developed markets, this would imply that the South African equity market is particularly cheap.

Any potential tailwind in this regard would be compounded by the fact that South African equities remain under-owned within global emerging market funds. 

Once global investors start believing that the improvement in South Africa’s fundamentals is sustainable, there could be meaningful inflows into local assets.

Furthermore, the exposure of local multi-asset funds to local stocks remains close to the historical lows reached after the February 2022 increase in the Regulation 28 foreign asset exposure limit to 45%.

A similar situation is playing out in the local bond market, with the yields on local government debt being higher than their historical average despite declining interest rates and better fiscal forecasts. 

Based on Momentum’s expectation that inflation will average around 4% in the coming year, local cash and bonds offer an attractive prospective real yield to investors, particularly on a risk-adjusted basis. 

The only sector Van Papendorp is worried about is listed property. Conflicting fundamental and valuation signals make Momentum circumspect about the risk-reward balance available to investors. 

There has been some improvement in the sector’s operating performance, albeit from a weak base, while the peak cost of debt supports accelerating growth in distributable earnings. 

However, interest cover ratios are close to covenants, with high interest rates and balance sheet restructurings putting upward pressure on finance expenses.