South African government report card from investors

South African financial assets have rallied since the formation of the Government of National Unity (GNU) in early June, with renewed optimism regarding the country’s economic outlook. 

However, there have been questions about whether this is due to the formation of a new government or macroeconomic events globally, particularly the beginning of a US interest rate cutting cycle and Chinese stimulus. 

Data from the Reserve Bank, contained in its latest Monetary Policy Review (MPR), shows that local assets have outperformed South Africa’s emerging market peers, which have also benefitted from global economic tailwinds. 

This indicates that investors have viewed South Africa’s new government more favourably as the country’s future is no longer dependent on a single political party, and the GNU is broadly seen as business-friendly. 

“A combination of improved global risk appetite and the unwinding of the political risk premium embedded in local assets has buoyed domestic financial markets,” the Reserve Bank said. 

The rand is most emblematic of this, having outperformed emerging market currencies, appreciating by 8.8% since the previous MPR in April and by 5.9% on a year-to-date basis.

Crucially, a stronger rand makes imports into South Africa relatively cheaper, lowering inflation and thus freeing up disposable income for consumers. 

Equally important is the positive effect the GNU’s formation has had on South Africa’s risk premium, reflected in yields on government bonds. 

Forming a more business-friendly government and the promise of political stability with prudent fiscal policy has increased demand for local fixed-income assets. 

Foreign investors appear particularly attracted, having bought R36.9 billion worth of South African government bonds, compared with net sales of R8.8 billion in the same period last year.

As a result, yields on local currency government-issued instruments declined across the term structure, with those on the long end of the bond curve declining by nearly 200 basis points. 

The spread between the 3-year and 30-year South African government bonds fell below 300 basis points for the first time since June 2023, implying a flatter yield curve and a moderation in borrowing costs across the economy. 

A narrower country risk premium and lower inflation expectations renewed demand for rand assets by non-resident investors, further pushing yields down. 

Maintaining progress on inflation and growth, as well as reducing the borrowing needs of the public sector, could cheapen financing further, given the low level of non-resident investment in the country.

The rally in the rand and the reduced yields on South African government debt is shown in the two graphs below, courtesy of the Reserve Bank. 

Where the picture becomes more murky is the performance of South African stocks. While the JSE has rallied strongly, foreign investors remain net sellers of local equities to the tune of R93 billion. 

The JSE has outperformed its emerging market and developed market peers, but this outperformance has narrowed in September. 

“Despite heightened local market volatility in the period leading up to the election, South African equities rallied following the formation of the GNU,” the bank said. 

The JSE All Share Index rose 13.2% from April to reach a record high of 84 553 index points. South African markets performed even better in dollar terms. The MSCI South Africa Index has increased by 13.5% since April.

However, big questions remain whether this performance can be sustained and translate into improved economic growth or if this is just another period of Ramaphoria. 

Ramaphoris refers to the period of investor euphoria that surrounded Cyril Ramaphosa’s rise to power in 2018. 

“People burnt their fingers, and they’re waiting to see greater economic activity,” Standard Bank CEO Sim Tshabalala told Bloomberg. 

Back then, markets rallied on expectations of economic reforms, but progress has been slow, leaving investors cautious about re-entering too soon. 

“If this is sustained, the execution of the structural reforms, and of course, whether or not the GNU will be durable remains the key question.”

Allan Gray portfolio manager Thalia Petousis said political goodwill is not enough to drive tangible change. 

“A lesson to be learned from this experience is that given the interwoven nature of the global economy and consumed goods, the path of interest rates can struggle to sustainably decline if global inflation misbehaves,” said Petousis.

“A more imperative takeaway from the Ramaphoria period is that political goodwill alone cannot change the path of our country.”

For this time to be different, South Africa needs capable leaders to execute their mandates effectively after many years of decline in key government departments. 

Only the right mix of ingenuity and skill can improve South Africa’s growth prospects and ultimately reduce unemployment.