The Weekly Focus. A Market and Economic Update 12 November 2018

Transcription

1 The Weekly Focus A Market and Economic Update 12 November 2018

2 Contents Newsflash...3 Market Comment... 3 Other Commentators... 4 Economic Update...6 Rates STANLIB Money Market Fund STANLIB Enhanced Yield Fund STANLIB Income Fund STANLIB Extra Income Fund STANLIB Flexible Income Fund STANLIB Multi-Manager Absolute Income Fund... 10

3 Newsflash The dollar oil price is down over -20% from its 3 October high and at a 7- month low. This will hopefully feed into lower petrol prices. In rand terms the oil price is down -21% from its high in early October. Market Comment Unfortunately the dollar has moved this morning to a new high in 2018 against the euro at $1.125, which is putting pressure on emerging market currencies like ours - and emerging markets in general, also other developed markets. Because almost all commodities are priced in dollars, the stronger dollar makes them more expensive in other currencies, so commodity prices are under pressure too. We re happy to see the dollar oil price down over -20% from its 3 October high and at a 7- month low. That will hopefully feed into lower petrol prices. In rand terms the oil price is down -21% from its high in early October. Last week the S&P 500 Index gained +2.1%, despite slipping on both Thursday and Friday and is +5.3% above its recent correction low of 28 October. The MSCI Europe Index gained just +0.2% in dollars last week but is +3.6% above its correction low. The JSE All Share Index fell -1.8% last week but is +5% above its 30 October low. The global MSCI World Index is +4.4% from its recent low, but is back at December 2017 levels in dollar terms. The MSCI Emerging Markets Index is +4.3% in dollars above its recent low but is back at levels first seen 11 years ago in 2007, also The MSCI China Index, which comprises over 30% of the Emerging Markets Index, is % in dollars below its late January high, but is +5.5% above its recent correction low. Last week on the JSE Anglo Platinum gained +7%, Redefine +6.1%, Woolies +6%, Fortress B +5.4% and Capitec +5.2% (hit a new high), while two big supposed rand hedges Mediclinic -12.9% and Richemont -11% got hit, also Investec fell -9%, Sibanje -7.9% and Harmony -7.3%. The All Bond Index still leads the three risk-oriented SA asset classes with +4.9% in 2018, then the ALSI with -8.2% and SA Listed Property with -18.5%, which is actually a 5-month high (see graph below) and back where it was in February after the initial big tumble. Resilient is trading just below a 6-month high. Source: I-Net Bridge

4 The S&P 500 Index is +4.2% in 2018, excluding dividends. Health Care is the best sector at +12.3%, then Consumer Discretionary +12% and IT +9.2%. Consumer staples are now only slightly negative at -0.2%, Energy is -5.2% and Financials -2.7%. The new Communication Services sector is +1.2% since June (It includes a lot of the previously classified IT shares). One of the biggest rand hedge disappointments on the JSE this year is the big knock taken by British American Tobacco shares, -4.4% at a new 2018 low today and -28% so far in 2018, in rands! RMB Morgan Stanley says an article in the Wall Street Journal says the US FDA could be close to making an announcement regarding the banning of flavours like Menthol in cigarettes smoked in the US. Morgan Stanley estimates that 60% of US profits of British American Tobacco are from its menthol cigarettes, which equates to about 25% of total profits of the company. The Wall Street Journal article says it could take a year or more for a rule to be finalised, then another year for it to be enforceable in the market place. A similar article on a menthol ban in the New York Times suggests it could take several years for such a restriction to take effect. Morgan Stanley recommends treading cautiously in the face of this uncertainty. This is not new though. The FDA has long considered a ban on menthol in cigarettes, but the whole issue faded as the FDA backed away. The share is at a 4-year low on the JSE, on a dividend yield of 5.4%, the highest since the crash of Other Commentators US Market Analyst, Elaine Garzarelli Garza notes that the S&P 500 Index dividend yield of 1.9% is not much below the 3 month US Treasury bill rate of 2.35% (the cash return) and dividends are growing nicely, by around +10% this year. Garza doesn t think this pretax cash return of 2.35% is attractive enough for investors to switch out of equities into cash, because the inflation rate is very similar at 2.3%. The Treasury bill rate would need to rise by +2% (approximately eight more Fed interest rate hikes) to 4.35% to be 2% above the current inflation rate, which was the situation that preceded the last three bear markets. The quants model reading dipped from 89% the previous week to 86% last week on the downgrade to bearish of the weekly economic leading indicator (ECRI), which declined for a fifth consecutive week. This indicator gives an early warning of an approaching recession, but Garza suspects it is warning of a slowdown in the growth rate of the US economy, rather than a recession. A Fed interest rate hike is expected on 19 December. The Fed is working to control inflation, so the expansion can continue without overheating the economy. The economy has many supports, including rising earnings, strong employment, higher wages, improving productivity, healthy consumer balanced sheets, rising household formation and the effects of government stimulus. Also, businesses are confident in the economy as indicated recently by Berkshire Hathaway s $1bn share buyback. The S&P 500 Index is currently about -10% undervalued. Over 66% of S&P 500 companies have reported third quarter earnings so far. At this stage, it looks like earnings will be +27% year-on-year, which is very strong and only slightly below the +28% of the second quarter. This is an important support for shares.

5 BCA Research BCA sees both the US Financial and Industrial sectors as undervalued and excellent buys at current depressed levels. But they are neutral on Technology because of risks. For example 60% of Tech profits are from offshore and the stronger dollar will hurt the translation of these offshore profits back into dollars. Also leading indicators of emerging Asian demand are souring rapidly, plus any escalation in the trade war is a further risk. BCA prefers to remain underweight in Real Estate, even though Real Estate Investment Trusts or REITS are fairly valued. A rising bond yield is bad for REITS. They are underweight Consumer Discretionary shares, because the sector suffers when interest rates rise. Amazon.com now represents more than 30% of the index since Media shares went into the new Communication Services sector. They prefer large caps to small caps because of the high debt levels of the latter. Paul Hansen Director: Retail Investing

6 Economic Update 1. SA petrol price unchanged in Nov, but price of diesel increased fairly substantially. The petrol price should have declined by 21c/l, but government is using the 21c/l to offset the shortfall on the slate account. 2. SA manufacturing declined in September and is only fractionally positive when measured over the past year. Overall, the manufacturing sector continues to stagnate despite supportive global economic conditions. 3. Who owns US government debt, how has the ownership changed in recent years, and what does this mean for US bond yields? 1. The petrol price announced by the Department of Energy last week, which came into effect on Wednesday 7 November 2018, remained unchanged. The latest announcement means that the price of 95 Octane (LRP, Gauteng) will still cost R17.08 per litre. In contrast, the price of both grades of diesel (0.05% and 0.005% Sulphur) will increase by 49c/l and 51c/l respectively, paraffin increases by R37c/l (retail) and gas will increase by 61c/l. The average Rand/US Dollar exchange rate for the period 28 September 2018 to 1 November 2018 strengthened to R14.48 compared to R during the previous period. In addition, the average international product prices of Petrol decreased while Diesel and Illumination Paraffin increased during the period under review. The latest petrol announcement is not expected to have a significant impact on inflation in November Importantly, the petrol should have declined by 21c/l in November (given the stronger rand and lower oil price), but because the Slate balance has a deficit of R2.2 billion, the Department of Energy has decided to transfer the 21c/l to the slate account in order to reduce the shortfall which was aggravated by government s decision not to increase the petrol price in September Overall South Africa has been subjected to sustained increases in fuel prices over the past few months, which has placed extensive strain on consumers. Looking ahead though, if international oil prices remain at current levels and the local currency holds steady, we could see a petrol price decrease next month based on the current over recovery on fuel of around R1,30c/l. There is however, a lot that can happen between now and the end of the month. 2. In September 2018, SA manufacturing production declined by a very disappointing 1.0%m/m, after increasing by a revised 0.2%m/m in August 2018 (monthly data is seasonally adjusted). The market was expecting production to rise by a robust 1.9%m/m, although this expectation appeared strange given the current severe weakness in the SA PMI data. Over the past three months (July 2018 to September 2018) production remained positive with growth of 1.7%q/q, after declining in the first half of the year. While the latest production data was relatively disappointing, the manufacturing sector could still exit its recession in Q3 2018, but remain weak overall. In that regard the ongoing weakness in the PMI manufacturing data is a significant concern, suggesting that the sector is unlikely to reflect a meaningful recovery during the next few months. Over the past year manufacturing activity has risen by a mere 0.1%y/y, which is essentially stagnation, averaging an annual growth rate of 1.3% over past 12 months. On a trend basis, SA manufacturing continues to stagnate, with output remaining far below the level of activity that prevailed prior to the onset of the global financial market crisis in In addition, and unsurprisingly, South African manufacturing has massively under-performed global manufacturing in the past ten years.

7 The SA manufacturing sector is comprised of ten major sub-sectors. The largest being food and beverages (25% of overall manufacturing), followed by the chemical sector (24%), and iron and steel (19%). At the other end of scale, the clothing and textile sector comprises a mere 3% of total manufacturing, while the manufacture of electrical machinery is only 1.6%. Each of these ten major manufacturing sectors are comprised of a number of additional sub-sectors, which means that in total South Africa s manufacturing sector is divided into more than 40 distinct industries, each with its own performance characteristics. While the manufacturing sector (in total) has grown by only 0.1% growth over the past year, there remains a very wide dispersion in performance at a sub-industry level that fluctuates substantially from month-to-month. This dispersion is currently highlighted by the massive growth gap between, for example, the production of paper (+6.6%y/y), and plastic products (+10.9%y/y) vs. basic chemicals (-15.5%y/y) and clothing (-4.9%y/y). In 2015 as a whole, South Africa s manufacturing sector averaged growth of 0%, which was the worst annual performance since the 2009 recession, and signalled that the sector experienced stagnation or a low intensity recession. This trend continued in 2016 with growth of 0.7% and under-performed further in 2017, recording a decline of -0.5%y/y. unfortunately, this weakness continued in the first half of 2018, despite the relatively buoyant global economic backdrop. More positively, production has improved somewhat more recently, albeit off a relatively low base. We remain optimistic that SA can achieve positive GDP growth in Q3 2018, albeit only fractionally positive, thereby emerging from recession. As we have regularly highlighted, lifting South African manufacturing activity on a sustained basis is not an easy task; and certainly more complex than simply arguing for a weaker Rand in order to make South African products more competitive internationally. Competitive manufacturing requires a combination of factors including supportive infrastructure, appropriate regulation, a stable and productive workforce, innovative and dynamic management, an appropriate balance between the use of technology and labour intensity, and access to financing. Unfortunately, in recent years South Africa has struggled to achieve the right combination of factors that would allow the manufacturing sector to flourish and grow in-line with global trends; with one of two exceptions at a sub-industry level. 3. At the end of Q1 2018, US government debt (referred to as total public debt) amounted to a staggering $21.09 billion, which at the time was a record high US government debt has continued to increase at a fairly rapid pace since Q and is projected to rise fairly substantially over the few years unless the laws change. The level of debt in Q which is Federal Debt and excludes state and local government debt - can be compared with US annual GDP of $20.04 trillion in Q1 2018, highlighting that government debt is more than 100% of US GDP. Since the beginning of 2010, US government debt has increased by a massive $8.8 trillion, which equates to an average annual increase of 6.5%. US total public debt ($21.09 trillion) can be divided into two main categories, namely intra-governmental debt and debt held by the public. Intra-governmental debt totaled $5.66 trillion at the end of Q (26.8% of overall government debt) and includes government debt owned by the Social Security Trust Fund and Disability Insurance Trust Fund ($2.9 trillion), debt held by the Military Retirement Fund ($0.75 trillion), Office of Personnel Management Retirement Fund ($0.9 trillion) as well as other government insurance and retirement funds including Medicare, Federal Hospital Insurance Trust Fund as well as some cash ($1.1 trillion). The US Federal Reserve also owns a significant amount of US government debt as a result of their QE initiative in prior years. At the end of Q this totaled around $2.4 trillion, but is declining modestly each month as the Federal Reserve reduces the size of their balance sheet. Although perhaps not technically correct, the Fed s holdings of US debt can be added to the intra-governmental debt, lifting that total to $8.08 trillion or 38% of total US debt. This means that US government debt held by the public amounted to roughly $13 trillion in Q

8 This has increased by $6.0 trillion since the beginning of 2010 (68% of the total increase in US debt) and by $2.4 trillion since the beginning of 2015 (83% of the total increase in government debt. A breakdown of US government debt held by the public ($13 trillion) reveals that foreigners are the largest holders, followed by mutual funds. In fact foreigners and mutual funds own a combined 63% of the all US government debt held by the public. The rest of the debt is mostly in the hands of pension funds, banks, and insurance companies. One of the more interesting trends that have developed in the US government debt market in recent years is the stagnation of foreign holdings of US government securities since 2015, after being one of the largest buyers in the years from 2008 to This stagnation has been evident mostly amongst the large central banks including Japan and China. It is interesting that the central banks of Japan and China eased back heavily on their investment in US government securities once the Federal Reserve called a halt to their QE buying programme. (Out of interest, the US Treasury data suggests that in August 2018, South Africa represented a mere 0.34% of the foreign ownership of US government securities, which means that SA owns only roughly 0.1% of total US government debt. In reality, the percentage is probably a little higher as a result of in-direct ownership through foreign managed investment funds). The largest buyers of US government debt since 2015 have been US mutual funds. In fact, since the beginning of 2015 US mutual funds have bought around 30% of the net new issuance of US government securities, helping to stop US government bond yields from rising even further. This compares with 2.0% by foreigners, 1.8% by insurance companies, 1.2% by private pension funds and 4.3% by banks. Unfortunately, the data also reveals that other investors bought almost 40% of the net issuance of US government securities since According to the US treasury, other investors comprises a fairly wide range of organisations including government sponsored enterprises, but no sub-detail is provided for this category of investors. I contacted the US treasury directly to enquire about this missing detail, but they indicated that the category was simply a balancing item and that no further detail is available. A number of considerations flow from our recent analysis of the ownership of US government debt. Before we discuss the implications, it is worthwhile repeating that the current US fiscal stimulus initiative is out of synch with then current stage of the US business cycle. In other words, the timing of Trump s fiscal stimulus is potentially very problematic. There can be a tendency to overstate the absolute size of US government debt, from the perspective that 38% of the total debt is intra-governmental debt (Federal Debt). Stated more simply, the US Federal government owes itself $8.08 trillion, which can help with the government s debt management should the cost of servicing the debt become much more problematic. An example of this benefit is that while the US Federal Reserve currently owns $2.4 trillion of government securities, all the interest the Federal Reserve earns on this debt is transferred back to the US Treasury. In other words, in this instance the government is paying itself interest on its own debt. There is a base level of demand for US government securities from within the Federal social security funds as well as Federal pension and trust funds. However, since 2015 this base level of buying accounted for only 17% of the increase in US government debt. This excludes the purchases from state and local government pension funds. Seventeen percent is probably not sufficient to keep bond yields undercontrol should inflation and short-term interest rates continue to rise. The central banks of Japan and China recently took a strategic decision to curtail/limit their investment in US government securities, while the central bank of Russia has sold almost all of its holding of US government debt. Any further strategic changes from Japan and China can have a very significant impact on the US bond market especially if these central banks start to resume purchases.

9 In total China owns 5.5% of US total government debt, which is significant but not nearly as large as many people perhaps assume. In contrast, investors in Europe have been systematically increasing their holdings of US government securities in recent years. This might be due to the bond yield differential between the US and Euro-area. Some months ago, the US Congressional Budget Office (CBO) provided longer-term projections on a wide range of fiscal parameters including the outlook for US government debt and debt servicing costs. These projections are based on the assumption that there is no change in the current laws regarding taxes and government spending. The projections also rely on a range of basic economic expectations including GDP growth, interest rates (including the US 10-year bond yield) and inflation. Shockingly, the CBO suggests that US government debt in the hands of the public could rise from less than 80% of GDP currently to almost 160% of GDP within the next 30 years. Under these circumstances, and assuming that the US 10-year bond yield moves up to around 4% over the same period, then the government s debt servicing costs would jump from the current 8% of total spending to around 21%. A debt servicing cost of more than 10% of total government spending would be considered high by historical as well as global standards, which highlights that 21% would be considered reckless and unaffordable. Under these circumstances, it is unclear which investors would be willing to massively increase their holdings of US government debt, especially if foreign investors retain their largely cautious approach to further increasing their holding of US government debt. All of this argues that there is further upside risk to US 10-year bond yields unless the Trump administration starts to moderate their current fiscal stimulus. In that regard, it is encouraging that the Democrats recently took control of the US House of Representatives. Lastly, the combined holding of US government securities by banks, insurance companies, private pensions and savings bonds represents less than 10% of total US government debt. This would suggest that these entities on their own are unlikely to accumulate enough government securities to keep the US 10-year from rising if inflation is moving higher, and the US fiscal balance is still deteriorating at its current pace. Consequently, it seems logical to argue that in order for US bond yields to remain unchanged, or even decline over the comings months/year, one of a number of things need to happen including clear evidence that inflation will continue to remain well under control (including wage growth) despite the tight labour market conditions, US government borrowing is going to be substantially curtailed, foreign investors are starting to increase their holdings of US government debt, or there has to be a much bigger shift by mutual funds into government securities. The risk to US bond yields remains to the upside. Please follow our regular economic updates on Kevin Lings & Laura Jones (STANLIB Economics Team)

10 Rates These rates are expressed in nominal and effective terms and should be used for indication purposes ONLY. STANLIB Money Market Fund Nominal: 6.49% Effective: 6.69% STANLIB is required to quote an effective rate which is based upon a seven-day rolling average yield for Money Market Portfolios. The above quoted yield is calculated using an annualised seven-day rolling average as at 9 November This seven- day rolling average yield may marginally differ from the actual daily distribution and should not be used for interest calculation purposes. We however, are most happy to supply you with the daily distribution rate on request, one day in arrears. The price of each participatory interest (unit) is aimed at a constant value. The total return to the investor is primarily made up of interest received but, may also include any gain or loss made on any particular instrument. In most cases this will merely have the effect of increasing or decreasing the daily yield, but in an extreme case it can have the effect of reducing the capital value of the portfolio. STANLIB Enhanced Yield Fund Effective Yield: 7.71% STANLIB is required to quote a current yield for Income Portfolios. This is an effective yield. The above quoted yield will vary from day to day and is a current yield as at 9 November The net (after fees) yield on the portfolio will be published daily in the major newspapers together with the all-in NAV price (includes the accrual for dividends and interest). This yield is a snapshot yield that reflects the weighted average running yield of all the underlying holdings of the portfolio. Monthly distributions will consist of dividends and interest. Interest will also be exempt from tax to the extent that investors are able to make use of the applicable interest exemption as currently allowed by the Income Tax Act. The portfolio s underlying investments will determine the split between dividends and interest. STANLIB Income Fund Effective Yield: 8.18% STANLIB Extra Income Fund Effective Yield: 7.66% STANLIB Flexible Income Fund Effective Yield: 6.56% STANLIB Multi-Manager Absolute Income Fund Effective Yield: 7.10% Collective Investment Schemes in Securities (CIS) are generally medium to long term investments. The value of participatory interests may go down as well as up and past performance is not necessarily a guide to future performance. A schedule of fees and charges and maximum commissions is available on request from the company/scheme. CIS can engage in borrowing and scrip lending. Commission and incentives may be paid and if so, would be included in the overall costs. The above quoted yield will vary from day to day and is a current yield as at 9 November For the STANLIB Extra Income Fund, Fluctuations or movements in exchange rates may cause the value of underlying international investments to go up or down. The historical yield over the last 12 months is reported for the STANLIB Multi-Manager Absolute Income Fund.

11 Disclaimer Collective Investment Schemes in Securities (CIS) are generally medium to long term investments. The value of participatory interests may go down as well as up and past performance is not necessarily a guide to future performance. CIS are traded at ruling prices and can engage in borrowing and scrip lending. Portfolios are registered under the STANLIB Collective Investments Scheme (the Scheme). The manager of the Scheme is STANLIB Collective Investments (RF) (PTY) Ltd (the Manager). The Manager is authorised in terms of the Collective Investment Schemes Control Act, No. 45 of 2002 (CISCA) to administer Collective Investment Schemes (CIS) in Securities. Liberty is a full member of the Association for Savings and Investments of South Africa (ASISA). The Manager is a member of the Liberty Group of Companies. The manager has a right to close a portfolio to new investors in order to manage the portfolio more efficiently in accordance with its mandate. A schedule of fees and charges and maximum commissions is available on request from the Manager. The Manager does not provide any guarantee either with respect to the capital or the return of a CIS portfolio. A fund of funds is a portfolio that invests in portfolios of collective investment schemes, which levy their own charges, which could result in a higher fee structure for these portfolios. Forward pricing is used. A money market portfolio is not a bank deposit account. The price of each participatory interest (unit) is aimed at a constant value. The total return to the investor is primarily made up of interest received but, may also include any gain or loss made on any particular instrument. In most cases this will merely have the effect of increasing or decreasing the daily yield, but in an extreme case it can have the effect of reducing the capital value of the portfolio. An annualised seven day rolling average effective yield is calculated for Money Market Portfolios. Excessive withdrawals from the portfolio may place the portfolio under liquidity pressures; and that in such circumstances a process of ring-fencing of withdrawal instructions and managed pay-outs over time may be followed. TER is the annualised per cent of the average Net Asset Value of the portfolio incurred as charges, levies and fees. A higher TER ratio does not necessarily imply a poor return, nor does a low TER imply a good return. The current TER cannot be regarded as an indication of future TERs. Portfolios are valued on a daily basis at 15h00 except Fund of Funds which are valued at 24h00 daily. Investments and repurchases will receive the price of the same day if received prior to 15h00. The trustee of the Scheme is Standard Chartered Bank. The investments of this portfolio are managed, on behalf of the Manager, by STANLIB Asset Management (Pty) Ltd, an authorised financial services provider (FSP) under, FSP No. 719, under the Financial Advisory and Intermediary Services Act (FAIS), Act No. 37 of As neither STANLIB Asset Management (Pty) Limited nor its representatives did a full needs analysis in respect of a particular investor, the investor understands that there may be limitations on the appropriateness of any information in this document with regard to the investor s unique objectives, financial situation and particular needs. The information and content of this document are intended to be for information purposes only and STANLIB does not guarantee the suitability or potential value of any information contained herein. STANLIB Asset Management (Pty) Limited does not expressly or by implication propose that the products or services offered in this document are appropriate to the particular investment objectives or needs of any existing or prospective client. Potential investors are advised to seek independent advice from an authorized financial adviser in this regard. STANLIB Asset Management (Pty) Limited is an authorised Financial Services Provider in terms of the Financial Advisory and Intermediary Services Act 37 of 2002 (Licence No. 26/10/719). Compliance No.: 76ZB43 17 Melrose Boulevard, Melrose Arch, 2196 P O Box 202, Melrose Arch, 2076 T: (SA Only) T: +27 (0)

12 E: Website: STANLIB Asset Management (Pty) Ltd Reg. No. 1969/002753/07 Authorised FSP in terms of the FAIS Act, 2002 (Licence No. 26/10/719) STANLIB Collective Investments (RF) (Pty) Limited Reg. No. 1969/003468/07