After an extraordinary JSE All Share Index 12% positive year to date return and 41% bounce off the lows of the Covid-19 induced sell off, many investors are querying whether there is still an upside? Our starting point is to question whether there is any upside left in the major global equity indices as there has always been and still is a strong positive correlation between the performance of the JSE All Share Index and the MSCI Global Index and the MSCI Emerging Markets Index. Despite clear signs of excesses in some areas of the US and Chinese equity markets such as SPACS, many far- fetched IPO’s that reminded one of the dotcom bubble and the crypto currency rage, there are also signs that several of the declines have already gone some way to correcting the excess/frothy conditions that existed. Some of the high growth names have come off quite aggressively with Tesla off 30%, Netflix 11% and crypto currencies down some 50%. In addition many value orientated bottom up equity portfolio managers are saying that they are still finding many buying opportunities in the broader markets globally. Indeed broadly speaking (stripping out some of the high flying Nasdaq 100 stocks) valuations in the US are even at levels that are consistent with returns generated over the long term by equities. The US seems to be the most expensively rated/ valued market but in itself still provides plenty opportunities and the US has historically been rated at a premium due to higher ROE’s with corporate and labour law that favours capital in the split between returns between labour, capital and government. This has helped make the US historically the safest and most rewarding place for capital to be invested from an equity perspective. Emerging markets currently seem to offer some of the best valuations globally and it is within this context that we dissect the prospects for the different components of the JSE All Share Index.
What is absolutely clear is that the winners of the past 15 months have lost some of their allure over the past 2 months as sector and stock rotation has regained favour globally and within emerging markets. The diversified miners, platinum miners and Naspers/ Prosus (which make up 55% of the all share index weighting) have lost their short term allure and have been replaced by the generally under-owned SA Incorporated stocks. What has been driving this sector rotation? Globally recent actual inflation numbers have come out higher than expected and there are signs of higher inflation in the future. The argument is that this could cause the Fed to act earlier to reduce and halt Quantitative Easing and leads to compression of PE and DY multiples. At the same time the Chinese authorities are using a wide range of means (including the death penalty for speculators) to attempt to curb commodity price speculation and this is impacting negatively on investors’ perceptions about the sustainability of the current commodity price boom. Fortuitously the dynamics on the domestic front are looking better as the resilience of the domestic economy and the benefits of the tax receipts from the commodity boom in particular, ease funding constraints for the government borrowings /fiscus with positive spillover effects for the domestic economy The latest reporting season for retailers, diversified industrials, insurers and the banks have exceeded earnings expectations quite strongly, highlighting attractive valuations with some positive earnings and dividend momentum going forward as the economy recovers from the hard lock down in 2020. All of the above has led to some of the heavyweight global investment firms such as Morgan Stanley altering their long time underweight calls on SA equity within the emerging market universe and actually going overweight. At this stage this is a cyclical call as opposed to a structural call with SA’s perceived low sustainable GDP growth rate of 2 %, a major factor in reining in enthusiasm over the medium term. From a domestic policy perspective it does seem as if the “tanker ship SA” is gradually taking/making some positive reform initiatives such as on the electricity – power front (allowing some big industrial users such as the mines to self- generate), corruption front and painstakingly on the covid19 vaccine rollout.
We believe that the fundamental supply and demand dynamics for many of the commodities should remain positive until at least the end of 2022. The prospects for the PGM metal space remains positive overall with tighter fuel emission standards, the move to hydrogen batteries and no new or minimal green-field supply. This has led to very strong cash flows and despite strong upward moves in the share prices over the past year the latest pullbacks of up to 25% from their recent highs has meant valuations are certainly not onerous. The same applies to the diversified miners where fundamentals for the likes of copper are strong for years to come as the switch to green economy vehicles and power generation takes hold. In short the profit and cash flow dynamics for these resource counters look extremely robust for the next couple of years. Naspers/ Prosus and Tencent are all some 30% off their highs as globally new age, technology stocks have experienced a bout of profit taking, as the cyclical reflation value trade has taken over from the growth at any price trade! !The forward valuations and discount to NAV for Naspers and Prosus have again become attractive relative to their own history.
We are inclined to believe that there is more upside to global equity markets as trade, tourism and pent up demand globally boosts global GDP and corporate profits. There are pockets of “crazy valuations “but even in those spaces significant retracements have occurred bringing back some kind of sense of normality. Clearly the equity markets are prone to a second bout of QE tamper, temper tantrums (a la 2013) but these should be temporary setbacks in the absence of a material change in Central Bank language and pace of action. On the SA Incorporated front the clear undervaluation and performance up to now of the banking sector compared to retailers presents an opportunity in participating in the reopening of the SA economy. The SA stock market continues to offer opportunities across the resource , media and domestic sectors.
Source of all data: FE Analytics at 31.05.2021
Head of Equities
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