It remains an uncertain world with the Delta variant of COVID -19 continuing its destructive path. It is very clear that most emerging markets are struggling to find the means to grow their economy through these tough times. Although developed countries are way ahead in terms of vaccinations and the race for immunity, it is now clear that policy makers around the world are finding it hard to balance the ongoing threat of the virus with the opening of economic and social activity.
In our view, one of the most important factors for the next 24 months will be the direction and magnitude of global inflation. Although the Fed is continuing their stance that US inflation is on a transitory path, a few emerging market countries (Brazil, Turkey, Hungary, South Korea and Chile) are raising interest rates to try and curb a less favourable inflationary outcome. With the US now set on a massive infrastructure spend, with only the magnitude of it still to be confirmed, it is not clear what effect this will have on global inflation and how the Fed will react when the tapering discussion comes back to the table.
Chinese technology company valuations remain low relative to their US peers amid an escalation in regulatory intervention. The move over the past two months has been much more severe and came after Chinese authorities banned for-profit tutoring on its school curriculum. The problem with this is far less about the negative impact on some of the Chinese tech companies, and more about the uncertainty of the sporadic and unpredictable nature of the Chinese law makers. The spill over into other areas of the market showed that not even the Chinese investors could forecast what their own regulatory system is going to do next. It was therefore not surprising that these events cast a shroud of uncertainty over the future business of Tencent and therefore affected the share price of SA Listed stocks like Naspers and Prosus negatively.
Despite these factors, equities remain more attractive relative to bonds, cash, and listed property counters globally. Over the past three months, bond yields have receded sharply in the U.S. and Europe, even as corporate profits surged. The improved earnings yields are making stocks more attractive relative to bonds, especially in Europe where the equity risk premium has risen to a 15-month high of 4.5 percentage points. Many strategists raised their targets for U.S. and European stocks on higher earnings and lower rates forecasts in the short term.
Investors can expect ongoing volatility as markets weigh the potential negative effects of COVID-19 and a potential US inflation threat to improved company earnings growth as economies recover due to a return to a ‘more normalized’ world.
With all this being said, we think that there is still scope for growth in these turbulent times. The uncertainty of our current situation will certainly bring volatility, as economies around the world try to figure out the best way forward. We are, however, optimistic that we will see economies worldwide become more open to recovery and growth as people become more resilient to future COVID-19 strains.
On the local front, our mining companies continued to present some sterling results. Most of them making generous dividend payouts and the state coffers benefitting handsomely from the increased tax revenue. It is still not certain how the SARB will react when it comes to talks of interest rate hikes and their stance on inflationary pressures, but we know all too well that South Africans are spenders and not savers. With improved social grants and other stimulus likely to go back into the economy, this should bolster SA Inc counters such as consumer staples and financials. We also are optimistic that our resource counters will benefit from the long-term infrastructure plans in the US and China despite a recent price collapse in Platinum, Iron Ore and Rhodium.
Although we are cautious after the recent happenings in KZN and Gauteng, we feel that most of the political rhetoric is being managed well. Our view is that there will probably be more instability to deal with in the future, but we feel that the extent thereof should not be as devastating as we saw in July. It is due to these reasons we remain constructively exposed to SA and global equities and within equity markets we prefer developed market stocks to SA/emerging market stocks and growth/quality versus value stocks. We do believe that one can still afford some exposure to emerging market (EM) equities and value stocks due to the bad news being priced in already and it remains appropriate to buy back exposure in EM and value after the recent pull back.
Roeloff Horne
Director and Head of Portfolio Management
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