In October 2023, financial markets globally faced a challenging landscape. Stock markets continued their decline for the third consecutive month, with a striking feature being the dominance of a select few stocks, often referred to as the ‘Magnificent Seven.’ These stocks accounted for most of the year-to-date returns, underscoring the narrow leadership in the market. Equity markets displayed a trend of declining performance, with various equity indices showing lower highs and lower lows. This trend suggested ongoing market challenges.
The primary focal point in October was the escalating conflict in the Middle East. The rapid escalation of hostilities, which had the potential to involve Iran – a significant regional power, created considerable concerns among market participants. The involvement of such a major player in the region raised fears of broader geopolitical instability and its impact on financial markets. One noteworthy observation was the subdued market volatility, even in the face of heightened geopolitical tensions. Investors did not appear to react significantly to the ongoing issues in the Middle East, suggesting a certain level of resilience in the markets.
In the commodity markets, oil prices fell by 8% to $87 per barrel over the month, reflecting both market dynamics and concerns about the potential economic impact of the Middle East conflict. This decline in oil prices had ripple effects on various sectors and markets.
Geopolitical tensions often cause investors to seek safe-haven assets, which can boost bond prices and lower yields. However, the bond market’s response was multifaceted and influenced by mixed signals from the Federal Reserve regarding interest rates, adding an element of uncertainty to market dynamics. Despite some robust economic growth in the United States, survey data indicated fragility in various sectors, particularly in manufacturing. The labour market remained healthy, but mixed signals about the direction of interest rates contributed to overall economic uncertainty.
Across the Atlantic, Europe faced its own set of economic challenges. The Euro area experienced GDP contraction, and inflation rates varied across the region. The European Central Bank engaged in discussions about further tightening its monetary policy. In China, the economy displayed resilience, growing at a rate higher than expected. However, concerns about slowing consumption and issues with major corporations, such as Evergrande, added complexity to the economic landscape. China’s policy decisions, including an increase in its deficit, had wide-ranging implications for global supply chains and commodities.
Locally, the South African economic landscape exhibited a mix of challenges and opportunities. The Precious Metals Group (PGM) sector remained difficult to navigate, with uncertainty prevailing in the platinum sector. Meanwhile, demand for gold continued to be a significant driver in the local market. Retailers, on the other hand, experienced a surge in activity, driven by both local and offshore demand for select stocks. This was accompanied by bullish option pricing requests and notable trading activities in various retail companies.
One interesting development was the cross-away transaction involving SHP, with offshore buyers willing to pay a premium for liquidity. Additionally, the currency exchange rate played a pivotal role, as the move in the USDZAR back below 19 prompted profit-taking in hedging positions. Notably, weaker-than-expected numbers from LVMH had a negative impact on CFR, while MTN struggled due to its exposure to Iran. Locals used BTI to fund domestic purchases.
In terms of market sentiment, there was a general negative outlook on the fiscal front, but a more constructive view on the bond market. Many believed that local dynamics had been adequately priced into bonds and that an improvement in core interest rates was necessary to drive domestic yields lower. Moreover, questions regarding the next South African Reserve Bank governor were a topic of discussion, adding to the uncertainty surrounding the country’s economic outlook.
In the middle of October, market volumes remained subdued, and gold demand continued to be a dominant theme. The platinum sector faced limited interest, and offshore buying was more pronounced for certain mining stocks. South African banks initially showed strength, but the risk-off sentiment and a weakening Rand led to selling in domestic names.
South African Government Bonds were under pressure as rising geopolitical tensions limited demand for riskier assets. An auction early in the month produced mixed results and concerns over rising U.S. Treasury yields added to market uncertainty. Despite concerns about global tensions, South African Government Bonds maintained their bid bias. However, as the month progressed, demand for SA Government Bonds made a comeback, with the Medium Term Budget Policy Statement (MTBPS) being less disappointing than initially feared. The “less hawkish” stance of the U.S. Federal Reserve contributed to market optimism, and offshore investors continued to add to existing positions across the yield curve.
Towards the end of October, the South African Rand took the lead in driving market movements. A “fear of missing out” trade emerged, characterized by increased buying of property, retailers and banks, with gold selling funding these purchases.
The economic environment in South Africa during October 2023 was characterized by persistent uncertainties in the PGM sector, currency fluctuations and concerns about fiscal discipline. Inflationary pressures, particularly related to fuel and food, were noted, with a cautiously optimistic outlook for shorter term South African bonds. The political landscape, particularly the upcoming election, added complexity and potential market impact to the mix.
With the markets over the month putting lots of pressure on risk assets, our cautious asset allocation in the funds and portfolios stood us in good stead. Our underweight in risk assets (both locally and offshore) and overweight local bond and cash exposure benefitted our portfolios on a relative basis and helped us negate some of the heavy drawdowns sustained by the market. The recent pullbacks also had us nibbling back into some risk assets in the funds, benefitting from the lower prices, but remaining underweight going into November.
Quantitative Analyst & Portfolio Manager
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