cognizant 3rd quarter 2018 keeping america great | africa – hakuna matata? | emerging europe on track for continued growth | latin america: ripe with opportunity

introduction chris potgieter – head of private client securities boom, when brazil soared alongside fellow brics russia, india and china, and mexico reaped the benefit of signing the north american free trade association with the us and canada. however, the global financial crisis put an abrupt end to that party. since then, many have focused on china’s resurgence while overlooking latin america’s quieter recovery. but we believe that the region is ripe with opportunity amid rising stock markets, recovering economies and the election of market-friendly governments. i trust that you will enjoy this issue. all the best, chris global markets remain difficult to navigate as trade tensions are being amplified by emerging market idiosyncrasies. all indications are that this will persist for the remainder of this year. while severe market swings and uncertainties can rattle even seasoned investors' nerves, the reality is that volatility and uncertainty are part and parcel of investing. in fact, volatility and uncertainty often bring opportunities to invest in great assets at good prices. in such turbulent times, it is vital to remember that successful investing is largely about having a long-term perspective and the discipline not to react irrationally to short- term events. in this edition of cognizant, we wrap up our “around the world in 180 days” theme, where we provide brief insights into the major economies and trends shaping our collective future. since our previous issue covered the major economies in the east, our focus now shifts towards the western world and africa. we kick off in the united states of america, which is currently experiencing an extended economic recovery and period of market strength. while this has been a boon for investors, there are questions around how long the current favourable economic cycle and bull market will last. in his article, andrew dittberner addresses these questions and highlights some fundamental issues that threaten future economic progress in the us. we then move across the atlantic to africa, a continent of great contradictions. richly endowed, yet largely stuck in abject poverty, africa has the potential to become an economic powerhouse. victor mupunga sheds some light on the progress made over the last few decades, as well as the key challenges that the continent still needs to overcome. europe is the next stop in our journey, where moosa hassim focuses on emerging europe, which has transitioned from command to market-based economies. the transition was not necessarily easy and the respective countries faced many difficulties in embracing their economic freedom. as a result, growth was lacklustre and the region was largely ignored by investors. however, this situation has changed and the region appears to be presenting some viable pockets of opportunity. our journey comes to an end in latin america, which last captured investors’ attention during the emerging markets 3

keeping america great andrew dittberner – chief investment officer love him or hate him, one thing that donald trump has ensured since becoming the 45th president of the united states of america (us) is that there is never a dull moment in american politics. many times the noise coming from the white house has been dismissed as exactly that, noise. looking back over the past 18 months, while one might conclude that his bark is bigger than his bite, the days of simply writing off what he says are over. the list of what trump might consider his achievements is long and colourful but to highlight a few, they include pulling out of the paris climate accord, withdrawing the us from the iran nuclear deal, banning travellers to the us from six mainly muslim countries, ordering mexico to build a wall, meeting with korean leader kim jong un, the list goes on. however, when it comes to trump, investors should be most concerned about his views on global trade tariffs and immigration, as both have the potential to cause major disruptions to the economic progress of the us. elected on the back of his “make america great again” campaign, the question that begs answering is why try to make something great, great again? no country is perfect, yet from an investor’s perspective, america is already great. the current economic recovery is very likely to exceed the longest economic recovery on record. graph 1 indicates that if the us economy continues to grow for the next 12 months, the recovery will span 123 months, exceeding the previous longest recovery of 120 months from 1991 to 2001. alongside this, investors in the us stock market have enjoyed the fruits of an extended bull market that began back in the depths of the 2008/9 global financial crisis. so while this environment has been great for investors, there are two high level questions weighing on investors’ minds that require some thought. the first is when does the current economic cycle come to an end? and the second is how much longer can the current bull market sustain itself? all good things come to an end while the second question is arguably trickier, if not impossible, to answer, the first can be approached with a little more pragmatism. graph 2 highlights the market’s movement in and around a recession. the grey shades indicate a us recession. looking at the graph, it becomes very evident that the us market tends to retreat in the months leading up to a recession, recovering strongly once the recession is in the rear view mirror. therefore, determining when 5

the knock-on effects compounding the matter further is the overly simplistic view that a 10% tariff placed on us$200bn of trade would only deal the economy a us$20bn hit. in reality, it is a much bigger hit, as not only will tariffs spill over into us prices, but ultimately, if a trade war goes on long enough, the allocation of capital and resources will start to become inefficient. if the us is better equipped to build aircraft and china is better equipped to build motor vehicles, then there is a comparative advantage in trade. by letting those who are more efficient at building something build it, everyone’s living standards are raised. this is the basic principle of global trade and its premise. the other point that the us may be missing is that by applying tariffs on the world, the rest of the world may end up trading more freely among themselves, leaving the us to be the odd man out. this is already happening, as evidenced by the recent europe-japan trade deal. under this scenario, the us loses while everyone else gains. irrespective of the timing around the next us recession, a global trade war will only make it come a little quicker while also potentially making it a little deeper. the trump administration would be well advised to welcome the impending chinese delegation and seek out the middle ground. building walls instead of bridges a slightly longer-term yet equally concerning issue is that of the us’ immigration policies. one of the key constraints in the us today is a declining labour force, which could materially hamper the country’s long-term economic progress. the reasons for the declining labour force include an ageing population, declining fertility rates and reduced net immigration. beyond enticing baby boomers back to work, not much can be done about ageing populations. while education can play an important role in improving productivity and output, adopting progressive immigration policies could address one of the most critical components − reduced net immigration. immigration is an extremely emotive topic, with many different angles from which to broach the subject. looking at the facts, immigrants have contributed towards more irrespective of the timing around the next us recession, a global trade war will only make it come a little quicker while also potentially making it a little deeper. than half of the growth of the us labour force over the past two decades. many of these immigrants are entrepreneurs who have brought a high level of innovation to the country. according to the national venture capital association, a third of us venture-backed companies that went public between 2006 and 2012 had at least one immigrant founder, with more than half of the us’ unicorns1 having been founded by immigrants. the importance of immigrants to the us is nowhere more evident than the statistic indicating that while immigrants make up about 15% of the total labour force, they comprise a quarter of the country’s entrepreneurs. companies such as google, tesla, ebay, yahoo, at&t, procter & gamble and 1 a unicorn is defined as a start-up business with a value of more than us$1 billion. pfizer all count an immigrant as either their founder or co-founder. against this backdrop, the formal proposal issued by the trump administration to rescind the international entrepreneur rule (ier), a regulation that allows entrepreneurs to grow and scale their businesses in the us, comes across as irrational and ill- conceived. the ier was enacted to allow more entrepreneurs to immigrate to the us to start their businesses, and while not perfect, removing it all together will have material negative long-term effects on us economic growth. in 2017, the new american economy immigration coalition estimated that the ier would create a minimum of 135 000 jobs in the us over the next decade, with the potential to create more than 300 000. the jobs that the us loses by preventing the founder of the next big company from staying in the us through the ier will not disappear; rather, they will go to another country. again, this is already happening. according to the kpmg venture pulse q4 2017 publication, since the beginning of 2010, global venture capital investment has increased fourfold, yet the share invested in us companies has decreased from around 70% to 51%. unsurprisingly, the big winner of this trend is china. a change in strategy the trump administration’s focus on making america great again is ill placed. if the us wants to maintain its state of global hegemony into the foreseeable future, closing its borders to global trade in both goods and people is not the way to go about it. keeping its borders open and remaining globally connected is a far superior strategy that will enable future economic progress while also ensuring that america remains great. 7

for three-quarters of african countries, with angola and nigeria deriving more than 90% of their export revenue from oil. history has shown this to be both a blessing and a curse. in the 1980s and 90s when commodity prices fell, coups often ensued and civil wars were closely related to discoveries of resource deposits. in contrast, the turn of the century and the chinese- led commodity boom of the 2000s highlighted the advantages of being a commodity rich region in a world where a rising superpower (china) was industrialising. during this period, african countries performed extremely well and began to rank among the fastest growing nations in the world. a few of the countries that received this initial commodity- infused boost have managed to sustain respectable economic growth rates in the face of weaker commodity prices and, to some extent, even diversified their economies to manufacturing, services and tourism, albeit not enough. nearly a third of africa’s economic growth still comes directly from commodities. until the oil price collapse in 2014/5, angola and nigeria were experiencing robust growth, with the latter surpassing south africa as the largest economy on the lion’s share of commodities the most obvious common thread running through most african countries is their over- reliance on volatile commodity exports. a third of the world’s mineral reserves, two-thirds of diamond deposits and a tenth of oil reserves can be found in africa. according to deloitte, commodity exports make up at least 70% of export earnings graph 1: world’s fastest growing economies graph 2: annual gross domestic product (gdp) in 2018 philippines tanzania senegal bhutan cambodia djibouta côte d’ivoire india ethiopia ghana angola nigeria 6.7% 6.8% 6.9% 6.9% 6.9% 7.0% 7.2% 7.3% 8.2% 8.3% n o i l l i b d s u 600 500 400 300 200 100 0 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 gdp growth rate source: the world bank source: trading economics 9

another is milvik, a life insurance firm that operates in four countries and allows customers to pay daily premiums of about 2 us cents via mobile phone top-ups. in south africa, sa taxi, a subsidiary of transaction capital (which serves the taxi industry and sells related insurance differently to traditional banks), is another case in point. outside of the formal economy is a seemingly bustling informal sector. according to the international labour organization, the african informal economy is largely understated and it is estimated to represent over 40% of sub- saharan africa’s gdp. south africa is at the lower end of that range (under 30%) with nigeria, tanzania and zimbabwe at the upper end (about 60%). this is mainly made up of enterprising traders, who in some regions are efficient enough to make it difficult for large corporations to dominate. this highlights some of the continent’s innovation, resourcefulness and wits, all of which should stand the region in good stead. a leopard changing its spots perhaps the most significant positive change on the continent over the past decade or so is that wars and civil dissension have declined dramatically. while there are still the occasional incidents (south sudan, somalia and egypt), they are nowhere near the severity of the civil wars and coups of prior decades. closely linked to this development is the advent of democracy across many countries. it is startling to note that in the 1980s only three african countries had democratically elected governments. today, the majority of african countries enjoy some form of democracy and regularly participate in elections, albeit not always perfect. corruption: the elephant in the room despite all the good, one cannot be oblivious to some dreadful aspects that weigh on africa’s improved prospects. chief among them is the scourge of corruption that is often cited as one of the continent’s greatest impediments to progress, and rightly so. as a case in point, it is estimated that corruption could cost nigeria 37% of its gdp by 2030 if current trends continue – up to us$8 billion is estimated to be siphoned out of the economy every year. sadly, the story is very similar in many african countries. ghana, the fastest growing graph 3: percentage of population with a bank account (% of total) 80 60 40 20 0 country in africa and the world, is estimated to lose around us$3 billion every year to illegal activities. these are all much-needed funds that could be directed to infrastructure development – schools, hospitals, power stations and roads. the uneven spread of wealth (high inequality) and low rankings on ease of doing business are some other obvious consequences of corruption, both being key challenges facing the continent. tia – this is africa where will africa be in a decade from now? will the sceptics be proven right or will the aspirations of over a billion africans be closer to being realised? needless to say, we are optimistic on the continent’s long-term prospects. however, we will add the proviso that it will take time. as the old adage goes, "there is no hurry in africa." it takes generations to expunge destructive practices such as bribery, fraud and violence. so while the road ahead will likely present some obstacles, judging from the past two decades, we are on the right track. furthermore, we would go as far as to say that many of africa’s challenges can be overcome by having the right leaders in place. how else would one explain the anomaly that the continent with the most arable land has to import food or that the continent with the richest mineral wealth has the poorest people? senegal ivory coast malawi togo mauritania angola ghana botswana south africa mali sudan zimbabwe tanzania ethiopia gabon nigeria kenya mauritius source: the world bank 11

emerging europe on track for continued growth moosa hassim – investment analyst “it was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the spring of hope, it was the winter of despair.” this opening line of charles dickens’ ‘a tale of two cities’ immediately comes to mind when considering europe, which is still very much a tale of two realities. on the one hand you have the developed, capitalism-entrenched western european bloc that, over an extended period of time, has delivered strong growth and returns for investors. on the other you have emerging europe (comprised of central and eastern european countries), which has gone through the enormous change of moving from command to market-based economies. this transition has not been easy, with the respective countries facing many difficulties in embracing their economic freedom. as a result, growth was lacklustre and the region was largely ignored by investors. however, this situation has changed with the passing of time and the region appears to be presenting some viable pockets of opportunity. 13

and wages, and the expansionary fiscal policy, inflation is expected to increase at a faster rate than originally predicted. rising inflation could force monetary authorities to raise interest rates sooner than expected in order to stop the economies from overheating. despite this, the consensus among analysts and international institutions is that these regions are likely to continue growing strongly in the future. however, growth will ease somewhat should the monetary authorities begin to withdraw the current stimuli. have the markets followed? from a macroeconomic perspective, emerging europe seems attractive and has grown strongly over the past few years. but while there is often a correlation between gdp growth and stock market returns in the long term, there are plenty of examples of stock markets being disconnected from the real economy in the short term. therefore, prospective gdp growth is not a guarantee of stock market returns. in 2017 both the ftse 100 and the s&p 500 were firmly in the spotlight for record-breaking performance. however, as graph 3 shows, the msci emerging markets europe index actually outperformed both of these indices. one- year performance to the end of january 2018 saw the index gain 26%, superior to both the s&p 500 and the ftse 100, which posted returns of 23.91% and 19.95%, respectively. this year has, however, been a different story, with the moral being that one needs to be aware of the risks of investing in volatile emerging economies. to the end of july 2018, the msci emerging markets europe index was down 7.78%, while the ftse 100 was down 2.26% and the s&p 500 was up 5.34%. while this year’s performance might be concerning, one needs to be cognisant of the fact that performance is quoted in us dollars and the strong dollar has been a dominant theme in all emerging market economies. while there are valid concerns around certain emerging economies (i.e. turkey), these concerns in theory should not extend to other markets. however, during periods of uncertainty, investor sentiment can cause large movements in asset prices across borders as risk aversion takes precedence. this, for the discerning investor, may present buying opportunities for high quality investments. while the effect of currency fluctuations on returns cannot be ignored, over the long term, exchange rates move in the direction suggested by economic fundamentals. it is only during shorter periods that their behaviour is often more chaotic and displays greater volatility than the underlying fundamental economic variables may imply – this is especially true for emerging market currencies. headed towards the best of times after almost 30 years since the fall of communism, emerging europe as a region continues to transform. the road may not be smooth, but the countries are heading in the right direction. with strong economic growth, a highly skilled and cheap labour force, and budding optimism among its citizens, it would be remiss not to consider the region as an investment opportunity. graph 3: index return comparison (2017) graph 4: index return comparison total return (jan 2018 - jul 2018) msci em europe us$ s&p 500 composite ftse 100 130 125 120 115 110 105 100 95 90 85 80 7 1 n a - j - 7 1 b e f 7 1 - r a m 7 1 - r p a - 7 1 y a m 7 1 n u - j 7 1 - l u j - 7 1 g u a - 7 1 p e s 7 1 - t c o - 7 1 v o n - 7 1 c e d 8 1 n a - j 115 110 105 100 95 90 85 80 msci em europe us$ s&p 500 composite ftse 100 7 1 - c e d 8 1 - n a j 8 1 - n a j 8 1 - n a j 8 1 - n a j 8 1 - b e f 8 1 - b e f 8 1 - b e f 8 1 - b e f 8 1 - r a m 8 1 - r a m 8 1 - r a m 8 1 - r a m 8 1 - r a m 8 1 - r p a 8 1 - r p a 8 1 - r p a 8 1 - r p a 8 1 - y a m 8 1 - y a m 8 1 - y a m 8 1 - y a m 8 1 - n u j 8 1 - n u j 8 1 - n u j 8 1 - n u j 8 1 - n u j 8 1 - 8 1 - 8 1 - 8 1 - l u j l u j l u j l u j 15

latin america is a region of immense contrasts. much like africa, it has vast reserves of natural resources but still suffers from severe social inequality and economic volatility. ineffective governments appear to thrive in a region celebrated worldwide for its unique cultures and the creativity of its people. what does one make of the nascent revival in argentina under president mauricio macri, which has been interrupted by yet another currency crisis this year? how does one believe that the clean-up of corruption in brazil will be more than skin deep and what will the october 2018 general elections deliver? will mexico be the biggest loser in president trump’s mission “to right the wrongs” of trade imbalances and immigration? what’s going on in venezuela? on the surface, crises seem to have dominated latin american politics and economics in recent centuries. in this context, investors may be justified in questioning whether the continent is in fact “investible”. economic volatility in many latin american economies has been much fiercer than in most of the world and this has damaged investor confidence. fuelled by the commodity boom, the region enjoyed strong gdp growth until the global financial crisis hit in 2008 and has subsequently struggled to sustain economic momentum. falling commodity prices, fiscal crises, political turmoil, insufficient public and private investment, and declining consumption all contributed to recession. all of this was then compounded by market turmoil. while countries such as brazil and argentina experienced major setbacks, others, such as chile, colombia and peru, continued to grow, albeit at slower rates. although latin america still generally underperforms other emerging markets, the picture is starting to improve. brazil and argentina are showing signs of recovery and according to the international monetary fund, gdp growth across the region is projected to average 2.7% through to 2021. geared for growth latin america possesses a number of assets that make it an attractive growth market. the region has a combined nominal gdp of around 8% of the global economy, the same as its proportion of the global population. for comparison, the usa represents 23% of the global economy and china 16% using the same measure. therefore, on this basis, latin america’s entire economy represents half of china, but is almost the size of japan and germany combined. looking at it from the perspective of emerging economies, it is greater than that of the asean (association of southeast asian nations) economies, india, and the middle east plus africa. it is also a us$3.5 trillion consumer market with per capita annual private consumption that is higher than in china or russia. since 2009, the middle class in this region has grown from 28% to 35% of the population. the table below takes a closer look at how the major economies in latin america compare with each other on a purchasing power parity (ppp) basis. the largest economy, brazil, makes up one-third of the region on this basis and mexico one-quarter. these two economies have historically dominated the economy latin america and the caribbean by estimated gdp (ppp)* population in millions gdp (ppp) per capita in usd 650 209 125 45 50 19 32 32 av. 15 493 15 919 20 028 21 370 14 993 25 425 13 963 11 723 8 970 17 rank country total brazil mexico argentina colombia chile peru venezuela other 1. 2. 3. 4. 5. 6. 7. 8. gdp (ppp) in usd millions 10 070 343 3 330 461 2 498 202 952 464 747 024 472 413 449 153 373 119 gdp 100% 33% 25% 9% 7% 5% 4% 4% *international monetary fund. "report for selected countries and subjects". world economic outlook database, october 2017 1 247 507 12% 139

especially in mexico. while the trump administration’s policy actions are important to mexico, two-way trade between the us and mexico is enormous and is important to both countries. trade in both directions is heavily geared towards machinery and manufactured goods, especially vehicles and parts. mexico is latin america’s top producer of vehicles, the seventh-largest vehicle producer worldwide, and has a number of free trade agreements with many other countries. in this way, the us is not mexico’s only market. rising above challenges latin america is just starting to get its act together. the growing commitment to trade and investment liberalisation by some governments, despite growing protectionism in the us and elsewhere, favours the region and its multinationals. the region’s recent tilt towards openness is expected to help increase both imports and exports, which have grown by roughly 30% since 2009. greater openness is also making latin america an attractive destination for foreign direct investment (fdi). from 2014 through 2016, the region drew an average of nearly us$200 billion in fdi annually, which is close to china’s level and is significantly larger than other emerging economies such as asean and india. investors cannot disregard this region of the world despite the political uncertainty and economic volatility. from this region has emerged some formidable multinational companies, forged in tough conditions and inspired to greatness, and all indications are that this will continue. sources: 1. world economic forum: latin america and the caribbean in 2018: an economic recovery in the making. january 2018 2. international monetary fund: world economic outlook. april 2018. 3. boston consulting group: why multi-latinas hold the key to latin america’s economic future. march 2018 19

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