Pace of SA economic reform is dangerously slow, but all is not lost for the SA investor

11 Sep 2019
As weak economic growth, social unrest and political upheaval continue to cripple the South African economy, the slow pace of reform is reaching critical levels. However, the mounting bad news for the country could mean good news for local investors as opportunities are being created as the bad news is priced into the market.

This was the message at Old Mutual Investment Group’s latest investment update, where Chief Economist, Johann Els, outlined the current state of the economy, joined by Old Mutual Investment Group’s Head of Equities, Siboniso Nxumalo, who pointed to the investment silver lining.

Els painted a fairly dismal picture of the current economic scenario in the country, with an increase in perceived negative news causing general depression about SA’s outlook. “We saw a much worse than expected Q1 GDP result, although there was a strong rebound in the Q2 data. That said, the significantly slower-than-hoped for policy reform is leading to intensifying anxiety and frustration across the country,” he said. “Perceived bad news such as the National Health Insurance (NHI) proposal and the associated costs this will bring, the debt relief bill and talk of prescribed assets is only serving to take us backwards in terms of policy reform.

“Additional Eskom support will also raise our fiscal risk at a time when we already have a significantly higher fiscal deficit, due to Eskom’s debt and a weak economy,” he explains. “We are therefore facing increased risk of a credit downgrade, despite Treasury’s new Economic Plan.”

He adds that the global economy has also been less supportive recently, further escalating the urgency of local policy change. “Globally, we’ve seen mostly negative news recently, with a sharp escalation of the US/China trade war threatening Emerging Markets, as well as heightened risk of a global recession. However, on the upside, global central banks have turned a lot more dovish recently,” he highlights.

Nxumalo, echoing this concern over the global environment, adds that while the local economy has its problems and investors should certainly look to diversify, offshore investing has its own set of risks currently that can’t be ignored. “Increased uncertainty around the Brexit deal has deterred economic growth in the affected regions and has negatively impacted the UK exchange rate. There is no clear outcome on the issue and this has both positive and negative risks,” he explains. “The global trade war is also having a negative impact on global trade and, consequently, on international equities. These timelines are also uncertain, which isn’t promising for markets.”

He points to the many South Africans currently looking to take their investments offshore. “Going offshore during crises can destroy value. Just consider the many SA companies that have struggled to invest successfully offshore. This is despite having access to strategic planning and the best investment bankers’ funding that money can buy. Most of these deals have eroded value in the companies,” he says. “In contrast, SA Equity during crises – especially when bought at attractively low valuations – has historically been shown to generate positive returns, even throughout the tough Zuma years.

“It is wise to consider the risks before going offshore in times of fear and panic.”

Els believes that considering the global backdrop and the fact that it is difficult for SA to do well when the global economy is suffering, the next few months are going to be crucial for SA. “If the Eskom plan to be announced later this month is half decent, but a more transparent plan is still needed. We need firm assurances,” he warns. “The same can be said for the Medium-term Budget. Despite a dismal deficit picture, a confirmed expenditure cutting plan will be a positive move for the economy. If the Eskom and Medium-term Budget issues can be properly addressed, combined with the generally positively received Economic plan from Treasury, then we might escape a Moody’s downgrade for now.”

But when it comes to investing, bad news can often be good news. While SA equities are currently at crisis levels (excluding the global duel listed names), having reached a 16 year low, Nxumalo points out that this creates price opportunities. “SA equities are effectively on sale,” he says. “All of the bad news we’re seeing currently is already in the price of local equities, with low valuations creating plenty of buying opportunities.

“If you look at the 2008 financial crisis, this year was one of the worst years on record for our local market, falling 30.4% at its lowest point; but the recovery produced some of the strongest performance on record too,” he explains. “Crises and uncertainty have always created opportunity and the current environment should be no different,” he says.