Siboniso Nxumalo, Chief Investment Officer & Meryl Pick, Head of Research at Old Mutual Investment Group (OMIG)
China’s slowing GDP growth and ongoing transition away from an infrastructure investment-led to a consumer-led economy is creating increasing risk for local investors and requires a nimble approach from asset managers. This was the message at Old Mutual Investment Group’s latest quarterly investment update held in Johannesburg today, which also outlined that China’s decline will have a direct impact on South Africa’s revenue.
“Given the size of China, and its importance to South Africa, we need to start paying a lot more attention to that economy than we do the United States” says Siboniso Nxumalo, Chief Investment Officer at Old Mutual Investment Group (OMIG), presenting at the event.
The old investment playbook – which relied on China’s multi-year, near-double-digit economic growth; investments into infrastructure and property; and global manufacturing dominance to sustain it – is no longer relevant. Instead, China’s economic growth headwinds continue to be splashed across front page news, with headlines like “Xi’s failing model”, “China’s fading economic miracle and disillusioned youth”. Rather than dominating global growth through 2023, as hinted at by the International Monetary Fund (IMF) in Q1 2023, China is floundering under an alarming debt burden and changing demographics.
“The macros that have driven the Chinese economy over the last two decades are unlikely to continue to drive it over the coming years; and that has significant consequences for South Africa,” Nxumalo says. China is facing some fundamental structural issues, starting with its demographics. In the 1970s, the county boasted a near-perfect balance between young and old; today the pyramid is all askew, with an ageing population and a low birth rate. There are fewer workers to power the manufacturing sector, and nobody to buy the thousands of homes built during the debt-fuelled property boom.
China’s property sector, long an underpin of its economic growth, is faltering. At its peak it made up 32% of GDP, today it is at levels last seen in the early 2000s, around 24%. “Property as an investment vehicle is now being questioned in China,” Nxumalo says. “And the economic model now needs to change from being manufacturer intensive to consumer intensive”. These changes will have a significant impact on South African investors, given that around 35% of JSE Top 40 revenues derive from Asia / Middle East for total revenues.
China is one of South Africa’s major trading partners; but a faltering Chinese economy has a far greater impact than simply affecting our trade balance, according to Nxumalo. At present, Chinese demand for major commodities like aluminium, copper, iron ore, nickel make up more than 50% of global markets. “Any fall in demand for commodities is bad for commodity producers like Australia, Chile and South Africa,” Nxumalo says. In South Africa’s case, a slowdown in Chinese commodity demand – and decline in commodity prices – results in a drop in export revenues and tax revenues.
He points out that the contribution of commodities to South Africa’s income tax and royalty revenues is starkly illustrated by the tax contributions of the 15 largest mining companies. Their tax contributions are forecast to fall by almost half in 2023, from R90 billion in 2022 to around R48 billion (and well short of the 2021 windfall of R110 billion). And the story worsens in 2024, with a further 10% decline in estimated tax revenue collection to just over R40 billion. But the South African revenue authorities are not the only one’s feeling the commodity price pinch.
“Playing China through the resources companies is going to be less relevant and less profitable going forward,” says Meryl Pick, Head of Research at OMIG, who also presented at the update event. Over the last five years, the best way to earn returns through the JSE (as affected by China) has been via the resources sector; but slowdown in China’s motor vehicle manufacturing and property investments and ongoing ‘shift to green’ are forcing a re-think. “A new approach is needed as the old playbook will not work,” says Pick, before adding that companies such as Naspers and Richemont would likely dominate future ‘plays’ on the Chinese market.
This is because firms with exposure to the Chinese consumer theme are preferred over resources, as they will benefit more as that economy transitions away from infrastructure-led growth.
However, Pick adds that if you look back over the last 40 to 50 years you see plenty of bad-news-driven pullbacks, yet our market has delivered returns amidst this noise through the decades. “Opportunities for returns still exist for the selective investor,” she says.
OMIG is cautious entering the final quarter of 2023 and has started positioning defensively in the face of a synchronised global slowdown. Overall, a cautious equity strategy is preferred, with a higher weighting to global defensive and technology shares, and gold, and a move away from resources and telecoms, says Pick.
“The focus is on finding firms that will prove resilient, regardless of the macroeconomic constraints,” she highlights. For shares with global revenues, the likes of Anheuser-Bush; British American Tobacco; Naspers; and Richemont are on the radar. As for South Africa Inc, local banks remain attractively priced, as are defensive retailers such as Spar and Shoprite and clothing retailers such as Foschini and Mr Price.