Global outlook – slightly more supportive
Global economic growth has stabilised but the recovery remains sluggish. The slowdown in the United States and China is expected to be more than offset by improvement in some large emerging markets, the euro area and the United Kingdom. Inflation expectations remain stable, at or below targets in advanced economies and trending lower in emerging markets. Consequently, monetary policy in many advanced economies is expected to remain loose, which will support global growth.
The direction of the US dollar has a disproportionate impact on the global economy as global trade is priced in US dollars to a large extent. The US dollar is expected to weaken against major currencies, which implies that the emerging market exchange rate driving inflationary pressures will remain muted. This will help emerging market economies and global economic growth.
The biggest four global risks that dominated financial markets in 2019 have been reduced:
US–China phase one trade deal
Boris Johnson’s decisive victory in the UK elections
De-escalation of the US–Iran tensions
US recession risks
This has revived appetite for risk assets.
Domestic outlook – lifting economic growth
With a marginally supportive global outlook, we would have expected South Africa’s economic growth to pick up as well. However, domestic constraints remain binding. Electricity shortages, a weak consumer demand, and a constrained fiscus all contribute to weak economic growth outlook of about 1.0% this year and 1.5% in 2021.
To improve this growth outlook, three things are needed:
1. Re-establish fiscal credibility
This requires National Treasury to achieve the budget targets they set.
2. Implement structural economic reforms
The required structural reforms have been discussed at length – what remains is faster implementation, which has marginally improved so far.
3. Attract fixed investment
The success of implementing economic reforms will attract fixed investment, which will ultimately lift economic growth.
Inflation remains benign
Inflation outcomes have surprised on the downside for most of 2019 and the outlook remains benign. The SARB has cut rates by 25 basis points to 6.25% to boost consumer demand; however, the impact of this rate cut on economic growth is negligible.
There is still room for more cuts but the risk of credit rating downgrade from Moody’s keeps the SARB cautious. The credit rating downgrade is largely priced in by financial markets such that the impact on asset prices will likely be limited. However, the macroeconomic adjustment, following the downgrade to sub-investment, is usually painful and lasts for a very long time depending on the speed and extent of policy response.
Financial market performance and outlook
Global asset class returns have performed relatively well in 2019 compared to 2018. Developed market equities, driven by US equities, outperformed emerging markets and local equities. Global bonds underperformed other global asset classes, which is a reversal of 2018 market dynamics where bonds performed better than equities.
Domestic equity markets performed in line with emerging markets but domestic economic issues capped the performance. Resources, largely the gold and platinum sector, performed well, while financials had poor returns.
The longer term trend has seen moderating returns, which is the low investment return theme we have highlighted over the past few years. However, for 2020, emerging markets equities appear cheap and with stronger fundamentals. In similar fashion, domestic equities also appear cheap, which should benefit investors who have added holdings of local equities in their portfolios. Local bonds also continue to offer attractive real yields, particularly in an environment where global bonds offer negative or close to zero yields.