WALKING THE TIGHTROPE

SA Financial Markets Journal: Walking the tightrope

Financial markets appear to have been living rather precariously since the start of the pandemic, and fears of a market correction or even a bubble seem to have made their way into everyday topics of conversation. Many have expressed concern that the market must be in a bubble, given the record highs achieved despite the generally gloomy global economic environment.

REFLATION BECOMES THE LATEST MARKET BUZZWORD

Citadel Portfolio Manager Nishlen Govender pointed out in a recent article (read it here) that the stimulus injected across all economies is largely responsible for the current levels witnessed in risk assets such as equities. This stimulus has ensured that spending has still largely taken place, regardless of the pandemic. So, while a correction is on the cards, a complete meltdown is unlikely.

Combined with the levels of Quantitative Easing (QE) seen across the board, expectations for an economic recovery driven by global vaccine rollouts have raised hopes for reflation. So, what is reflation and why does it matter?

Reflation can be defined as the turning point in an economy where inflation begins to rise. Reflation is typically identified by an increase in wages, as well as consumer goods. In the normal run of monetary policy, as inflation rises, so do interest rates, increasing the cost of credit (debt) to prevent prices from running away. This inflationary stage of the economic cycle then soon sees investments repositioned to optimise the yields received. To simplify, however, this means that should the interest rate hikes of Country A fall behind the hikes of Country B, Country A will become less attractive for investment in relation to Country B.

Market movements are often driven by the potential recoveries and reflation of economies, and this is currently largely supported by sentiment with regards to vaccinations and each country’s capacity to “return to normal”. It is therefore worth examining the progress that various economies have made in terms of vaccine rollouts.

Globally, at the time of writing, a total of 188 million doses have already been administered. To compare apples with apples, ranked by the number of doses administered per 100 people, Gibraltar is interestingly leading the pack with 80.21 doses per 100 people, followed by Israel with 75.99. Larger economies have found themselves lower on the list, with the UK coming in at sixth with 24.76 doses, and the US at eleventh with 17.15 doses. Meanwhile, large parts of Europe have administered less than six doses per 100 people.

Data such as retail sales, unemployment and wages all need to be taken into consideration when assessing whether economies are back on the right track or are returning to normalcy. This week’s major data releases were as below:

Data such as retail sales, unemployment and wages all need to be taken into consideration when assessing whether economies are back on the right track or are returning to normalcy. This week’s major data releases were as below:

MBOWENI PREPARES TO TAKE THE PODIUM

With the parliamentary SONA debate now out of the way, we turn our attention towards Finance Minister Tito Mboweni’s National Budget Speech, as he is scheduled to take the podium on 24 February.

Finding solutions to the dire state of the government fiscus poses a significant challenge. Trouble has been on the horizon for the past three years, and a fully taxed environment and dwindling economy mean that it is rather difficult to imagine the shape of the rabbit that Minister Mboweni will need to pull out of his hat. Will government finally be backed into a corner and forced to make the tough decision to cut back on spending – especially in contentious areas such as the government wage bill and SOE funding? Or will it force South Africa one step closer towards the fiscal cliff, taking on more borrowings in order to fund the widening budget deficit?

Speculation is rife but it seems that there is at least consensus on some of the upcoming budget’s key points of focus, namely:

• The COVID-19 vaccine program
• Stabilising SOEs
• Improving tax (revenue) collection
• Cutting down on expenses (such as the wage bill, bailouts, and irregular expenditure etc)

Local sentiment has improved to some extent as South Africa has finally begun rolling out vaccines to frontline workers after weeks of rather chaotic encounters with manufacturers. While many are upbeat about the rollout, South Africa still faces the stumbling block of not only convincing majority of the nation to get vaccinated, but also securing and successfully rolling out the vaccines to over 40 million people – a tedious task that could take more than a year to complete.

Following a rally to a 52-week high that saw the local unit trade at R14.40/$, the rand, in line with other emerging markets, came under some renewed pressure this week. The rise in bond yields and a stronger dollar eroded some of its previous gains, causing the rand to shed 30c in merely a day, once again exposing the currency’s vulnerability to global factors.

LOOKING AHEAD

All eyes will be on Finance Minister Tito Mboweni on Wednesday as he navigates South Africa’s fraught national finances yet again.

We will also be keeping an eye on bond yields, as a continuous rise will negatively impact the local currency, as well as keeping an ear on the ground for any whispers of the long-anticipated Biden-administration fiscal stimulus package.

Data expected during the next week includes::

Monday:

• CN prime loan rate

Tuesday: 

• ZA leading business cycle indicator and unemployment
• UK unemployment rate and average earnings
• EU inflation rate

Wednesday:

• ZA National Budget

Thursday:

• ZA PPI
• EU sentiment numbers
• US initial jobless claims and GDP

The rand started the day trading at R14.62/$, R17.67/€ and R20.41/£.