WEEK IN REVIEW – 20 MAY 2016

GLOBAL MARKETS
CHINA’S EXCHANGE RATE STILL CONCERN FOR US GROWTH

FOCUS THIS PAST WEEK WAS LARGELY ON THE APRIL FOMC MINUTES RELEASED IN THE US, WHICH SURPRISED THE MARKET BY BEING SLIGHTLY MORE HAWKISH THAN EXPECTED.

While the market had been pricing in little chance of a rate hike in June, the committee indicated that if economic and labour market data continues to strengthen and inflation picks up towards the 2% target, it would likely be appropriate to raise rates at the next meeting in June.

However, the minutes again stressed the need to proceed cautiously; identifying risks that remain a threat to global economic and financial stability.

In particular, Brexit and China were highlighted, with the management of China’s exchange rate being a cause of concern for US growth.

April’s US non-farm payroll report came in worse than expected so the May report should have a significant effect on the actions of the Fed and in determining their labour market outlook. The next FOMC meeting is scheduled to take place on 15 June.

Slightly in contrast to the tone of the FOMC minutes, Moody’s cut its growth forecasts for the US from 2.3% to 2% for 2016, citing Q1 weakness as the major driver behind the lowered forecasts.

However, the ratings agency did indicate that the recent strong pick-up in consumer confidence and spending, as well as the continued strength of the services industry, underlines the resilience of the US economy. Moody’s expects, at most, two rate hikes from the Fed this year.

Largely as a result of the increased chance of a June rate hike, the Dollar has strengthened across the board. Risk-off trade dominated over the week, the MSCI World up 0.2% and MSCI EM Index down 1.4%.

DOMESTIC MARKETS
SA’S CREDIT RATING MAY BE DOWNGRADED IN JUNE

AMIDST POLITICAL TENSIONS, POOR RETAIL SALES FIGURES AND A GROWING CONCERN THAT SA’S CREDIT RATING MAY BE DOWNGRADED IN JUNE; THE RAND IS ON THE BACK FOOT ONCE AGAIN.

An increased probability of a rate hike in the US in June coupled with our Reserve Bank deciding to keep the repo rate unchanged is not helping either. The Rand closed the week -1.5% weaker at ZAR/USD 15.64.

Last Monday opened the week on fears that Finance Minister Gordhan may be arrested for his involvement in the so called “rogue” unit which was developed during his time as Commissioner at SARS. However, both the President’s Office and the HAWKS have since assured the market that it is the unit, and not the minister, under investigation. While these statements have caused many doubts about the direction in which the credibility of the Treasury is headed, it seems for now, the credibility remains intact.

April inflationary data was released, coming in line with expectations. Headline CPI printed 6.2% y/y and core inflation was at 5.5% y/y. While on the surface these numbers seem acceptable, the underlying details of the CPI release present a cause for concern. Headline CPI was down slightly from 6.3% the previous month, the primary driver being attributed to lower fuel prices. Petrol prices are down 2.3% y/y but with the recent rally in oil, these benefits are likely to be short lived.

In addition, we are finally starting to see evidence of second round pass through effects resulting from the depreciation of the Rand, with goods such as vehicles and appliances seeing a strong increase in prices. As expected, food inflation continues to rise, up 11% y/y (up from 9.8% y/y in March).

With the risk of further inflationary pressures, in particular fuel and food prices, on the upside together with higher unemployment and lower disposable income, the state of the consumer is likely to remain under pressure for the near-term. It was therefore not a surprise that March retail sales were below expectations. Retail sales rose 2.8% y/y, down from 4% in February and below expectations of 3.8% y/y. This decline occurred despite an earlier than usual Easter holiday.

Given rising inflation expectations and the dire state of the consumer and economy, the SARB continues to weigh up the consequences of sticking to their inflation targeting regime at the expense of putting further strain on the economy.

At the MPC meeting last week, it was decided to leave the repo rate unchanged at 7% in a 5:1 vote; five members voting in favour of the decision and one member voting for a 25bp increase.

While the SARB is forecasting a marginally improved inflationary outlook for 2016, it still sees both headline and core CPI experiencing multi-quarter breaches of the upper target band, starting in Q3 2016.

Importantly, it was made clear that this was a “pause in the tightening cycle” and that the Bank still views monetary policy as accommodative. We are therefore likely to see more rate hikes before the end of the year.

Local markets were generally positive across the board with resources being the top performer after a tough start to the month. The JSE Resource 20 Index was up 3.0% w/w and the JSE All Share Index closed the week 2.0% stronger.