Neil Thomas
TAKING STOCK
Sentiment is a strange thing. When warm and positive it can inspire people to great heights. When negative, it can easily result in doubt and destruction.
It’s also hard to measure, at least in any rational way. That’s what makes it so difficult to try and second-guess the international investment community’s attitude towards Southern Africa, and more specifically South Africa, in the light of the region’s problems.
That the current instability and breakdown of law and order north of our border is affecting investor perceptions towards South Africa is beyond doubt. How deep or permanent the effects of those perceptions may be is harder to gauge.
So much depends on the outcome to the Zimbabwean crises. President Robert Mugabe could make a miraculous recovery and decide that the economic well-being of his people is more important than bludgeoning his way into a further term in office. It wouldn’t solve the country’s structural problems of high unemployment and high inflation, but would certainly limit the damage.
But of course it’s the worst-case outcome that tends to dominate conversations. What if farm occupations and violence increases, what if it spreads to South Africa, what if the rand goes into free fall, what it that means sharp increases in interest rates … ?
The situation in Zimbabwe is fluid and volatile, and potentially very damaging for this country. But what’s needed is an attempt at rational analysis to cut through the sentiment. At this stage international investors seem to be keeping a more balanced view of what’s going on than some local commentators.
What’s happening at the moment is a battle between investment fundamentals and sentiment. Or put another way, as Aidan Kearney of London’s Singer and Friedlander defines it, a trade-off between economics and politics.
“In the immediate sense there is an amber light flashing over the region,” Kearney says. “Fund managers are waiting to see what’s going to come out of this.
“But from an economic perspective, South Africa is looking increasingly better from an asset allocation point of view. The progress of the last few years has put the country on far more investment radar screens.”
At this relatively early stage there are probably three main fundamental measures to try and assess the impact of Zimbabwe on investment in the rest of the region – the value of the rand, foreign investment or withdrawal from local equities, and the bond markets. These are by no means perfect measures, but do give an idea of what the international community is thinking.
The rand is currently showing the most signs of distress, hitting a low of R6,87 to the United States dollar last week. But this is not entirely due to Zimbabwe.
The rand is a soft currency, and will over time continue to lose value against the hard currencies of our major trading partners until fundamentals like the rate of inflation are in line. Recent weakness has also been further undermined by fears that interest-rate hikes in the US and Europe could affect commodity prices. South Africa remains primarily an exporter of commodities, so the world price will put pressure on the rand. The Australian dollar is under similar pressure for the same reason.
Nico Czypionka, economist with Societe Generale, takes a level-headed view of current rand weakness. “What we are seeing is essentially a trading reaction – you tend to get more of a gut reaction from currency traders, and their reaction is to short the rand,” he says.
For the moment Czypionka is not too concerned about the short-term financial markets trading effect – a relatively strong US dollar makes the rand more susceptible to pressure.
He also points out that the euro has lost more value than the rand so far this year, so this is really where the currency speculators are looking.
Looking at the longer term, he says, possible spillover from Zimbabwe will be on trade flows. “There have been some payment problems with Zimbabwe, but most of the goods sent there from South Africa tend to be essentials, so somehow the funds are always found.” Czypionka says there could be more damage inflicted on tourism in the region, where tours marketed overseas with stopovers in both Zimbabwe and South Africa could be canned. “For Zimbabwe that’s a disaster, for South Africa a smaller spillover effect.”
But what about the large, international funds? Since late last year South Africa has been seen as one of the more promising emerging equity markets, a view bolstered by investment upgradings by top rating agencies like Standard and Poor’s.
Equity inflows and outflows are notoriously fickle, but so far there does not seem to have been a panic exit from the Johannesburg Stock Exchange (JSE) by the international funds.
“Emerging market fund weightings may well have been raised in favour of South Africa, but these still remain relatively small. The focus is on emerging markets like Brazil – it’s unlikely the large funds would have changed their small exposure to South Africa,” Kearney says. But he says the damage caused by Zimbabwe is that it will extend South Africa’s status as an emerging market.
Bonds are the most reliable indicator of investor sentiment towards the region, with South Africa the only issuer of bonds. Here the news is not good. Foreign investors have been net sellers of bonds so far this year, by about R9-billion.
Still, there remains a belief that unless there is a sharp deterioration in conditions in Zimbabwe, the effect on South Africa will be temporary. Czypionka says deeper investment analysis will finally come through. Kearney believes there is too much good news in local economic fundamentals to write off the region’s investment prospects.
What about outward investment – where does this leave local investors?
The outlook for equities on the JSE remains fairly sound, even with the question mark posed by Zimbabwe hanging over the region. Recent reports from Old Mutual Asset Managers and BoE Securities see economic growth projections of about 3,5% remaining in place.
With lower inflation, interest rates that should at least remain flat for a while, and combined with productivity increases, these should translate into stronger corporate earnings, growth and share prices.
Current volatility has more to do with Wall Street and the divergence of the Dow Jones and Nasdaq.
But of course negative sentiment is rubbing off on individual investors, who by all accounts are scrambling to get investment money offshore. Alastair Nairn, MD of Aurica Offshore Services, says his office has done more business in the past month than in any time over the past year.
“We believe the fundamentals for the local economy remain good, and that the current rush offshore is mainly driven by sentiment,” he says.
Much of this negative wash will also apply to other regional markets, probably more exposed to events in Zimbabwe because of their smaller relative size. And if perceptions against South Africa turn down, stable countries like Namibia and Swaziland will be dragged down as well.
Mozambique has its own problems trying to recover from the recent floods, while Angola is still rocked by civil war.
The possible exception is Botswana, remarkably stable and with sound growth. The pule is probably the strongest and most stable currency in the region.
Diversifying investments offshore is a good principle, especially for South Africans who are just starting to emerge from exchange controls. But following the herd offshore (no doubt spooked by some investment advisers pointing to Zimbabwe) will not necessarily offer the best returns.
Investors looking for a safe offshore haven should probably consider tracker funds or widely diversified, multimanaged funds.
This should be the best protection against events in the region and current volatility in global equity markets.
Those who have already moved part of their portfolio offshore and can afford some risk might take a selective look at the local market. Economic problems in Zimbabwe are nothing new, yet the stock exchange in Harare has had periods over recent years as one of the top performers in Africa.