There has been bad news with the release of the latest economic statistics, which show inflation rising rapidly, a trade deficit double internationally accepted norms and indications that the economy is slowing with lower growth in car sales and house prices. When trying to make sense of all this, perhaps the best number to look at is the JSE All-Share Index, which reflects the market reaction to economic data.
Right now the JSE is reaching all-time highs, comfortably above 22 000, a 50% rise in just over a year. In value terms it is now worth R4,5-trillion, up by R1,4-trillion from a year ago. This suggests that the market still believes there is a good story to tell.
According to Stanlib economist Kevin Lings, the market believes that the economy is sound and, although there will be some interest rate hikes and a slow down in consumer activity, this has all been factored in.
The Ernst & Young Banking Confidence Index shows that the higher interest rates have already taken their toll with a sharp rise in non-performing loans or bad debt. However, the banks’ confidence is still high as they had already factored in the impact of higher rates. In July, Standard Bank told the Mail & Guardian that it could see a doubling in its bad debts before profits would be seriously affected and that it believed its clients could survive a 200 basis point rate hike before facing serious debt risks.
Investors on the JSE are viewing current conditions as simply a transition period during which investment in infrastructure and production will gear up, generating a new source of growth for the economy. At the same time the falling rand and high commodity prices have helped drive up resource stocks that dominate the JSE.
“If you look at which sectors have really performed it has been resources on the back of the rand as well as construction and industrial shares as a result of the fixed investment story,” says Lings.
It is interesting to look back at June last year when the JSE broke 14 000 for the first time. The rand had depreciated by 17% and commentators pointed to the weaker currency as one of the drivers behind the JSE.
However, last year the JSE was also driven by strong performances from the banking and retail sectors. This time round their performance has been extremely lacklustre owing to rising interest rates. This means that the sectors driving the JSE are not as broad-based as last year, with foreign buying of resource equities the main driver behind the performance.
According to latest unit trust figures, the retail investor is still equity shy. Although quarterly net inflows into funds was a record high of R19,8-billion, nearly 95% went into low-risk, mostly non-equity funds.
Although the market has absorbed the negative data that is weighing on certain sectors, Wayne McCurrie of Advantage Asset Managers warns against getting too caught up in short-term influences that could be pushing the JSE further than its true value, particularly on the back of strong resource shares. “While the ‘short term’ influence can last longer than you sometimes think, the equity markets value will always revert back to the underlying economic circumstances that they represent.”
McCurrie argues that valuations can be very illogical in the short term owing to sentiment, but in fact are very logical in the longer term. Ultimately, the only two economic factors that drive share prices in the long term are earnings and interest rates.
“These factors are in turn driven by myriad influences, including inflation, commodity cycles, global growth and economic policy.” While the economy could be far more sound than the recent statistics suggest, there could still be market corrections as investors over- or underestimate the fundamentals in the short term.