Commodities price revival boosts JSE all-share index

There’s not much that is able to keep the JSE down, even in the current economic malaise. Amid depressed global and local economic activity, the JSE all-share index experienced a boost earlier this month when it surged past the 50 000-point mark and on Monday rose above 52 500.

This falls short of the all-time high of more than 55 300 points the index hit last year, but is markedly higher than when it neared 46 000 in January.

The mix of listings on the exchange means that some parts of the JSE fare well when the South African economy is in good shape. Others benefit from stronger global currencies and a weak rand. The performance of some listings, such as the banks, are dependent on the domestic interest-rate cycle. This time around it’s a rebound in commodities prices, helped by some dollar weakness, that has driven the exchange upward.

The commodities price revival this week caught the market off guard, said Wayne McCurrie of Momentum Asset Management. Commodities also tend to swing more wildly, he said. “When they fall it’s more than you think they should, and when they spike up it’s more than you think they would.”

Commodities lost some of their gains later in the week.

In meetings with investors abroad this week, Finance Minister Pravin Gordhan will try to convince the international community that South Africa is a good place to put their money.

The drivers of domestic growth are key for investors and they have been flagged by the credit ratings agencies, which could downgrade South Africa’s credit rating should its growth prospects weaken.

In spite of the squeeze on finances, the government continues to spend R1-billion each working day on infrastructure, which is considered to be the foundation of social and economic development as prescribed by the National Development Plan. Over the next three years, the government has budgeted R870-billion for public sector infrastructure.

The budget remains firmly in place despite higher borrowing costs for the government and parastatals since President Jacob Zuma shocked the market in December when he removed Nhlanhla Nene as finance minister and provided no reason. The benchmark 10-year bond yield – an indicator of the government’s cost of borrowing – rose from 8.83% on the day to 9.2% currently.

A fall, as well as a recovery, in commodities is driven by supply and demand, McCurrie said. Prices are low as a result of global oversupply, but they are being helped by even major mining companies being forced to cut back on current or planned production.

The price of oil and other resources has revived. Oil reached near 13-year lows of $27 a barrel in January but revived to $40 a barrel on Monday. Last month, Saudi Arabia, Qatar, Venezuela and Russia agreed to freeze production at January levels. There is now speculation that the Organisation of the Petroleum Exporting Countries (Opec) members could agree to cut production at a March??20 meeting. Positive sentiment over oil has seen the Sasol share, for one, reach its highest level in a year.

Platinum metal prices moving from close to $800 an ounce in January to more than $1 000 earlier this week is enough to turn a profit for many companies, and the share price of the likes of the troubled platinum miner Lonmin has grown by more than 200% in the past month, up from R16 a share to more than R40 on Monday.

Adrian Saville, the chief strategist of Citadel Investment Services, said the platinum industry is dominated by three large producers. “If the three are under water, it’s only a matter of time before things start looking up. Industry dynamics dictate the platinum price had to recover from the lows we have seen,” he said.

Kumba Iron Ore, earmarked for disposal by its parent company, Anglo American, in mid-February, has since seen its market value grow by more than 180%. On Monday, its share price increased by 35% on the day. But it did lose some of its gains in the days that followed.

This followed suggestions by Chinese policymakers of further monetary easing, prompting market expectations of an increased steel demand. Iron ore is a component of steel. The price gained 19% on Monday, the largest jump seen in a day, according to Bloomberg, whose daily data goes back to 2009.

As much as the resuscitated commodities prices took the market by surprise, they are part of a very normal cycle, McCurrie said. When the selling price goes below the cost of production, companies have to cease production. For example, he said, only 30% or 40% of iron ore producers were making money when it went down to $40 a tonne, which was the case in December last year.

McCurrie said commodity consumers had cut back on purchases and elected to use their stockpiles, reasoning, “why buy today when you can buy cheaper tomorrow?”

“The hypothesis is that there was massive short interest in the resource sector,” said Daniel Spoormaker, an equities trader at BayHill Capital.

Shorting a stock or commodity entails selling it in advance of acquiring it with an aim to make a profit when the price falls. “The guys were shorting it, waiting for one or two to go belly-up – not only in terms of the physical commodities but with the companies themselves … people were pricing in an ‘end of time’ scenario,” Spoormaker said.

When prices starting drifting upwards in response to mining company plans to ameliorate their situations, it forced those relentlessly shorting commodities and companies to start buying back.

“They were starting to hurt,” said Spoormaker. “So they were buying and buying to cover their short.”

The rand works in much the same way as resources – it is a commodity price currency, which weakens in tandem with resource prices and offers a reprieve for local producers who incur costs in rands but sell in dollars.

Saville said the dollar is an important factor because all resource prices are quoted in it, and a weakening of the greenback has a positive effect on commodity prices.

“For two years, the dollar has been on an incredible streak. We don’t just need commodity prices to recover, we need the dollar to weaken.”

Saville said what could be causing a weakening of the dollar “could be as simple as one word: Trump. It’s hard to believe [US presidential candidate] Donald Trump is going to be good for the dollar.”

If the commodity price recovery continues, the rand is going to strengthen because it is oversold, McCurrie said. Resource company shares are the cheapest they have been since the 1970s, he added.

“When a share is so bombed out, any good news – even the tiniest bit – means the shares can run.”

The JSE’s good performance contrasts with negative domestic sentiment over low growth expectations (just 1% in 2016), and higher inflation.

Consumer price inflation is expected to reach 6.8% this year, driven by a persistent drought that has affected food prices. Consumer food price inflation rose to 7% in January but major retailers have been able to keep their own food-price inflation to much lower levels.

Although nobody knows for certain, McCurrie said he feels this could be the end of the commodities downturn.

But Spoormaker said he wouldn’t read the current situation to mean that the slump in the commodity cycle is over, given that the macro-economic picture has not changed much. “Globally, Europe can’t get going, [and] the US is threatening to raise interest rates,” Spoormaker said. “Nobody knows what is going on in China. So the current scenario isn’t conducive for people to get involved.”

Domestically, he said, there is uncertainty over economic policy which, it seems, will be resolved only after the local government elections, and “the actual economy itself is really soggy at the moment”, he said.

Even for those with doubts about the economy, the JSE all-share is well diversified, McCurrie said. Resources shares, excluding gold, move with the commodities cycles.

But the large international listings such as British American Tobacco, Richemont, SAB, Naspers and Steinhoff benefit from rand weakness. South African retail shares are dependent on what happens domestically, and banks and financials are driven by the interest-rate cycle.

Then there is the gold sector, “and who knows what drives it”, McCurrie said. “People think they have to take their money overseas to protect it from rand weakness, but you get good diversification buying the all-share. Of course, 60% to 70% of it is dependent on what happens overseas,” McCurrie said, noting that companies accounting for the majority of the all-share’s market capitalisation make their money outside of South Africa.

Spoormaker said the headline all-share numbers mask the carnage taking place in several sectors and don’t portray a clear picture of what is happening in the underlying market.

Naspers, the fourth-largest listing in terms of market value and with a price-to-earnings ratio of 93 (indicating an expectation of high future earnings), is still a big weighting in the index. But, Spoormaker believes, because Naspers has not come off its high valuation properly, it remains a major factor in holding the index up.

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