In 2022, global geopolitical and economic events cast a long shadow over developed and emerging markets, with standout events being Russia’s invasion of Ukraine in February and the US Federal Reserve Bank’s efforts to combat persistently high inflation through aggressive interest rate hikes.
Review of 2022
The South African economy has rebounded from the restriction-driven impacts of the COVID-19 pandemic; however, economic growth will remain muted due to structural imbalances in the domestic economy despite continued strength in the primary sectors (mining and agriculture).
South Africa continues to battle with excessively high unemployment levels and a large unskilled population, which increases social instability, particularly in the face of rising food, fuel and transport prices. Growth continues to be constrained by inadequate and acutely unstable electricity supply. 2022 was marred by a record number of blackouts and hours of electricity loadshedding since the first instances in 2007.
Other economic impediments include poor rail and road transport infrastructure that hamper the mining sector’s ability to effectively benefit from elevated commodity prices (coal and iron ore) through increased export activity. In our view, the pandemic and concomitant lockdowns have resulted in permanently scarring the South African economy with persistently low business confidence.
For these reasons, coupled with the very large government debt burden, we remain pessimistic regarding the structural growth rate for the local economy, despite some signs of government movement toward economic reform. Additionally, there is a risk that lower future commodity prices (particularly platinum group metals, iron ore and coal) will result in an even weaker outlook.
Global markets are weak (down 25% in US dollar terms this past year) and volatile as central banks around the world sharply remove monetary stimuli in the face of inflation that has been absent for many years. Emerging markets are also down this year (27%), with the local equity market down 9.7% across the period in rand terms.
Industrials underperformed (down 17.8%), with particularly weak performances from Aspen (down 38.7%), Prosus (down 27.5%) and Barloworld (down 31%). Strong performances were delivered by Mediclinic (up 45.4%), Woolworths (up 22%) and British American Tobacco (up 16.2%).
Financials outperformed in relative terms (down 3.2%), with banks (up 2.4%) outperforming, while life insurers (down 16.5%) and listed property (down 16.9%) underperformed. RMI Holdings (up 36.3%), Absa (up 23.2%) and Nedbank (up 22.4%) outperformed, while Discovery (down 26.9%), Old Mutual (down 20.5%) and Nepi Rockcastle (down 27.3%) underperformed.
Resources were also weaker (down 8.9%), with notable highlights being Glencore (up 25.7%), BHG Group (up 22.4%) and Sasol (up 15.5%). Northam Platinum (down 25.1%), Anglo Platinum (down 20.2%) and Impala Platinum (down 18.4%) all underperformed.
Preview of 2023
While 2023 should see a reduction in inflation in South Africa, the effects of the substantial interest rate hikes by the Reserve Bank in 2022 will result in slower economic growth and pressure on disposable consumer income over the year. We therefore remain cautious on consumer-facing sectors such as banks and retailers.
We are selective within the basic materials sector where we have exposure to Anglo American and Exxaro, and maintain our holdings in low-cost, growing platinum group metal miners. We expect a sustained shortage in platinum group metals when global economic activity normalizes due to structural underinvestment in new supply, coupled with demand from tightened emission regulations, increased jewelry demand and a rapidly growing hydrogen energy sector. And we continue to hold a key position in Omnia, which is exposed to the buoyant mining and agricultural activity in South Africa.
Sukuk rates have increased in South Africa, in line with rising interest rates and the higher inflation environment. Longer-dated Sukuk are therefore now offering compelling, inflation-beating returns, yet we continue to bemoan the lack of diversity and competition in the domestic Sukuk market.
Conclusion
The economic events of 2022 marked a turning point for the global economy and after 14 years of highly stimulatory equity market conditions, we have seen a significant tightening in liquidity and steep interest rate increases in both developed and select emerging markets.
We believe that investors should therefore entrust their savings to investment managers that adopt a proven investment philosophy, backed by a sound investment process that can exploit the opportunities available under these market conditions.
A thorough bottom-up stock-picking approach that seeks to exploit mispricings between extreme pessimism already reflected in company share prices versus the cash flow generation prospects of these companies has proven to be a winning formula during these volatile times.
Abdul Davids is the head of research for Camissa Asset Management. He can be contacted at [email protected].