South Africa’s Headline Consumer Price Index (CPI) accelerated by 7.4% year on year in November from 7.6% in the previous month. This confirms the peak at 7.8% in the third quarter of the year and we expect a further moderate receding of inflation pressures in the coming months. In contrast to the turn in domestic headline consumer inflation, albeit very slowly, core CPI remained sticky at its recent peak of 5.0% in November.

Hot on the heels of this inflation print, the South African Reserve Bank (SARB) hiked the repo rate by 75 basis points (bps) at its final Monetary Policy Committee (MPC) meeting of 2022, delivering a cumulative 325bps of hikes for the year and a consequent year-end repo rate of 7.0%. While the 3:2 split vote by the 5-person MPC in favour of a 75bp policy hike relative to 50bp increments points to the nearing peak in the cycle, Governor Kganyago highlighting the committee’s bias to overtighten in the post-MPC Q&A serves as a warning of the SARB’s hawkish bias in the current interest rate cycle - and its intent to decidedly rein in inflation.

The tabling of the Medium-Term Budget Policy Statement (MTBPS) in October 2022 confirmed the general market expectations of a stronger fiscal position for the current year. A continuation of strong corporate income tax revenue collection steamed ahead of previous conservative budget estimates. In contrast, forward-looking fiscal estimates are particularly optimistic, with expectations of the first primary surplus in 15 years for the 2023/24 fiscal year and the consolidated budget deficit narrowing to 3.2% of GDP in 2025/26. Given South Africa’s many structural economic growth constraints, we continue to caution against the significant fiscal execution risk in the medium term.

Globally, monetary policy hawks continue to rule the roost, but growing evidence of softening global inflation has resulted in the incorporation of words like "slowing", "pause" and "cut" in central bank communiqués. This bears acknowledgement of the increasing risk to macroeconomic growth in the coming years. Central banks are now tasked with finely balancing the need to fend off inflation pressure while not unduly choking their respective economies of their growth potential.

The fund returned 3.1% for the 12-month period ending 31 December 2022, underperforming the benchmark by 1.2%. Underperformance was primarily due to the fund’s significant overweight position in the +12-year area of the nominal yield curve, which has been the weaker performing sector of the yield curve over the 12-month period.

Considering the combination of stable (or, at worst, limited) potential monetary policy tightening, stable to downward pressure on global bond yields and the challenging fiscal backdrop, the most appropriate risk-adjusted area of the yield curve (at a strategic level) remains the 12- to 20-year maturity band. Within this framework, we shall continue to consider and implement more tactical investment opportunities in response to market/valuation swings. The fund continues to maintain minimal exposure to cash given the low-yielding, longer-term return expectation of this asset class relative to nominal bonds.