Market review
Emerging markets got out of the starting blocks with significant speed, rallying substantially on the back of a 'patient' US central bank (the Federal Reserve), which indicated that it won't be hasty with interest rate hikes and that it will also be flexible with regard to its bond holdings. The South African currency, money, bond and equity markets were all beneficiaries of the Federal Reserve (Fed)'s dovishness.


In February, the strong emerging markets rally, which occurred during January, started to fade, with South Africa following suit. Locally, however, fuel was added to the fire when South Africa's vital electricity provider, Eskom, announced an increase in projected losses from R11 billion to R20 billion. This was exacerbated by the re-initiation of their load shedding procedures, which is a significant drag on the economy.


In President Cyril Ramaphosa's State of the Nation Address (SONA), he continued to place the focus on catalysing the economy and encouraging investment, rehabilitating important institutions and fighting corruption. As a key outcome from the SONA, the market was looking for a clear message, stating how Eskom will be supported going forward. Speaking in parliament mid-month, Ramaphosa said that Eskom will not be privatised and that there will be no retrenchments. He also promised that Finance Minister Tito Mboweni will unveil Eskom's government support package during his budget speech.


In Mboweni's budget speech, he stated that government will support Eskom for three years to the tune of R23 billion per year. This will provide them with some control and conditionality on how the struggling institution will be managed and reformed. Overall, the budget sets out wider fiscal deficits going forward, with slight tax increases and bigger baseline expenditure cuts, which includes some public sector compensation reduction measures.


Ratings agency Moody's issued a negative statement on the budget, stating that the Eskom bailout will lead to higher fiscal deficits and debt levels, while leaving contingent liabilities unchanged.


In the lead-up to the SA sovereign credit rating review by Moody's at the end of the quarter, the SA Rand weakened substantially, especially when compared to the money and bond markets, which weakened to a lesser extent. Another factor leading to a weaker Rand was a stronger Dollar as a result of safe-haven US Treasury bond purchases, as US recession fears reared its ugly head indicated by an inverting Treasury yield curve.


Growth in 4Q2018 slowed to 1.4% quarter-on-quarter (q/q) from 2.6% q/q in 3Q2018. This decline was as a result of slower growth in the manufacturing and agricultural sectors. The unemployment rate declined to 27.1% in 4Q2018 from 27.5% in 3Q2018.


In March, the SA Reserve Bank's Monetary Policy Committee voted unanimously to keep the repo rate on hold at 6.75%. They turned more dovish, stating that the risks to the inflation outlook are more or less evenly balanced, compared to the previous meeting where they said that the risks are moderately to the upside. They also said that they view the current monetary policy as accommodative, which means that they will not easily cut, especially considering that they are targeting inflation at
4.5%.

Moody's refrained from giving an update of SA's sovereign credit rating, leaving it at the lowest investment grade level with a Stable Outlook. Although SA's fiscal position and Eskom have deteriorated substantially since the last rating change in 2017, Moody's stated that SA's credit scores were similar to those of other Baa3-rated countries. It also mentioned that the key risks to a rating downgrade are the continued increase in government debt and contingent liabilities from SOEs, and very low growth.


The Fed left interest rates unchanged at their March meeting, adjusted the number of forecast rate hikes (dot plot) this year to zero and said that they will end the drawdown of their bond holdings by September. They also reiterated the same monetary policy stance, stating that they will be patient amid global economic and financial developments and muted inflation pressures.

Headline inflation declined to 4.1% year-on-year (y/y) in February, from 4.5% y/y in December. Core CPI remained unchanged at 4.4% y/y during the quarter. PPI inflation declined to 4.7% y/y in February, from 5.2% y/y in December. The Rand weakened slightly against the US Dollar to 14.42 from 14.38. The 10-year SA government bond strengthened to 9% from 9.21%. The trade balance decreased from a surplus of R16.7 billion to one of R3.99 billion. The money market yield curve flattened a little over the quarter due to persistent lower inflation expectations.

What SIM did
All maturities were invested across the money market yield curve, exploiting the term premium as well as adding some higher yielding fixed term negotiable certificates of deposit (NCDs). Quality corporate credit, which traded above the three-month JIBAR rates, was added to the portfolio. We preferred a combination of floating rate notes (FRNs) in the portfolio together with some fixed-rate NCDs. The combination of corporate credit, high yielding NCDs and FRNs will enhance portfolio returns.



SIM strategy
Our preferred investments would be a combination of fixed-rate notes, FRNs and quality corporate credit to enhance returns in the portfolio. With the money market yield curve remaining roughly the same during the month, fixed-rate notes still do not provide enough compensation for their additional interest rate risk. Considering the above we still prefer FRNs to fixed-rate notes.