Market overview
What a volatile start for global markets during the first three months of 2018!

A pullback in technology-driven shares, rising trade tensions and fears over higher rates and inflation led to a volatile first quarter of 2018 for the S&P 500 Index. Following a 10% correction from its January highs and rallying back 8% by early March, the index suffered another 5% pullback in the last few weeks, ending the month of March down 2.5% on a total return basis and losing 0.8% over the last three months (first negative quarter since the third quarter of 2015). The S&P 500’s correction of just over 5% in the first week of February was a reminder that rising bond yields are likely to cause much anxiety on the path to normalisation.

While stocks were the worst-performing asset class in March, they finished the first quarter in the middle of the pack, beating both long-term Treasuries (-3.2%) and investment-grade corporate bonds (-2.2%) but lagging cash (+0.4%), gold (+2.5%), WTI oil (+5.3%) and the US Dollar Index (-0.7%).

Forgotten was the fact that the US implemented the biggest tax reform in three decades to drive the corporate income tax rate down from 35% to 21% and boost investment spending and productivity. The US is also encouraging corporates to repatriate some $2.5 trillion held offshore - but the impact on the US dollar should be limited as it is over 10 years and already held in dollars. The market, however, reminisced that the 1986 tax reform programme led to the considerable weakening of the greenback.

While recent data globally are mixed, credit impulse numbers and various leading indicators do suggest that growth expectations may still have room to drift lower. This could mean that downside risks for equities, yields and broader commodity prices are increasing, but in general the market positioning is much cleaner now and has probably priced in this ‘news’, leaving scope for a bounce.

While February and March are historically weak, April is a seasonally strong month (+1.2% average total return since 1928, the third-best month of the year).

South Africa

The JSE battled two opposing forces this quarter. On the one hand the ’Ramaphosa effect’ drove some SA Inc. stocks to new highs, while the ‘Viceroy effect’ led to a slew of rumours impacting a number of companies. The recall of the former president attracted elusive foreign flows to the JSE, which flowed mainly into local retailers and banks, up 22%, a very narrow part of the market viewed as representative of the SA economy.

The Budget also served to quell investor concerns. Fiscal consolidation is back on track with government debt now peaking at 55% of GDP - better than the mid-term budget scenario where debt was forecast to balloon. The GDP outlook has improved slightly from 1.1% to 1.8% and prospective revenue has improved thanks to a 1% increase in the VAT rate and enforcement of a strict expenditure ceiling.

Over the last three months the FTSE/JSE All Share Index (ALSI) posted a total return of -6.0%. This has been its worst quarterly performance in eight years (Q2 2010: -8.2%). SA Industrials were the worst performer, returning -8.0% (Naspers and British American Tobacco, which were both down more than 15%). SA and British American Tobacco, which were both down more than 15%). SA Resources lost 3.8% (rising global uncertainty) and SA Financials lost 3.6%. The FTSE/JSE All Bond Index (ALBI) outperformed with a total return of 8.1% (helped by Moody’s keeping SA’s sovereign credit rating unchanged), while the FTSE/JSE SA Listed Property Index (SAPY) has shown the largest underperformance, -19.6% (negative press on Resilient group of companies).

Of the equity sectors, the top first-quarter performance came from Non-life Insurance (+24.4%), Fixed Line Telecoms (+10.0%) and General Retailers (+9.2%). The worst performance came from Real Estate Development and Services (-31.2%), Software (-30.5%) and Household Goods (-29.0%).

The ALSI has derated year to date and is now trading at a forward price-to-earnings (P/E) ratio of between 14.5 times and 15 times (16.8 times historic) versus the longterm average of 12.6 times. But ex Naspers we are at 13.5 times versus the longterm average of 12.3 times. Portfolio and performance review The FTSE/JSE Top 40 Shareholder Weighted All Share Index (Swix 40) (-7.19%) managed a lower return than the FTSE/JSE Top 40 Index (ALSI 40), which realised a return of -6.34% in the first quarter. The main reasons for this were the relative underweight dual-listed companies such as BHP Billiton, Anglo American, Richemont and a higher exposure in Naspers, which was down over 15% during this period.

The negative returns for the first quarter were mainly due to industrial stocks, down 8%, as the strong rand and choppy global markets weighed on stocks with global footprints. British American Tobacco and Naspers were both down over 15%. The Ramaphosa effect was noticeable with banks, up 24%, apparel retailers, up 9%, and small cap stocks, down slightly. Resources stocks were down around 4% with heavyweight Anglo American up 10%, while the platinum index came under pressure, down some 27%, with Impala Platinum falling out of the Top 40 Index after retreating 27% on the back of poor results.

During the March index rebalance three shares were excluded from the Top 40 Index with three new additions. The one-way turnover came to 2.67%. which was much higher than normal. The difference in your portfolio’s return from its benchmark was mainly due to trading costs and market impact related to rebalance and cash flow trades.

Conclusion

Volatility has once again become the dominant factor in financial markets globally, exemplified by the VIX fear index experiencing its biggest daily spike in history during the quarter. There are growing concerns that global businesses may be subject to new regulation and be the target of tariffs if a US-China trade war escalates. Political risk is dominating fundamentals and we now have progressed into a new era where central banks are not the backstop supporting financial markets.

In South Africa, the sentiment pendulum has swung from pessimism to optimism with the new political administration driving business and consumer confidence higher with expectations of a solid economic recovery being discounted. Either way, economic mood swings tend to be exaggerated. Also, the expectation that President Ramaphosa will, in one fell swoop, reverse years of maladministration and corruption are unrealistic.