"Low interest rates: here to stay"

The US Federal Reserve announced another round of bond buying in a continued attempt to boost the economy. Some central banks of major economies have followed suit with a similar strategy, however, the jury is still out on the effectiveness of quantitative easing as a tool for stimulating the economy. In Europe, bailout fears continue over Spain and though the ECB has announced its bond purchase program, it is not clear if there is consensus support for the programme. Generally, the forecast for the global economy is still gloomy and significant downside risks are present, but overall we can expect the low interest environment to persist for some time to come. In South Africa, the MPC kept the repo rate at 5% and the Reserve Bank Governor in her address reiterated the monetary policy focus on growth figures, which are still failing to impress. The Governor noted the upside risks to inflation from food prices and the volatility of the rand - and after weighing these considerations against the lacklustre growth outlook locally and abroad, the outcome was to keep the monetary policy unchanged.

Inflation as measured by CPI and PPI, declined over the quarter. In the current month's figures, the highest change y-o-y was in administered prices with CPI, excluding administered prices, coming in at 4.4% y-o-y. The inflation trend is expected to continue and remain within the target in the short to medium term. PPI decreased to 5.1% y-o-y from 6.6% last quarter and moderation in PPI figures is expected going forward. Both CPI and PPI reflect the tempered inflation environment and support the current monetary policy stance. While key economic drivers remain shaky, any changes by the MPC to the monetary policy will be sensitive to the trends shown by local and international data releases going forward.

Growth in money supply increased over the quarter, while PSCE figures were lower at the end of Q3 compared to Q1. Although credit extended to households was higher than the previous month's figure, growth in credit extension to corporates y-o-y was lower - pulling down the overall PSCE figure. The impact of the last interest rate cut on households' fiscus maybe filtering in, as all categories of credit extended reflected higher growth figures. It is too soon to assess the full impact of the cut on spending, but so far the resulting demand pressures on inflation do not warrant concern.

The Fund continues to outperform the benchmark and is exposed largely to banks, Government securities or short-term corporate debt.

Looking ahead, the low interest rate environment is set to continue given the weak growth data and the stable inflation outlook. The South African MPC statement reflects continued growth concerns and there may be further rate cuts if the inflation figures create enough room for policy easing. Data from the local markets show an increasing likelihood of a rate cut by Q1 2013. Given the bouts of quantitative easing offshore, the low interest rates are set continue and we may yet see new interest rate lows in the current cycle, bearing in mind that the bottom of this interest rate cycle has now been called on seven occasions (by the Reuters survey of more than 20 economists).

19th time is the charm?
The Eurozone leaders met at the 19th summit meeting in an attempt to provide a resolution to the Eurozone bank and sovereign crises. The outcome of the summit is a strategy aimed at separating the sovereign from the integrated banking system by creating a bailout fund, now named the ‘European Stability Mechanism’. It remains to be seen if this approach will be the means to the end of the European crises. Locally, the rand appears to be reflecting the negative market sentiment in spite of the high bond purchases over the month in June and South Africa’s inclusion in the Citigroup WGBI (World Government Bond Index) during the quarter. Although inflation is back within the 3%-6% target, growth figures are still shaky and the European resolution is still to be put to the test. With this in mind, we do not anticipate a change in the SARB view.
Inflation as measured by CPI came in lower than expected at 5.7% y-o-y and 0.4% lower than the previous quarter. This latest figure gives weight to the favourable inflation forecast alluded to by the SARB. The main contributors to this figure were the lower numbers for food and petrol price inflation, as well as the moderation of inflation on administered prices. PPI remained at 6.6% y-o-y in May and June. Continued decreases in inflation are expected going forward, but the recent depreciation of the rand will be an upside risk factor on future inflation figures.
Growth in money supply and PSCE came in higher than the previous month’s print at 6.5% y-o-y and 8.3% y-o-y respectively, and both these indicators increased over the quarter. The main contributors to household credit growth are largely unchanged with unsecured personal loans being the fastest growing component followed by other credit facilities and mortgage lending bringing up the rear. Overall, households continue to deliver while household spending (expressed as a percentage of GDP) rises. Encouragingly, corporate credit extension recovered over the month after slowing in May. Growth in credit is expected to continue and while there is no indication as yet of consumer-led inflation, credit figures will not be of much concern to the SARB.

The Fund continues to outperform the benchmark and is exposed largely to banks (93% in June), while the remaining 7% of the Fund is invested in Government securities or short-term corporate debt.

Looking ahead, the MPC maintained the repo over the quarter at 5.50% in line with our expectations. The outlook going forward is for the rates to remain unchanged. However, the SARB view reflects upside risks to the inflation forecast and downside risks to that of growth. Adding to this, the recent rand activity makes the inflation outlook unclear, while GDP growth drivers do not indicate high economy growth.

Given the SARB objective of balancing growth and inflation, we do not expect a hike in the repo rate in the short term based on current data. A rate cut could be on the cards if economic growth weakens, while inflation remains favourable, or in the event of a Eurozone blow out.

The Greek resolution came barely in time with the European Central Bank committing more funding and investors agreeing to take a haircut on their bond holdings. Globally, emerging market growth appears to be slowing and domestic growth is no exception, although the outlook, barring negative shocks, is positive. The MPC's decision to leave the repo rate unchanged was anchored on constrained growth in conjunction with a stable inflation forecast. Since the upside risks to inflation remain cost-push in nature, the SARB is still expected to keep the repo rate unchanged for the remainder of the year. On the fiscus, the mandate continues to be of 'doing more with less' with little change on planned infrastructure spend and debt issuance.

Inflation surprised at 6.1% coming in below last month's figure, while unchanged over the quarter. The decrease is somewhat attributable to base effects, but the larger impact is from lower food inflation figures, which may have peaked. Expectations remain for the inflation trajectory to be within the target range by the end of 2013. PPI continued its downward trend; the figure printed in March was 8.3% down and 1.8% over the quarter. The decline in y-o-y PPI over the quarter is attributable to moderation in mining, manufacturing and food inflation. PPI figures are still expected to trend downwards going forward, although this outlook lends itself to continued rand appreciation and containment of oil-related price movements and administered prices.

Growth in the money supply surprised at 5.9% y-o-y, contracting 1.3% over the quarter. PSCE came in at 7.9% y-o-y, and recorded the highest m-o-m increase since 2008. Corporate credit growth seems to have gathered momentum, with y-o-y figures growing faster than household credit growth. Regarding households, the unsecured portion of credit extended increased 31% y-o-y and this sector has attracted scrutiny by regulators having grown by over 50% in the last year. Growth in mortgage lending and instalment sales is still weak. However, the total credit position of household balance sheets remains poor and high credit growth for households may have adverse effects on disposable incomes later on. Credit figures going forward are still expected to be contained due to regulatory and business confidence impacts.

The Nedgroup Investments Money Market Fund continues to outperform the benchmark. The Fund continues to be exposed largely to banks (71% in March), while 29% of the Fund is in Government securities or short-term corporate debt.

Looking ahead, the expectation for the SARB to leave rates unchanged proved founded and the repo rate remains at 5.5%. Changes to the repo rate hinge significantly on growth and inflation forecasts in the near-to-medium-term and key determinants are, for now, mainly cost-push factors. We expect the current rate cycle to continue and any changes to occur closer to year-end. In this respect, the Fund is well invested for a flat to rising interest rate cycle.

'Beating the count'

2011 was full of unpleasant statistics and with the global economy bracing for a potential recessionary onslaught in 2012, the forecast is foggier than it was a year ago. 2011 began with speculation on central bank rate hikes, but by the end of the year there were unexpected rate cuts, the American credit rating had been downgraded and the markets were cautiously awaiting the fate of the PIIGS (European peripheral sovereigns). The local economic environment was not much improved with downward revisions of GDP growth, higher fiscal deficit expectations, deteriorating inflation figures and one of the worst performing currencies of the year. The MPC adopted a reactive approach by keeping the repo rate on hold throughout the year - quoting poor growth and higher inflation forecasts.

Inflation breached the upper end of the target band during the quarter after ending the previous quarter at 5.3% y-o-y. The main contributors, food and administered prices, are unchanged and the forecast is for inflation to fall back within the target range during 2012. PPI increased to 10.1% y-o-y from 9.6% y-o-y the previous quarter. PPI figures have been volatile, but increases should be moderated due to lower demand pressures and significant additional plant capacity. Rand volatility, however, could push PPI figures higher than expected if the sovereign crises further impact market confidence and Rand value.

Growth in the money supply improved over the quarter at 7.2% y-o-y compared to 6.2% in September. PSCE increased to 6.2% y-o-y after falling to 5.5% during the quarter. Household credit growth has shown positive momentum over the quarter, contrary to corporate credit growth figures. Unsecured credit and instalment sales were the most influential drivers of household credit, while mortgage advances figures remain weak. These lending patterns are likely to continue into 2012, however, further credit growth will be constrained by existing debt levels, a tougher regulatory environment and an uncertain economic forecast.

The portfolio continues to outperform its benchmark and is exposed largely to banks (88% in December), while the remaining 12% is invested in Government securities or short-term corporate debt.

In light of tougher economic conditions and a favourable inflation forecast in 2012, the MPC is expected to keep the repo rate on hold. There are risks to this outlook from debt policies in the euro zone and the West, as well as from domestic inflation and economic growth. The current expectation is that rates will remain low for the majority of the year and to this extent, the portfolio is well invested for a flat rate cycle.