South Africa's voters are scheduled to elect a new National Assembly on 8 May, which is widely expected to hand President Cyril Ramaphosa a five-year term. Stéphane Monier outlines the investment opportunities and challenges ahead.
The resignation of Jacob Zuma after a period of sustained political crisis and his replacement by his deputy Mr Ramaphosa offered some hope to South Africa's troubled economy, tempered with understanding of the scale of challenges ahead. Their party, the African National Congress, is the country's dominant political presence, winning every election since 1994, with a share of more than 62% of the vote five years ago.
Despite the optimism of early 2018, South Africa's unhealthy macroeconomic picture has deteriorated since President Ramaphosa took office. Structurally weak fundamentals with economic growth averaging little more than 1% a year has given the South African economy a widening current account deficit, falling productivity and unemployment of over 27%.
Broadly speaking, with the US rate cycle paused and slowing global growth, we are convinced that carry strategies (involving borrowing at low interest rates and investing in high-yielding assets) offer investment opportunities, especially in emerging currencies and emerging fixed income."
The ANC's opponents include the Democratic Alliance, which won 22% of the 2014 vote, but which has suffered years of in-fighting and controversies. The third largest party, the Economic Freedom Fighters, is a splinter of the ANC's youth league and advocates land expropriation without compensation and nationalisation for the South African Reserve Bank and mines. In the 2014 election it won 6.4% of the vote.
Under President Ramaphosa, the ANC has also pledged to change the constitution to allow for land expropriation without compensation, which while boosting support, has done nothing to improve foreign investors' confidence in the economy.
Monetary policy and the rand
On the fiscal front, the South African Reserve Bank raised its policy rate by 25 basis points to 6.75% in November in the face of poor economic growth as part of its efforts to settle inflation expectations in the middle of its target range and improve its credibility. While further hikes would be in line with orthodox monetary policy, it would inevitably continue to limit economic growth.
Crucially, Ramaphosa promised earlier this year that the ruling ANC has no intention of interfering with the Reserve Bank's independence.
However, the government last month promised a 23bn rand ($1.62bn) bailout for state power company Eskom, weakening the outlook for its 2019 budget. Eskom, which supplies 90% of South Africa's energy, has a debt burden of 420bn rand, and was forecast to show losses of more than $1bn per year through 2020. Ramaphosa last month proposed splitting Eskom into three separate entities, although the ANC has ruled out privatising the monopoly.
The bailout was announced ahead of a review of South Africa's credit rating (‘Baa3') by Moody's at the end of this month. Moody's is the last of the three main ratings agencies to classify the South African economy as investment grade.
With a lack of private sector investment in South Africa, the country has been forced to turn to government spending in an effort to boost the economy. The saving factor is that much of the country's public debt is denominated in rand, making it easier to finance."
Rand outlook, mining
For the South African rand (ZAR), the country's economic situation translates into few reasons to think that the currency is anything but overvalued. Nevertheless, in the event that there are meaningful reforms under the new National Assembly, it is possible to build a case for the rand to rise in the context of a weaker US dollar with the Federal Reserve's interest rate normalisation on hold.
A further challenge facing President Ramaphosa is South Africa's mineral resources, in the form of (mostly costly to extract) gold, extensive platinum reserves and some uranium. Mining in South Africa lacks a sound regulatory framework, without which the sector cannot meet its potential. However, the industry is highly unionised and uncertainties over the future of land reform are hindering investments.
Broadly speaking, with the US rate cycle paused and slowing global growth, we are convinced that carry strategies (involving borrowing at low interest rates and investing in high-yielding assets) offer investment opportunities, especially in emerging currencies and emerging fixed income. Unless the global economy slows more quickly than expected, emerging debt in local currencies, we believe, will benefit from more dovish emerging central banks as inflation remains muted.
Whether President Ramaphosa can turn the South African economy around will largely depend on the scale of his win on 8 May. The ANC has never scored less than 62% of the vote and the party's loyalty is still divided between Zuma and Ramaphosa, which may create tensions as the new president is committed to investigating past corruption. While widely respected, both for his integrity as well as his business record, President Ramaphosa must win back many voters who abstained in 2014 if he is to drive the reforms South Africa needs to attract foreign investment.
Stéphane Monier is CIO at Lombard Odier