TWINOAKS INVESTMENT MANAGEMENT (PTY) LTD
Volume 17 Issue 10 – November 2019
Some people dream of success, while other people wake up every morning and make it happen. – Wayne Huizenga
COMMENT AND OUTLOOK – Downgrade Timeline
Moodys Investor Services rating agency has maintained its investment grade rating for South Africa for now but it downgraded its outlook for South Africa from stable to negative.This means the country’s credit rating is once again on the edge of a downgrade to non-investment grade or junk, as it is more commonly known. Moodys is the last of the three major ratings agencies to still have South Africa on an investment grade rating. It is clear that their benevolence is reaching an end. They have put the country on notice that unless there is clear evidence of plans and action to reverse the current downward trajectory by the end of February, a downgrade will follow. The change in outlook is a result of the bleak picture that was presented by Finance Minister Tito Mboweni in his Medium Term Budget presentation. The economy is not growing at anywhere near the level it needs, spending is rising, government debt is rising and public sector wages are an unsustainable percentage of total government spending. The fiscal deficit is widening as tax revenue is falling short of targets and the ongoing bailouts of poorly performing State Owned Enterprises is adding to the problems. Eskom is the single biggest issue facing South Africa and it has to get sorted out if there is to be any realistic chance of South Africa returning to the levels of economic growth that were achieved in the pre- Zuma era.
“Eskom is the single biggest issue facing South Africa and it has to get sorted out.
Eskom is in Catch 22 situation for the government and the country. It is not a viable entity with its current debt burden of 450 billion Rand. A significant portion of this debt is attributable to the cost overruns at the Medupi and Kusile mega power plants, neither of which is complete and fully operational. Its staff complement is much larger than it should be and remuneration costs are excessive. Municipalities are not paying Eskom for the electricity supplied to them. In it’s current state, if the economy was to start growing Eskom will not be able to cope and load shedding will be an ongoing issue and that will affect any economic growth prospects. This can all be fixed but it is going to require a different approach and that is what Moodys is challenging the government to do. Hard decisions need to be taken and private sector involvement is needed. The labour unions are going to have to accept that what is required will affect some of their member base but there is no other choice. If by the time the February 2020 budget is delivered there are not plans and actions in place to deal with Eskom and some of the other issues being faced, a downgrade will be unavoidable.
“The Rand immediately reflected the worsened outlook and fell after a reasonable recovery during the month.
It is time for President Ramaphosa to put the country ahead of the vested interests of the ANC and its alliance partners and to do what he must know needs to be done to put the country back onto a growth trajectory that will benefit all South Africans. The victory by the Springboks in the Rugby World Championships has shown that working together can turn around bad situations.
“The ball is now in the President’s hands.
October was certainly not a Halloween month for the markets around the world as most markets were positive for the month including the JSE which reversed the negative returns of the past few months. Early in October markets were quite weak as there were further indications of a slowdown in the US economy. During the month the US Federal Reserve cut interest rates by a further 0.25% being the third recent cut. They appeared to indicate that there not any further rate cuts planned under current US economic conditions. US companies reporting third quarter results reflected a more muted economy. In the UK the market was flat for the month and Prime Minister Boris Johnson was forced to negotiate a Brexit extension to the end of January 2020. However the Pound appreciated on the back of an announcement of a deal that would resolve the Northern Ireland/Republic of Ireland border issue, when Britain does leave the EU. Johnson has now called an election which is to be held on 12 December. It is the first UK winter election since 1923 and the weather could be a factor in the turnout. He is hoping to achieve a Conservative Party majority so that he can complete Britain’s withdrawal from the EU. It is a gamble by Johnson and one which may backfire.
The markets were also buoyed by indications of progress towards an agreement on trade tariffs between the USA and China. The US/China trade disputes are compounding a slowdown in growth in many of the major economies. The Chinese economy is now at the lowest level of economic growth that it has experienced for over 30 years. The reality is that international investors have little choice other than to invest in higher risk assets given the almost complete lack of returns in the current low global interest rate environment prevailing in the major economies. In Europe there is in fact a largely negative interest rate environment particularly in government bonds. What this means is that investors placing money in government bonds at negative interest rates are guaranteed to lose money in what is supposed to be the safest of investments. This does not make sense and at some stage something has to give and it may well be that there is another major financial upheaval. Current Central Bank policies are an experiment with the unknown and traditional economic theory is being ignored.
Source: Twinoaks
Twinoaks Investment Management (Pty) Ltd (Twinoaks) is a FSB approved Discretionary Financial Service Provider – No 849. This document is not and should not be construed as an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. Twinoaks has based this document on information obtained from sources it believes to be reliable but which it has not independently verified. For any further information concerning this publication, please contact Twinoaks.