Global equity markets performed poorly in May as trade threats intensified during the period. The United States (US) raised tariffs on $200 billion worth of Chinese goods from 10% to 25% and announced plans to impose further tariffs on the remaining $325 billion of goods not yet subject to additional tariffs. President Donald Trump also signed an executive order to restrict US business with Huawei, which had a major impact on the technology sector.
In the US, most indicators confirmed our view that growth is decelerating closer towards trend. Durable goods orders fell 2.1% in April, worse than expected (although led by the volatile transportation equipment category). The US new home sales also fell more than expected in April, reversing strong gains in prior months. Sales dropped 6.9% to a seasonally adjusted annual rate of 673 000, against expectations of a 2.8% fall. Industrial output dropped 0.5% in April, defying market expectations of an unchanged reading and retail sales dropped 0.2% in April, after increasing 1.7% (revised) in March. Positively, the unemployment rate fell to 3.6% in April - the lowest reading since December 1969. Inflation came in at 2.0% in April from 1.9% in March, slightly below market forecasts of 2.1%, but in line with the Federal Reserve’s target. The Federal Reserve (Fed) kept its target rate unchanged at 2.25% to 2.50% and pledged to remain patient on future rate decisions.
Data from the Eurozone remained mixed. The economic growth was confirmed at 0.4% for the first quarter of this year, above the expansion of 0.2% in the fourth quarter of 2018. Germany and Italy returned to growth and Spain advanced at a faster pace, while France’s growth rate was unchanged. The European Central Bank held its benchmark rate at zero percent during its April meeting and reiterated that it expects key rates to remain at record low levels at least to the end of 2019. In line with expectations, inflation came in at 1.7% for April, from 1.4% in March, mainly driven by services costs. Elections in the European Union (EU) took place at the end of May with no real market-moving conclusion.
In the United Kingdom, Prime Minister Theresa May announced her resignation on 7 June. Unfortunately, this has increased the odds of a no-deal Brexit although this is highly dependent on who her successor will be. Britain’s economy grew by 1.8% year-on-year in the first quarter of 2019, up from 1.4% in the fourth quarter of 2018 and in line with market expectations. Inflation accelerated to 2.1% in April from 1.9% in March but came in below market expectations of 2.2%. The composite Purchasing Managers’ Index (PMI) increased to 50.9 in April from 50 in March.
In China, the Caixin General Manufacturing PMI unexpectedly fell to 50.2 in April from an eight-month high of 50.8 in March, below market consensus of 51.0. Output and new orders expanded at softer rates and new export sales fell for the second straight month. China’s trade surplus also disappointed in April, coming in at $13.84 billion from $26.21 billion in the same month last year. Consumer price inflation rose to 2.5% in April from 2.3% in the previous month, matching market expectations. Food prices rose the most in three years as an outbreak of African swine fever sent pork prices soaring.
The Japanese economy unexpectedly grew 0.5% quarter-on-quarter in quarter one of 2019, comfortably beating market expectations of a 0.1% contraction. However, the expansion was supported by net export gains, as imports fell faster than exports. Consumer prices rose to 0.9% in April from 0.5% in the previous month as food prices rose for the first time in four months. Looming tax hikes are a threat to future household consumption.
On the local front, the primary focus was the May 8 national elections. We saw the outcome as mostly market-friendly in that the President should have enough support from within his party to implement much needed structural reforms. The new cabinet which was announced on 29 May seems to have appeased investors, with the rand strengthening to R14.60 in the hours following the announcement. The number of ministers was reduced from 36 to 28, which we view as a step in the right direction. However, there could have been disappointment in the number of deputies appointed (only one less deputy was appointed). Overall, the cabinet size was reduced from 72 to 63. In terms of composition, the President said he focused on finding a balance in terms of gender, age, experience and geography. In those regarded to be key economic portfolios, Tito Mboweni was retained as Minister of Finance and Pravin Gordhan as Minister of Public Enterprises, Naledi Pandor was appointed Minister of International Relations and Cooperation and Ebrahim Patel was appointed Minister of Trade and Industry. In a surprise move, the President appointed GOOD party leader Patricia De Lille as Minister of Public Works and Infrastructure. This cabinet seems to be a decent start in shoring up government to implement very necessary reforms to ignite economic growth following several years of stagnation. The President also emphasised that cabinet performance will be closely monitored against specific outcomes and where implementation is unsatisfactory, action will be taken.
Against a backdrop of lower growth and lower inflation forecasts, the Monetary Policy Committee (MPC) decided to keep the repo rate unchanged at 6.75%. However, two members voted to cut by 0.25% and even the bank’s Quarterly Projection Model is signalling a cut of 0.25% by the end of the first quarter of 2020. The annual inflation rate edged down to 4.4% in April from 4.5% in the previous month. The unemployment rate rose to 27.6% in the first quarter of this year from 27.1% in the previous period. It is the highest jobless rate since the third quarter of 2017.
From a market perspective, bond yields held up well during the month as the JSE fell in sympathy with global equity markets. In a volatile month, the rand ended slightly weaker to the US dollar at the time of writing.
Global growth has peaked and is decelerating towards trend. Global growth for the first quarter of 2019 should come in quite soft. However, the rate of deceleration has started to ease, and the Chinese credit impulse has turned positive. In the US, growth will slow in the face of fiscal headwinds with the gap between the US and the rest of the world expected to start narrowing. Inflation remains well contained globally and central banks remain accommodative. The Fed fund rate is expected to remain unchanged over the forecast horizon, although the market is pricing in the probability of a cut. Trade war risks have increased, but increased tariffs are likely to be accompanied by greater Chinese stimulus. Chinese currency depreciation is an increasing possibility. Bond yield forecasts are higher than spot rates across the board. The trade-weighted dollar is expected to weaken although short term strength remains a risk.
Locally, evidence of reform will be necessary to boost policy confidence and yield higher private sector investment. Economic growth will likely be constrained to below 2% until then. While we anticipate better than money market returns from growth assets over the next 12 months, mostly on valuation grounds, muted business confidence remains a significant impediment. An improvement in confidence would be required to generate returns in the double-digit range. Other near-term constraints include tight fiscal conditions and challenges to the national electricity supply.