Inflation is biting consumers across the world. And market returns — in general — haven’t kept up to protect against the loss of purchasing power.
In SA, CPI hit 7.4% in June, despite aggressive monetary tightening by the SA Reserve Bank since November. The Bank has increased interest rates by 200 basis points (bp) with the repo rate now at 5.5%.
At the same time, the JSE’s all share index is down 4% since the beginning of the year, while the spot price of gold has slipped 1.4% over the same period. The latter’s price move is counterintuitive to its historical place as an inflation hedge. Punters of crypto currencies, such as bitcoin, don’t have much glory to bask in either: bitcoin’s price has almost halved since the beginning of the year — from $46,052 to its current $24,014.
Globally, it doesn’t look much better: the MSCI world index has lost 12.4% of its value this year. And not even the rand’s decline has made up for a lacklustre performance by global stocks.
There are, however, areas in the market that may help boost investors’ performance even as food and fuel prices gnaw their way through global economies.
Coronation Fund Managers, for example, sees some upside in commodities, and not just gold, either. As Neville Chester, senior portfolio manager at Coronation, tells the FM, “There is legislated demand for certain commodities” now.
The demand for these ‘green commodities’ didn’t decrease. In addition, new supply of these commodities isn’t coming online fast enough
— Neville Chester
These commodities include copper, lithium, titanium and manganese, among others. They’re used in the construction of environmentally friendly power generation plants as world governments increasingly legislate for lower carbon emissions in industry. “The demand for these ‘green commodities’ didn’t decrease,” Chester says. “In addition, new supply of these commodities isn’t coming online fast enough.”
Or as David Lerche, head of equities at Sanlam Private Wealth, puts it: “The world is shifting to electric vehicles and there is not enough supply [of basic metals].”
Take copper for example. The copper price has dropped 26% since its record high of $4.64 a pound in March to its current $3.64 a pound, but it’s still substantially higher than the $2.16 at the height of the Covid market meltdown of March 2020. Since mid-July, there has been a rebound in the metal’s price — it’s gained almost 13%.
Another commodity that has had a similar recent rebound is platinum. The price of the precious metal, used in catalytic converters to reduce noxious gasses, recently bounced back above $900 an ounce. Rhodium, which drove record earnings at SA platinum miners last year, hasn’t reached the heights of $29,000-plus recorded a year ago and is now sitting at about $14,000 an ounce. Still, this is almost three times the level at which it traded for a decade before late-2019. If historical charts are to be believed, it seems even though the prices of many metals have slumped of late, they’re still trading healthily above historical levels.
Lerche says though there is a downturn in metal prices, “it won’t be as bad as in 2014/2015 when a lot of supply came online”.
But what about gold — the old staatmaker when it comes to hiding away from inflation? According to Chester, two issues have affected gold’s lacklustre performance. “Following the printing of huge amounts of money by central banks in developed markets, most of the speculative money went into cryptocurrency. The gold price, to be fair, did move upwards during the Covid pandemic.”
After the March 2020 market rout, the gold price moved from $1,842 an ounce to a high of about $2,250 two months later. Since then it has gradually declined to its current $1,758 an ounce. But there is another factor dampening gold’s lustre, especially with the US Federal Reserve raising interest rates in the world’s biggest economy.
“Gold’s zero cost of carry disappeared,” says Chester. “If you buy gold now, it has an opportunity cost of 3%, equal to the yield on 10-year US treasuries. The cost of holding gold increases along with the rise in interest rates.”
Still, the Coronation Top 20 Fund has allocated 22.9% of its capital to resource stocks, including Impala Platinum, Glencore, Anglo American and Exxaro.
Impala is trading at a forward p:e of 4.9 and a historic p:e of 4.1. That means analysts expect earnings to rise by about 17%. Even then it will leave the company at a very cheap rating when the price for platinum group metals starts to rebound. In Anglo’s case, considering its historic p:e of 6.87 and forward p:e of 6.49, the market expects a 5.5% increase in earnings. Glencore, which also mines high-in-demand coal, trades on a p:e that suggests gains of more than 29% are possible.
PSG Asset Management CEO Anet Ahern says South Africans are more resilient to inflation as they’re used to it. She tells the FM there are more sectors than just basic materials that benefit from higher inflation. “Globally, inflation is partially driven by underinvestment in certain key sectors, including logistics, basic minerals and infrastructure. You don’t just switch on a new mine or ship. It takes years to build them.”
Ahern’s team has been waiting, like so many other fund managers, for the fallout of money printing in the developed markets — albeit a little early. “We were a bit early with our positioning regarding inflation. We’ve been waiting for three years now,” she says.
PSG Asset Management is still wary of so-called long-duration assets such as high-growth technological stocks. These stocks have been hit hard by rising interest rates and the subsequent recalculation of future cash flows at a higher discount rate. It means Big Tech is priced at more realistic valuations, though still expensive in p:e terms.
Ahern sees value in financial stocks, retailers and basic metal miners such as Glencore. This is also evident in the allocation of the PSG Equity Fund, which counts financials such as Discovery, Remgro, Standard Bank and the JSE among its top 10 holdings. On the metals and energy side, the fund holds Glencore, AECI, Northam Platinum, Shell and BP.
Whereas demand for miners’ products are global, financial stocks, especially banks, are proxies of what foreigners think of a country. Or as Chester puts it: “Foreigners see banks as a macro play. If the sovereign isn’t doing good, they won’t be attracted to [local] banks.”
So while some analysts are buying banks for a post-Covid dividend windfall, others say that there is a lot of upside baked into their share prices. This upside will be released only once SA’s economic growth gets into first gear.
In the meantime, Chester says inflation isn’t all bad for banks. “Reasonable inflation is good for their earnings because they’re nominal businesses.” This means they can, in the same way as retailers, increase their prices along with inflation.
The question now is how long inflation will remain sticky. “[Inflation] is a supply-side issue,” says Feroz Basa, head of global emerging markets at Sanlam. In other words, rampant prices are due largely to trade bottlenecks following the pandemic, and higher energy prices, due in part to the Russia-Ukraine war, and the push towards green energy. “The US Fed is fighting inflation with a blunt tool, but it is the only tool it has,” he tells the FM.
“I don’t think central banks will hike rates much,” says Chester. “They can’t afford it.”
Ahern, meanwhile, does not expect a protracted situation of rampant inflation and aggressive central bank tightening. “I think this thing will play out quicker than expected,” she says.
Would you like to comment on this article?
Sign up (it's quick and free) or sign in now.
Please read our Comment Policy before commenting.