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Market Overview - April 2023

Market Overview

Heightened volatility and uncertainty within the global market has led to a mixed performance across key regions over the month. Inflation levels in the US continue to taper downwards, a major driver for investor optimism, with peak rates now expected earlier in the year, although that peak may be higher for countries like the UK, Europe, and South Africa. While recessionary concerns have propped up, economic data out of the world's largest economy remains robust with growth holding up relatively well. In addition, earnings season in the US continues to gather attention with the tally thus far being less bleak than expected. Looking across the pond, China dominated the headlines once again as economic data continues to surpass expectations. In terms of detractors, the surprise production cut announcement from the broader Organization of the Oil Exporting Countries (OPEC+) led to a rally in oil prices which sparked some turmoil in the market. Higher oil prices are inflationary, and the major concern was how this will impact headline inflation globally and if it could possibly result in a delay in core disinflation. Sticky inflation has seen central banks globally continue to hike rates, placing pressure on risk asset prices.

Looking more closely at the US (S&P 500: +4.2%), inflation slowed to 5% in March - the lowest since May 2021. This represents a meaningful slowdown from 6% in February and was below market forecasts of 5.2%. The continued upward pressure on rentals saw core CPI tick up to 5.6% (February: 5.5%), however, this was in line with expectations. While the lower-than-expected headline print was well-received by some, stubbornly high core inflation will likely see the Federal Reserve remain on its hawkish rate-hike path, with the swap market pricing in another 25bps hike in May. While the Fed has been adamant that it does not foresee cutting rates this year, traders are still betting a reversal could come sooner if the US economy runs out of steam. Banking fears were also reignited following disappointing numbers out of First Republic Bank which was not immune to the run-on deposits among regional banks when SVB collapsed last month. The bank is exploring an asset sale of long-dated mortgages and securities as part of a rescue plan - suggesting that other regional banks may still be in trouble as well.

China is boasting its strongest economic recovery (relative to estimates) in 17 years, with recent GDP data showing that the economy expanded ahead of expectations in 1Q23 (+4.5% y/y, 4Q22: +2.9% y/y) on the back of a better-than-anticipated recovery from harsh Covid-19 lockdown conditions. This reading was complemented by a slew of robust economic data releases including March numbers for retail sales (+10.6%, ahead of expectations), industrial production (+3.9%, in line), and unemployment (5.3%). The region's modest growth target of ~5.0% for 2023 (2022: +3%) is still achievable as the economic recovery gains traction. This is also expected to be the main driver of global economic expansion in FY23 as persistent monetary tightening in other major economies continues to slow down economic growth. In terms of performance, the MSCI China Index (-2.7%), however, has lagged global peers as ongoing geopolitical tensions appear to be adversely affecting flows. European equities (STOXX Europe 600: +5.1%) performed well as the region recovered from the sell-off towards the end of March. This was underpinned by stronger-thanexpected economic data thus far.

The local bourse also gained momentum with the All Share Index adding 3.6%. However, the outlook for the South African (SA) economy has worsened as persistent and intensified load-shedding saw economists meaningfully downgrade their growth expectations. We also saw SA Inc companies come to the market with "load-shedding" updates, quantifying the substantial additional cost of doing business. The load-shedding situation is expected to worsen in winter but improve towards the end of the year and into 2024. Meanwhile, local inflation came in at 7.1% in March (February: 7.0%) against market expectations of 6.9% and is still above the upper limit of the South African Reserve Bank's (SARB) target range of 3% to 6%, which remains supportive of the hawkish bias.

Monthly Indicators

Economic data overview

US inflation continues to taper downwards, however, core CPI remains sticky

Flash estimates showed that the S&P Global Composite PMI for the US increased to 53.5 in April 2023, from a final reading of 52.3 a month before. This was the quickest upturn in business activity since May 2022, driven by a broad-based rise in activity. Retail sales for March increased 2.9% y/y, lower than expectations (3.2%). In February, the trade deficit widened to $70.5 billion, compared to forecasts of $69 billion, as imports fell at a slower pace compared to exports. The unemployment rate in March edged down 3.5%, lower than market expectations of 3.6%. Annual inflation slowed to 5%, the lowest since May 2021, and below market forecasts. The Fed raised rates by 25bps in March 2023, matching the February increase. FOMC members observed that inflation remained too high and that the labour market remained tight and, as a result, they anticipated that some additional policy firming may be appropriate to attain a sufficiently restrictive policy stance to tame inflation. Still, many participants noted that the likely effects of recent banking-sector developments on economic activity and inflation had led them to lower their assessments of the rate target range and that the collapse of two regional banks would likely tip the economy into recession later this year. The US economy grew by an annualized 1.1% in 1Q23, slowing from a 2.6% expansion in the previous quarter and missing market expectations of 2% growth, a preliminary estimate showed. It was the weakest pace of expansion since 2Q22, as business investment growth slowed down, inventories declined, and rising interest rates continued to hurt the housing market.

ECB members maintain a hawkish stance in order combat high inflation levels

On a preliminary basis, the S&P Global Eurozone Composite PMI increased to 54.1 in March, compared to 52 a month before. This was above expectations of 51.9. Retail sales in February were down 3% y/y, compared to forecasts of a 3.5% decline. A trade surplus of €4.6 billion was recorded in February, compared to forecasts of a $11.9 billion deficit, as exports rose 7.6% y/y and imports climbed a softer 1.1% y/y. The unemployment rate stood at a record low of 6.6%, slightly below market estimates of 6.7%. Consumer price inflation for March came in at 6.9%, slowing from 8.5% a month before. Most European Central Bank (ECB) policymakers agreed to raise key interest rates by 50bps last month, as expected, though some members would have preferred not to increase rates until the financial market tensions had subsided. The ECB is set to deliver a 25bps rate increase in May and another two are expected by mid-year after raising borrowing costs at the fastest pace on record to combat inflation.

Inflation unexpectedly edged higher, but the market anticipates a sharp fall towards the later part of the year

Initial reports showed that the S&P Global/CIPS UK Composite PMI rose to 53.9 in April, beating market expectations of 52.5. Retail sales volumes decreased 3.1% y/y in March, compared to forecasts of a 3.1% drop. In February, the trade deficit widened to £4.81 billion as exports dropped 2.7% and imports declined at a slower 0.8%. Slightly ahead of market expectations, the unemployment rate increased to 3.8%. Annual inflation in the UK unexpectedly edged higher to 10.1% in March. The Bank of England raised its key bank rate by 25bps during the March 2023 meeting, in line with expectations. Inflation is still likely to fall sharply over the rest of the year and to a lower rate than anticipated in February, but policymakers warned that if there were to be evidence of more persistent pressures, then further tightening would be required. On the recent banking crisis, the central bank noted that the UK banking system maintains robust capital and strong liquidity positions and remains resilient. Policymakers will also continue to closely monitor any effects on the credit conditions faced by households and businesses, and hence the impact on the macroeconomic and inflation outlook.

Data out of China remains robust and continues to surprise to the upside

China's composite PMI rose to 54.5 in March, from 54.2 a month before. It was the third straight period of growth in private sector activity and the strongest pace since last June amid the removal of strict pandemic measures. Retail sales expanded 10.6% y/y in March, exceeding market consensus. Better than market forecasts, the country's trade surplus widened to $88.19 billion in March, compared to $44.35 billion over the same period a year ago, as exports jumped unexpectedly by 14.8% and imports dropped lessthan- anticipated by 1.4%. The surveyed urban unemployment declined to 5.3% in March. China's annual inflation rate unexpectedly came in at 0.7% in March, compared with February's print and market consensus of 1%. This was the lowest figure since September 2021, as the cost of both food and non-food eased further on the back of an uneven economic recovery after the removal of the zero-Covid policy.

Inflation in Japan continues to fall; however, policymakers remain cautious

Early estimates showed that the Jibun Bank Composite PMI reading in April edged lower to 52.5. This is the fourth straight month of expansion in private sector output, with a resurgent service economy helping to offset a weak manufacturing sector. Retail sales for February increased 6.6% y/y, exceeding market consensus of a 5.8% gain. Japan's trade deficit widened to ¥754.7 billion in March, compared to ¥464.9 billion in the same period a year ago. This was better than the estimated gap of ¥1.3 trillion. The unemployment rate was unexpectedly lower at 2.6%, compared to forecasts of 2.4%. Annual inflation fell to 3.2% in March, in line with consensus. This was the lowest print since last September, as cost of transport rose the least in six months while prices of fuel, light, and water charges dropped much faster. The Bank of Japan (BoJ) kept its key short-term interest rate unchanged, in line with market expectations. Policymakers indicated their concerns over the economy by lowering their views on exports and production, while leaving the overall economic assessment unchanged. The BoJ reiterated that it would take extra easing measures if needed, while expecting short-and long-term policy interest rates to stay at their present or lower levels.

In South Africa, inflation surprised to the upside once again with ongoing load-shedding and political headwinds adding further pressure

The SACCI business confidence index dropped to a four-month low of 111 in March as rampant load-shedding and high interest rates continued to weigh on the outlook. Composite PMI decreased to 49.7 (February: 50.5), signalling a renewed downturn in private sector activity. Manufacturing PMI declined to 48.1, from 48.8 a month before, pointing toward a further contraction in factory activity. Back in February, the leading business cycle indicator edged 0.7% lower m/m.

Retail sales in February contracted 0.5% y/y, reflecting the elevated cost of living for consumers. This was worse than market expectations of a 0.3% drop. The trade balance swung from a downwardly revised deficit of R22.7 billion in January, to a surplus of R16.1 billion in February. This was driven by a 11% surge in exports amid increased shipments of vehicles and transport equipment, machinery & electronics, and prepared foods. The value of recorded building plans passed in SA's larger municipalities increased 8.6% y/y, following a slump of 40% a month before.

Mining production was down 5% y/y in February, compared to forecasts of a 1.8% drop. This followed an upwardly revised decline of 2.7% in the previous month. Manufacturing production fell 5.2% y/y amid subdued industrial activity. This decline was worse than expectations (-2.2%).

CPI data surprised the market for a second consecutive month when it edged higher to 7.1% (forecasts: 6.9%). This remains well above the SARB's target range of between 3% and 6%. Core inflation (which excludes the price of food and energy) was unchanged at 5.2%. Producer price inflation (PPI) data for February increased 12.2% y/y, compared to a rise of 12.7% a month before. This was slightly below expectations.

The SARB implemented a 50bps rate hike during its March meeting, bringing the benchmark interest rate to 7.75%. This was the ninth consecutive rate hike since policy normalisation began in November 2021 and borrowing costs are at their highest levels since May 2009. Headline inflation for 2023 is expected at around 6%.

Market Outlook in a nutshell

Local

• The IMF has downgraded its 2023 global growth projections from 2.9% in January to 2.8% in the April World Economic Outlook update. This still outlines a moderation from the 3.4% growth recorded in 2022. Underlying this weakening is a more pronounced downturn in advanced economies, which are expected to slow from 2.7% growth in 2022 to 1.3% this year. This is while emerging market and developing economies are anticipated to slow marginally, from 4.0% in 2022 to 3.9% this year.
• Fortunately, the outlook on our trading partners has improved since the beginning of the year. The SARB predicts that trading partner growth will average 2.0% this year, versus the 1.6% that was predicted at the January MPC meeting. This reflects China's recovery as well as the Euro Area avoiding gas rationing and a steeper slowdown in economic activity. Nevertheless, the external environment remains less supportive than it was in 2022.
• Furthermore, SA's ability to take advantage of improved trading partner prospects is hindered by structural constraints related to key network industries - electricity and logistics. In line with this, we see growth of 0.1% this year. Over the period to 2025, we see growth lifting to 1.5%, supported by investment into energy supply that will assist in petering out load-shedding from 2H24.
• To achieve robust growth on a sustained basis, continued traction in implementing structural reforms is pivotal and will support a lift in business confidence, the kind of private sector investment that lifts capacity, and an alleviation of unemployment.
• The near-term drag on economic activity and higher cost of doing business in SA should constrain corporate profit margins and household income growth. This, along with a compressed rate of saving, elevated inflation, and higher debt servicing costs, should weigh on household spending. While conducive credit conditions could support near-term spending, pricier credit uptake could worsen household finances, forcing a painful recalibration in future. We see real household spending growth of 0.8% this year, reduced from a 1.5% growth expectation previously and 2.6% in 2022.
• Global inflation is easing but is expected to remain above targets and pre-pandemic levels over the medium-term. Fragmentations in global markets and the frictional cost of decarbonising economies weigh on this outlook. The impact on SA's import bill is exacerbated by higher operating costs and a weaker rand-dollar exchange rate, keeping local inflation stubborn. We predict headline inflation of 5.9% this year, 5.4% next year and 5.1% in 2025.
• Short-term interest rates increased to 7.75% in 1Q23 and should remain higher for longer, with potential cuts only coming through towards the end of 2024. Rising real interest rates in advanced economy rates, more adverse risk sentiment, a weaker rand, looser fiscal policy, and stickier inflation continue to pose upside risk to the repo rate.

Global

• Our primary concern going forward is whether the resilience of company earnings can be extrapolated into the future. We believe that this may prove difficult as fiscal and monetary policy, particularly in the US, will likely be on a restrictive path. In particular, the lagged effect of tightening monetary policy actions will likely begin to filter through to changes in both corporate and consumer spending patterns.
• Higher borrowing costs for both businesses and consumers will likely suppress economic activity, particularly in discretionary related areas, as economic agents look to rein in expenditure to tighten their balance sheets and income statements. This, combined with lower savings rates, subsiding government transfer payments, and depressed real disposable income will likely erode demand.
• At the moment, households will likely continue utilising various credit instruments, particularly credit card debt, which is currently at all-time highs, to prop up short-term expenditure prospects.
• Nevertheless, if liquidity remains plentiful due to the emergence of various Federal Reserve facilities that have been utilised by the banking sector, this may prevent price discovery from emerging in the short-term.
• While the Fed intends to tighten financial conditions heading into 2023, these facilities have largely reversed their intent and may complicate the inflation trajectory at a later stage.
• Nevertheless, we believe that the loosening of financial conditions in recent months will likely embolden the Fed to be on a restrictive path as we progress into the year as tightening financial conditions will be needed to bring inflation down to more sustainable levels. Similar sentiments will likely be shared by the Bank of England and almost certainly the Eurozone Central Bank, which is currently grappling with all-time high core inflation.
• Chinese economic and mobility data continues to improve, and monetary policy remains on an accommodative path. It is encouraging to see China gradually re-open and Covid-19 cases well off their peak. While we remain cautious of further haphazard policy pronouncements, we are constructive on the outlook for China.
• Nevertheless, tensions between China and Taiwan have recently escalated and have likely resulted in investor jitters toward the region despite an improving economic backdrop. While it is certainly not our base case that an invasion takes place, it remains a tail risk.
• One peak hawkishness of the Fed has been sufficiently priced in by market participants, and inflation is firmly on a downward trajectory, we will be looking to take a more explicit position on the long end of the bond curve. This will be to reflect a deterioration in growth dynamics that will begin to overshadow inflation fears. At this stage, we believe that the rate cutting cycle priced in by the futures curve is premature.

Fear and Greed in Financial Markets

How to navigate irrational exuberance and irrational fear

Warren Buffet famously said: "Be fearful when others are greedy and greedy when others are fearful" - but it is an exceptionally difficult thing to do. Investors cannot help but get caught up in euphoric sentiment in the market and tend to panic when things are not going their way.

What drives fear and what does it look like?

Look outside your window - currently, market sentiment is overwhelmingly fearful. The moves are large - pointing to heightened skittishness and volatility. Market participants are actively looking for things to panic about... be it a banking crisis, or whatever the Fed is doing.

Fear is usually driven by loss aversion. Investors don't want to see their investments go down in value. So, they sell, sell, sell. Some savvy investors capitalise on this fear and "short" stocks, creating further downward pressure. As a result, you see these big, outsized moves on a day-to-day basis and very high volatility.

What drives greed and what does it look like?

Greed is a bit more of a grind. Investors start becoming confident (and then get overconfident) and continue to buy as markets are going up. Those with FOMO (fear of missing out) suppress their fears of "buying high" and pile into the market as well. The market continues to move up, and valuations become expensive.

As mentioned above, greed is driven by overconfidence - a tragically human bias. Investors may benefit from good returns during a bull market and then begin to believe that it is their superior intellect and skill that has resulted in a strong portfolio performance. Greedy investors are also prone to confirmation bias, where they assign more weight to information confirming a pre-existing view and assign less weight to "red flags" or information out of line with their investment thesis. FOMO typically relates to herd mentality bias - simply copying what other investors are doing rather than acting on their own independent analysis.

How do you measure fear and greed in financial markets?

The Cboe Volatility Index (VIX) represents the market's current expectations for the relative strength of near-term price changes of the Standard & Poor's 500 Index (S&P 500). Because it is derived from the prices of SPX index options with near-term expiration dates, it generates a 30-day forward projection of volatility. Volatility is often used as a gauge for market sentiment, and in particular, the degree of fear among market participants. Higher volatility (and a higher reading on the VIX) means that fear has escalated. Conversely, low volatility (and a low reading on the VIX) means markets are calm and could indicate that greed is beginning to flow into the market.

The CNN Fear and Greed Index was developed by CNNMoney to measure whether market participants are behaving in a manner that is fearful, or if market movements are being driven by greed. CNN examines seven different factors of fear and greed and scores investor sentiment on a scale from 0 to 100. A reading of 50 is deemed neutral, while anything higher signals more greed than usual.

• Stock Price Momentum: A measure of the S&P 500 versus its 125-day moving average (MA).
• Stock Price Strength: The number of stocks hitting 52-week highs versus those hitting 52-week lows on the New York Stock Exchange (NYSE).
• Stock Price Breadth: Analysing the trading volumes in rising stocks against declining stocks.
• Put and Call Options: The extent to which put options lag call options, signifying greed, or surpass them, indicating fear.
• Junk Bond Demand: Gauging appetite for higher risk strategies by measuring the spread between yields on investment-grade bonds and junk bonds.
• Market Volatility: CNN measures the VIX concentrating on a 50-day MA.
• Safe Haven Demand: The difference in returns for stocks versus treasuries.

Both these measures are measuring fear and greed in the US stock market - but stock market sentiment usually translates globally, so there will be a very high coincidence of greed and fear between global exchanges.

How do we manage fear and greed?

1. To avoid fear catching you out… don't panic! Money can be an emotive subject and we can't help but become emotional when we see our portfolios doing REALLY well, or REALLY badly. There is a well-known saying in the market: "If you are going to panic, panic first" - but most investors go their entire lives without being the one to panic first.

2. Remind yourself that a) markets are volatile (so there will be losses from time to time) and b) financial markets have seen all manner of wars and plagues and crises but have always recovered (and then some).

3. Always have some cash available for when fear hits. But make sure the trade makes sense fundamentally and you are not just gambling!

4. To avoid greed getting the better of you, have "profit targets" in mind when investing - particularly in opportunistic trades. You can always just take some money off the table (perhaps your capital?) if you think the trade still has legs.

5. Don't get married to stocks - if the greed trumps common sense, take profit.

Market conditions are very tricky right now. It is impossible to pick the bottom or be certain of a top in some instances. The best course of action is to stick to your investment plan and philosophy. Diversify, add to your investments regularly, and stay the course.

Disclaimer: All figures have been obtained from Bloomberg based on each company's latest financial results. Companies disclose degrees of geographic exposure in varying granularity, which may cause discrepancies, and figures obtained may be impacted by currency volatility and may not be representative of future exposures.

Where to start?

For more information regarding your investment, please contact your Portfolio Manager directly.

Regards

FNB