GDP unexpectedly contracted in the first quarter (Q1) by 0.7% quarter-on-quarter annualised in sharp contrast to the 1.0% consensus forecast expansion. The figure was worse than even the most pessimistic forecast. The main culprits were the secondary and tertiary sectors of the economy. The manufacturing sector contracted 3.7% on the quarter annualised, and the trade sector, which includes retail, wholesale, vehicle sales, accommodation and tourism, shrank 5.9%. The financial, insurance and real estate services sector, fell 1.2% its first decline since the 2008/09 global financial crisis. As expected the mining and agricultural sectors performed well with growth of 12.8% and 22.2% but not sufficient to arrest the broader economic slowdown. Following on from the 0.3% contraction in Q4 the 0.7% contraction in Q1 means South Africa is technically in recession, defined as two straight quarters of negative growth.
The expenditure side of the GDP accounts paints a similar picture with contraction in the first quarter (Q1) of 0.8% quarter-on-quarter annualised following the 0.1% contraction in Q4. Household expenditure shrank 2.3% in sharp contrast to the 2.2% growth in Q4. Encouragingly private sector fixed capital formation increased 1.2% on the quarter after contracting for five straight quarters. However, despite rising external demand exports shrank 3.2% on the quarter compared to 12.5% growth in Q4. Net exports subtracted 1.9 percentage points from overall GDP. The surprisingly weak economic growth data reinforce the need for monetary easing. Although the Reserve Bank remains circumspect due to the uncertain political outlook and the threat of further credit rating downgrades, the GDP figures will bring forward the start of the interest rate cutting cycle.
The Reserve Bank quarterly trade data shows the merchandise trade surplus increased slightly to R57.4 billion in the first quarter (Q1) up from R55.7 billion in Q4. Meanwhile, the deficit in net service receipts narrowed from R13.3 billion to R4.0 billion. The trade data is consistent with a further narrowing in the current account deficit from 1.7% of GDP in Q4 to around 1.5% in Q1. A further narrowing in the current account deficit would add stability to the rand further emboldening the Reserve Bank to initiate its much-needed cycle of interest rate cuts.
Manufacturing production fell in April by a steeper than expected 4.1% year-on-year worse than the 0.4% decline in March and the 1.6% consensus forecast. Eight of the ten manufacturing sectors experienced declines. The worst offenders were the “motor vehicles, parts, accessories and other transport equipment” sector losing 17.7% on the year, “electrical machinery” down 16.8%, “glass and other non-metallic mineral products” falling 10.9% and the “petroleum, chemicals, rubber and plastics” with a decline of 6.9%. The latest rebound in the manufacturing purchasing managers’ index back above the expansionary 50-threshold suggests manufacturing activity may be past its worst. In contrast to the dismal year-on-year contraction manufacturing output increased in April on a month-on-month basis by 2.3%.
Mining production decreased in April by 1.6% month-on-month, which was not unexpected considering the high base established in March. On a year-on-year basis growth in mining production slowed from 15.4% to 1.7%. Despite the softer April number mining output is expected to maintain its positive trend over the remainder of the year, boosted by strengthening global growth and rising international commodity prices. By mining category, iron ore showed the strongest year-on-year growth at 29.9% followed by chrome at 20.5% and diamonds 12.7%. By contrast platinum and coal shrank by 8.9% and 9.2% on the year. Month-on-month figures show the strongest growth in the building materials, nickel and iron ore categories with growth of 9.4%, 8.6% and 5.8%.
SOUTH AFRICA: THE WEEK AHEAD
Retail sales: Due Wednesday 14th June. Retail sales contributed to the first quarter’s 0.7% GDP contraction. The April numbers will indicate if the trend is likely to persist into Q2. The figures will be distorted by the Easter effect due to the public holiday appearing in April rather than March this year. Nonetheless, retail sales are still expected to be subdued due to weak consumer confidence stemming from poor employment growth, an increased taxation burden and tight lending standards.
RMB Bureau of Economic Research (BER) Business Confidence Survey: Due Wednesday 14th June. The second quarter BER confidence survey is unlikely to show any improvement due to the additional impact of the credit rating downgrades amid rising political, administrative and regulatory uncertainty. The survey has remained stubbornly below the key 50-level for over two years, indicating depressed confidence.
The oil price has remained stubbornly below the key psychological $50 per barrel level amid growing concerns of an over-supplied market. Production in Nigeria and Libya, which are both exempt from the OPEC-led production cut deal, has recovered far quicker than analysts had expected. Nigeria has more than 60 million barrels of unsold crude surpassing the level reached when global oversupply peaked two years ago. Libya is releasing nearly triple the amount of crude into global markets compared with last year. Meanwhile, the diplomatic crisis between Qatar and some Gulf states could undermine the OPEC-led production quota agreement. In addition, downward pressure on oil prices was exacerbated by a surge in US oil inventories. The US Energy Information Administration reported that stockpiles increased in the past week by 3.3 million barrels substantially above the consensus forecast decline of 3.5 million barrels.
Initial jobless benefit claims fell in the past week by 10,000 from 255,000 to 245,000 unwinding half the previous week’s jump. The benefit claims data continues to signal a healthy labour market indicating that the slowdown in the May non-farm payrolls numbers is unlikely to persist into a weakening trend. Labour market conditions have improved steadily since mid-2016 and are now in line with levels last seen in 2006-07. At the current average rate of monthly improvement labour market conditions should return to the 2000 peak levels within the next 24 months. The Job Openings and Labour Market Survey (JOLTS) signals growing labour scarcity. After holding steady for most of last year total job openings have increased sharply in recent months rising in April to above 6 million for the first time since the data series began in 2000, more than 400,000 above year-ago levels.
Growth in US consumer credit fell sharply from $19.5 billion in March to $8.2 billion in April its smallest increase since August 2011 and well below the $15 billion consensus forecast. The sudden decline in credit usage is a concern and needs to be watched closely for clues on consumer spending. Consumer spending, which grew in the first quarter (Q1) by just 0.6% quarter-on-quarter annualised compared with 3.5% in Q4, is expected to pick-up in coming quarters but economists may have to scale back their projections if credit growth fails to materialize. Consumer spending, which comprises around 70% of US GDP, will be key to an acceleration in economic growth.
Producer price inflation (PPI) decelerated from 6.4% year-on-year in March to 5.5% in April. Although still above the People’s Bank of China (PBOC) 3% target PPI is expected to decline sharply in coming months reaching the 2-3% level by the end of the year. Disinflation will be promoted by the fading base effect of last year’s weak numbers and lowered energy, agriculture and machinery costs. Consumer price inflation (CPI) increased slightly from 1.2% to 1.5% but remained below the PBOC’s 2% target for a fourth straight month. However, core CPI, which excludes volatile food and energy prices, remained at a higher 2.1% due mainly to firm services inflation. Services inflation was unchanged in April at 2.9%. The overall inflation data should keep the PBOC on a tightening bias although any interest rate increases are likely to be moderate.
China’s May trade figures were stronger than expected boosted by an improvement in both export and import growth. Exports grew 8.7% year-on-year up from 8.0% in April while imports grew by an impressive 14.8% up from 11.9% the previous month. Both were well above consensus forecast. The upbeat trade data combined with a recent firming in both manufacturing and service sector purchasing managers’ indices (PMIs) indicate a near-term stabilization in economic growth despite measures to cool the residential property market and credit expansion. The trade figures are consistent with a robust GDP growth rate of around 6.7%.
The corporate goods price index (CGPI), the key gauge of producer price inflation, remained unchanged in May at 2.1% year-on-year registering the fifth straight positive reading and its highest level since November 2014. Despite the pick-up in producer price inflation consumer inflation remains weak as companies are reluctant to pass on price increases to the end consumer. Bank of Japan Governor Haruhiko Kuroda acknowledged that: “The rate of change in the consumer price index recently has been around 0 percent and there is still a long way to go until the price stability target of 2% is achieved.”
The Bank of Japan Consumption Activity Index, a closely watched and reliable barometer of GDP growth, increased in April by 1.3% month-on-month more than recovering its 0.5% decline in March. The upbeat data signals a pick-up in household spending, which contributes over 70% to GDP growth. In further positive news, the Cabinet Office Economy Watchers survey improved for a second straight month prompting the Cabinet to upgrade its economic assessment. In addition, benefits from this year’s second supplementary budget should start to materialize from the second quarter onwards with public investment spending adding further momentum to the current economic expansion.
In a unanimous decision, the ECB left interest rates and its asset purchase programme unchanged. In acknowledgement of the improving growth outlook the ECB lowered its assessment of risks from “downward” to “broadly balanced”, while raising its forecast for GDP growth by 0.1 percentage points in each of the next three years to 1.9%, 1.8% and 1.7% in 2017, 2018 and 2019. However, the inflation outlook remains weak due to falling oil prices and weak wage growth prompting the ECB to lower its inflation forecasts for 2017, 2018 and 2019 from 1.7%, 1.6% and 1.7% to 1.5%, 1.3% and 1.6%. While broad-based economic activity has picked-up this has not yet translated into higher prices. ECB President Mario Draghi confirmed that a “very substantial degree of accommodation is needed.” Draghi stressed that interest rates will remain unchanged even after quantitative easing (QE) has ended and that QE will run until at least December.
President Emmanuel Macron’s year-old centrist party Republic on the Move won 32% of the vote in the first round of the parliamentary elections, around 12 points ahead of the Republicans while the far right and far left parties suffered large declines in support. The second round of parliamentary elections on Sunday 18th March are expected to provide Macron with the biggest parliamentary majority since 1993. A strong parliamentary mandate would provide Macron with the necessary support he needs to implement structural economic reforms including reforms of France’s extensive labour laws and its welfare system.
In a surprise election result the Conservative party lost its overall majority. Although the Conservative party have enough votes to form a minority government with the support of Northern Ireland’s Democratic Unionist Party (DUP), prime minister Theresa May had hoped to increase its majority in the House of Commons. The prime minister and the Conservatives have lost leadership and credibility, adding greater uncertainty to the upcoming Brexit negotiations. The pound fell about 1.7% versus the dollar last Friday on the day of the election results. In the words of George Osborne, former Chancellor of the Exchequer and Evening Standard Editor: “The Conservatives are in office but not in power.”
Industrial production contracted in April by 0.8% year-on-year a sharp reversal from the 1.4% growth in March. The key culprits were energy and non-durable goods production which fell by 4% and 3.1%. Manufacturing output remained unchanged in contrast to its 2.2% growth in March. Industrial activity is suffering a loss in momentum amid falling business confidence and weakening business investment and consumer spending. In the three months to end April total industrial output fell by 1.2% compared with the three months to end March. The National Institute of Economic and Social Research estimates GDP growth slipped to 0.2% in the three months to end May down from its 0.6% long-term trend rate with a mild rebound in the service sector being undermined by weakness in production.
FAR EAST AND EMERGING MARKETS
Investor inflows into emerging market assets continued unabated helped by an improving global economic outlook and growing stability in emerging economies. Inflows have been positive in 22 of the past 23 weeks undeterred by political uncertainty in isolated emerging markets such as Brazil and South Africa. Investors are especially drawn to higher yielding emerging market bonds. The iShares JP Morgan USD Emerging Markets exchange traded fund (ETF) drew $575 million in inflows last week the most in a year. The fund has grown to $3.8 billion the second largest among all US fixed-income ETFs. In the current absence of any major known event risks the appetite for emerging market assets should continue over coming months.
As expected the Reserve Bank of India (RBI) kept its benchmark repo rate unchanged at 6.25% although for the first time in several meetings the vote was not unanimous. The RBI cut the bank statutory liquidity ratio from 20.5% to 20.0% indicating a shift towards an easing bias. Consumer price inflation fell in April to 2.99% its lowest in more than five years prompting the RBI to cut its April-September and October-March inflation forecasts from a previous 4.5% and 5% to 2.0-3.5% and 3.5-4.5%. According to RBI deputy governor Viral Acharya: “Last month’s headline inflation print and revised growth estimates have certainly raised difficult policy questions.” The RBI has moved from keeping interest rates on hold to being more data dependent with a growing likelihood of rate cuts in the second half of the year. Acharya confirmed that: “We will watch carefully next few months the incoming data on inflation as well as the indicators of real economic activity.”
KEY MARKET INDICATORS (YEAR TO DATE %)
JSE All Share
JSE Fini 15
JSE Indi 25
JSE Resi 20
The rand has broken key resistance at R/$13.00 pointing to further gains towards R/$12.50 and thereafter R/$12.00.
The US dollar index has tried but failed to break through a major 30-year resistance line suggesting the three-year bull run in the dollar may be over.
Following the announcement of the snap election the British pound has broken above key resistance at £/$1.25 which has now become a key support level and should promote further near-term currency gains. Recent strong gains have diminished prospects for a £/$1.18-1.22 target.
The JPMorgan global bond index is testing the support line from the bull market stemming back to 1989, which if broken will project further sharp increases in bond yields.
The US 10-year Treasury yield has broken back below the key resistance level of 2.0% providing continued support for the multi-year bull trend in US bonds.
The benchmark R186 2025 SA Gilt yield is trading in a tight trading range of 8.5-9.0%. A break above 9.0% is required for the yield to move decisively higher towards the 10.5% target level.
Key US equity indices, including the S&P 500, Dow Jones Industrial, Dow Jones Transport, Nasdqaq and Russell 2000, have simultaneously set new record highs, confirming a bullish outlook for US equity markets.
The Brent oil price is trading in a range of $50-55, which if broken to the downside could lead to a sharp decline to the $40-45 range. Base metal prices are in a bull trend confirmed by copper’s increase above key resistance at $5500 per ton.
Gold has developed an inverse “head and shoulders” pattern, which indicates further upward momentum and a test of the $1400 target level.
A break above 54,200 on the JSE All Share index would project an upward move to 60,000 marking a new high for the JSE.
Following the spectacular run in the mining resources stocks in 2016 the sector has underperformed the broader market since the start of the year. Speculative support for commodity prices has evaporated amid concerns over China’s slowdown and a lack of delivery on US infrastructure spending. The iron price, which more than doubled in 2016 to $80 a ton rising to a peak of $89 in mid-February, has slumped back to the $55 region. With speculative excess removed from the metals market positive supply-demand fundamentals can once again reassert themselves. The outlook for global metals demand remains strongly positive.
China dominates global demand for metals. China’s economic data and policy initiatives signal continued upward momentum in commodity prices. China’s authorities will be keen to ensure robust economic growth ahead of the 19th Communist Party Congress at the end of the year. New initiatives from China including the Xiongan New Economic Area and the Silk Belt and Road will add significant infrastructure spending growth. Infrastructure spending increased by 23% year-on-year in the first four months of the year. Chinese President Xi jinping has pledged a further $124 billion to the Silk Road Project.
Demand for metals is gathering momentum in other economies besides China in South Asia and the Far East. Economic growth in the ASEAN-5 group of nations including Indonesia, Malaysia, Philippines, Thailand and Vietnam, is now almost equal to China’s growth. India’s GDP growth has exceeded China’s for several years. Modi’s government was elected on pledges of economic reform and infrastructure spending. In this year’s State Budget Modi announced record spending of $59 billion to build and modernise the country’s railways, airports and roads.
Earlier excitement over US infrastructure spending, which followed President Trump’s election, has all but evaporated. However, Trump has finally scored his first major legislative breakthrough with the planned repeal of Obamacare passing the House of Representatives. This will help the main pillars of Trump’s reflationary policy, comprising tax reform, de-regulation and infrastructure spending, to gain traction. Key US infrastructure spending programmes are likely to be passed in 2018 with the prospect of a significant impact on metals prices. Trump has pledged to invest $550 billion on infrastructure spending.
While flagging the diminishing effectiveness of monetary stimulus organisations such as the IMF and World Bank have long argued in favour of greater fiscal spending around the world, as a means of boosting global economic growth. According to Torsten Slok, chief international economist at Deutsche Bank: “Fiscal policy is coming back big-time relative to what we have seen in the past five or six years.”
Citi global head of commodities research, Edward Morse, reported that the copper price could rise from its current level of $5700 per ton to $7000 by year-end. The price surge would be propelled in the short-term by continued shutdowns at key mines in Chile and Indonesia and in the long-run by the structural shortfall, potentially pushing the copper price above $8000 by the end of the decade. The refined copper market is likely to go into deficit in 2017 for the first time in six years. According to Morse the bullish copper price outlook is “tied to longer-term supply dynamics, which include not just issues related to mobilisation of capital but also a lack of a pipeline of discoveries of richer ores.”
The mining industry is in the best health it has been in for years. According to the PwC Mine 2017 report, the world’s Top 40 miners have recovered from the mining slump in 2015 with bolstered balance sheets and a return to profitability. Debt repayments have increased, gearing ratios have declined and the aggregate Top-40 net profit rebounded to $20 billion in 2016 compared with a loss of $28 billion in 2015.
However, increased metals supply is still a long way off. Total capital expenditure fell in 2016 by 41% to a record low $50 billion. Half of the amount was allocated to sustaining existing activities with very little allocated to future growth. For the fourth year running the mining industry cut spending on exploration to just $7.2 billion in 2016 a third of the record $21.5 billion allocated in 2012.
The mining industry faces long development cycles. Weak new mining investment combined with rising global demand for metals, provide the foundation for a favourable sector outlook. While the mining resources sector is unlikely to repeat its massive gains enjoyed in 2016, the recent lull historically represents the best entry point in the cycle.
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