(You can watch a recording of David providing an overview of global and local financial markets during the second quarter of this year here.)
The formation of the GNU is a pivotal moment in South Africa’s democracy. History – particularly in Africa – has shown that the ‘revolutionary’ party that takes power after colonialism or a military coup is typically unwilling to give up that power to rival parties or to form coalitions. Unlike our continental peers, however, South Africa has continued to have free and fair elections – the foundation of democracy.
The fact that the ANC has relinquished a portion of its power via a GNU is testament to both the strength of our democracy and the maturity of the party. We should be thankful that this has taken place without populist action or violence (and also that the tail risk of an ANC coalition with the EFF or MK has been avoided).
MARKET-FRIENDLY POLICIES
The new, more mature, more centrist ANC appears to have realised that the best way to achieve its aims and fulfil its promises is via economic growth, which requires market-friendly policies that encourage business and industry, investment and employment. President Cyril Ramaphosa said as much in his first post-election Opening of Parliament address last week when he vowed that ‘sustainable, rapid economic growth’ would be central to the GNU’s agenda over the next five years, pledging to ‘turn our country into a construction site’.
Unfortunately, the years before Ramaphosa took over the reins as president were marked by endemic corruption at all levels of government. Before he could get South Africa and its government moving in the right direction, our president’s main challenges were to crack down on corruption and crime, and to implement structural reforms to halt the country’s downward economic trajectory.
While progress has been painfully slow, we are seeing signs of a turnaround, largely as a result of successes within Operation Vulindlela, a joint initiative of the Presidency and National Treasury to support economic recovery. Our hope is that now that the decline has been stemmed, South Africa’s economic growth path will start to look more promising.
INCREASED COMPETITION
A further reason for optimism is the expectation of increased competition between government ministers resulting from the formation of the GNU. Ministers are likely to be driven to achieve more to demonstrate the value they can add – and this doesn’t apply only to the new parties in government such as the DA. In addition to healthy internal competition, we also expect an increased level of rivalry between political parties to motivate those in the GNU to deliver improved outcomes for the country in order to secure more votes in future.
The DA has provided a clear message that it has zero tolerance for corruption. In our view, it is vital that all GNU members are committed to remaining ‘squeaky clean’. This will not only help to rebuild faith in government but may also drive a change in the web of patronage networks that has sadly become ingrained in our government’s ‘corporate culture’. If levels of corruption do decline, it will ultimately mean that South Africans should receive greater levels of service delivery for the same amount of tax paid.
We are of course aware that the GNU won’t turn South Africa’s fortunes around with the mere stroke of a wand, particularly given some fundamental policy disagreements between parties. We know there will be hiccups along the way. Our keen hope, however, is that all the parties within the GNU will continue to act in good faith and remain committed to doing what is best for South Africa rather than their individual parties.
IMPACT ON MARKETS
What does all this mean for financial markets? In simple terms, our new GNU is positive for markets in two ways.
First, without getting too technical, political stability means a lower risk premium on South African assets. Lower government bond yields impact retail interest rates, which is good news for consumers’ discretionary spend and therefore the economy. Lower interest rates are also positive for the government budget, which is more likely to be balanced in future.
Looking at local equities, companies’ expected future cash flows are now expected to be discounted at a lower rate, making them worth more today. We’ve factored lower bond yields into our values for local companies for some time now, so while a lower risk premium causes the market to rise, this doesn’t change our fair values for South African stocks. In broad terms, all else being equal, a one percentage point reduction in the discount rate lifts the present value of a local stock by around 12%.
The second beneficial impact of the GNU on asset prices comes via a higher anticipated growth rate for South Africa. Progress is unlikely to be smooth, but the combination of better government, more sensible policy, and increased electricity and port availability is certainly positive. Most importantly, it should lift business confidence. Again, all else being equal, if you increase the expected sustainable growth rate for a company by one percentage point, that also lifts the value by around 12%.
The combined impact of the GNU on South African assets is therefore a potential 24% increase in value. Although we had already baked the first 12% jump into our thinking, if things work out as we hope, we may yet see an additional 12% climb in value. Needless to say, this scenario will take time to play out as investors need evidence of action to back up the political rhetoric. Crucially, the GNU must be seen to be working well without too much infighting. In addition, we need the drastic reduction in loadshedding of late to be maintained.
A LAST WORD
In a nutshell, the GNU is as market-friendly as we could reasonably have hoped for. South Africa now has the tremendous opportunity to see the economic flywheel work positively in the following way: lower risk means lower interest rates, which drive a stronger rand, helping inflation, which boosts spending, confidence and growth, which in turn drives rates down and allows the cycle to continue.
While none of this is guaranteed and nothing will happen overnight, in our view, our newly formed GNU gives South Africans more reason for optimism than we’ve had for a number of years.
