Economic and Market Overview: Quarter 4, 2020
For the period ended December 2020
The following market review looks at the performance over the past quarter of local and global asset classes and currencies and puts this into perspective relative to longer-term performance. The purpose of this review is to provide a context in which the performance of the investment solutions in which you are invested can be assessed.
Note: All quarterly data is quoted in US dollar terms unless otherwise stated.
The final quarter of 2020 was a remarkable period for investors, capping off the most extraordinary of years. Most asset classes posted gains, with the riskiest areas leading the way. Coming into the quarter, markets were a bit jittery on concerns about the US election, the lack of agreement on the second US stimulus package and the rapid spread of Covid-19 across Europe and the US. However, investors responded well to Biden’s victory and the passing of the US elections and cheered even louder as news filtered through about successful vaccine trials from Pfizer, Moderna and AstraZeneca. At last we could clearly visualise what the path back to normality looked like, even if the full vaccine rollout will take many months.
Economic data in the US and Europe generally came through on the weak side as the restrictions required to combat the second wave of Covid-19 inevitably constrained activity through the quarter. Even so, financial markets looked through the dip towards the potential 2021 post-Covid-19 recovery, with cyclical stocks and riskier debt leading performance across their respected asset classes.
Brexit negotiations more or less went to the wire, but on Christmas Eve the two sides announced that they had finally reached an agreement on their future relationship, which headed off the risk of a disruptive no deal end to the transition period on the last day of 2020.
Investors also took note of another agreement struck just before Christmas, as the US Congress finally approved the US$900 billion economic relief package designed to help small businesses and low-income families bridge the gap through to when the economy can return to a more normal footing.
With cash and government bonds offering so little these days, the search for yield drove investors towards equities, which helped the MSCI AC World Index rise an astonishing +14.7% when measured in US dollars. It was the riskier and more economically sensitive markets that took the lead, with Emerging Markets (+19.7%) and Asia ex Japan (+18.6%) the best performers, while the US (+13.0%) slightly lagged. The same was true at the sector level, with Energy (+24.3%) and Financials (24.1%) recovering strongly, while more defensive areas, such as Healthcare (+7.5%) and Consumer Staples (+7.5%), had a quieter time. In terms of style, Value (+16.8%) turned the tables on Growth (+31.1%), while Smaller Companies (+23.8%) outpaced Larger Companies (+14.7%).
Higher risk appetite and the search for yield was also apparent in fixed income. While all sectors made positive gains, the best returns came in lower quality credit and emerging market bonds. Over the quarter, the JP Morgan Global Government Bond Index returned +0.1%, while a sharp tightening of credit spreads helped the ICE Merrill Lynch Global Corporate Investment Grade Index advance by +2.7%, the ICE Merrill Lynch Global High Yield Index by +6.6%, and the JP Morgan Emerging Market Bond Index by +5.5% (all hedged to dollars).
Hopes for economic recovery also provided a shot in the arm for commodities, as the Bloomberg Commodities Index rose +10.2%, led by Agriculture (+21.4%) and Crude Oil (+18.2%), although safe haven Gold (-0.4%) declined a little.
The most notable feature in the foreign exchange markets was the weakness of the US dollar. This was in part a reaction to the extra fiscal spending expected to result from the Biden / Democratic election victory, but it also reflected some selling of the US dollar in favour of riskier alternatives, such as emerging market currencies. While the dollar slipped against advanced economy currencies, such as the euro (-4.1%) and pound (-5.5%), its underperformance against emerging market currencies was even more pronounced as it lost -12.3% versus the South African rand, -9.9% against the Mexican peso and -7.3% relative to the Brazilian real.
President Ramaphosa delivered the ratified Economic Reconstruction and Recovery Plan at the start of the quarter, extending the Covid-19 grant by another three months and signalling priorities for the Medium-Term Budget Policy Statement (MTBPS). Meanwhile, the MTBPS outlined a five-year consolidation plan which sees debt stabilising at 95% relative to the 87% presented at the Special Adjustment Budget in June. The plan leaned heavily on containment of expenditure and a moratorium on public sector wages. Although the near-term numbers were in line with guidance and expectations, the execution risk around public sector wage negotiations and further financial support for SAA (albeit fiscally neutral) detracted from the credibility of the proposals.
The market’s response to the MTBPS delivered in October was lukewarm, while credit ratings agencies highlighted execution risk, noting that “negotiations with social partners will be difficult”. Arguably the fiscal risks were understood and priced to a large extent.
November saw South Africa open its borders as further Covd-19 restrictions were lifted, bringing much needed relief to the hospitality and tourism industry. The reopening of the economy translated into improved activity and sentiment (albeit from a low base). The South African Reserve Bank kept interest rates on hold with a vote of 3:2. Credit ratings agencies Moody’s and Fitch downgraded South Africa’s credit rating further down the sub investment grade scale, while also maintaining a negative outlook. S&P Global kept their rating and outlook the same. Despite this outcome, the All Bond Index remained well supported and returned +3.3% in November.
December started on a positive note. Third quarter GDP growth figures were up +13.5% (quarter-on-quarter, not annualised), this surprised to the upside as activity rebounded in line with the reopening of the economy and the progressive easing of lockdowns. Base effects played a meaningful role and significant exports provided a strong tailwind for the rebound which drove the current account to record the highest quarterly surplus in decades. With that said, the fourth quarter is unlikely to maintain this momentum, as key trading partners introduced greater lockdown restrictions and South Africa introduced adjusted level three restrictions.
In terms of overall market performance, local bonds strengthened as third quarter GDP growth numbers showed more resilience than anticipated, further buoyed by global risk on sentiment and a strong show from the local currency. This brings the fourth quarter figures to +6.7%, with 12-month returns at +8.7%.
Local equity markets ended the quarter on a strong note, lifted by improved sentiment for risk assets as vaccines became available and a weaker US dollar provided a tailwind for emerging market currencies. This supported cyclical sectors, domestically exposed companies and those hardest hit by lockdown measures. Despite the chaos and volatility, equities ended the year stronger than they started. The FTSE/JSE All Share gained +9,8% over the last quarter, helping the asset class end the year up +7.0%.
On a sector basis, technology stocks and resources set the tone for the year, while the fourth quarter was most beneficial for cyclicals. Noteworthy returns were recorded by the financial sector, which gained +20.1% in the quarter. Banks gained as activity picked up and on the back of an upgrade in credit ratings for the major banks from credit ratings agency. The property sector continued to claw back performance in December, gaining +13.7% and the fourth quarter records property as one of the standout performers, delivering +22.2%. However, the embattled sector still suffered over 2020, ending the year down -34.5%.
The tables below provide a review of key local and international investment indicators for the past quarter, as well as over longer periods.