Disclaimer –The views and observations in this report represent the analyst’s own and not the Nedbank Group house view. NedbankGroup house view forecasts are available in the appendix.
Lockdown measures ease, stimulus begins to flow and risk appetite improves
IMF’s WORLD ECONOMIC OUTLOOK
In its latest update, the IMF’s World Economic Outlook report painted a bleak picture of the world economy, projecting a 3% full-year contraction in global growth. The IMF estimates that the global economy will be USD9tn smaller as a result of the pandemic. It also expects a sharp rebound in 2021, with growth of 5.8% projected, if the COVID-19 pandemic fades in 2H20. The SA economy will likely experience a significant contraction as a result of the lockdown-induced decline in production in 2020. In March, before SA’s lockdown was announced, we put the country’s growth forecast for 2020 at -1.8% y/y. This considered mainly the negative trade shock but did not include a full-scale lockdown of the economy.
Now, with the country heading for five weeks of total lockdown and then a staggered, risk-adjusted opening of the economy, we expect growth to register -7.0% y/y in 2020. The bias to this estimate is to the downside.
OUTLOOK ON INFLATION
Our outlook on inflation remains dovish – while we forecast a 3.9% average CPI rate for 2020, there is significant downside risk as a result of the current extended lockdown and the global commodity price decline, which are both uncertain influences on prices – we do not know how long these effects will last and, so, this makes forecasting challenging. Nonetheless, the IMF estimates SA CPI at 2.4% in 2020 and 3.2% in 2021, while the SARB’s estimates are 3.6% and 4.5%, respectively. The wide gap signals significant uncertainty amid the current crisis. In line with our expectations and in a split decision, the SARB MPC decided to reduce the repo rate by a further 50bps, to 3.75%, with prime now at 7.25%.
Three MPC members voted in favour of the 50bps cut, while two members voted for a 25bps cut. This could signal a pause in the sharp interest-rate easing cycle.
Our view on interest rates remains unchanged – we believe the SARB could reduce policy rates by a further 25-50bps before year-end.
Like the SARB, we believe the risks to both inflation and growth are to the downside. The four-quarter-ahead real policy rate is now negative, at -65bps, which means the SARB is fast depleting its interest-rate armoury, particularly as it continues to forecast an inflation rate that returns to the midpoint. The SAGB yield curve bull flattened in the past month, with some points rallying by more than 100bps as offshore demand for SA bonds picked up following the finalization of the WGBI rebalance.
Buying was concentrated in the long-end portion of the curve, while the front-end yields were impacted by a less-dovish SARB muting future rate cut expectations. Global risk appetite improved, which helped spur a bull market locally. In the past month we have seen the 10y bond yield fall below our fair value level of 9.0%, while the R2048 has fallen closer to our 10.3% target. We will likely relook at our valuation in coming weeks as US inflation has decoupled from long-run trends and this is expected to persist over the medium term. In early April, we indicated our belief that the rand had found a broad top and that many of the negative events that rocked the global and domestic economies – including WGBI exclusion – were largely priced into the currency.
Since then, WGBI exclusion has passed without much fanfare, and the rand has broadly traded in the 18.00-19.00 range. Although volatility will likely remain high, we continue to hold the view that the rand has reached a broad top, and maintain a target of 15.00 against the USD. We think of this as a six- to nine-month view.
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