Inside Insights 7 December 2009

Investment Intelligence|Inside Insights

A weekly, in-depth yet concise report on the most important recent market movements and economic developments.

Added on 10 December 2009 @ 10:39 AM

PMI rises, but credit contracts

Local credit extension to the private sector (PSCE) contracted for the first time since August 1966, according to data released by the Reserve Bank. PSCE fell 0.4% year-on-year in October, from 1.49% growth in September. Broad money supply (M3) growth also slowed down sharply, to 2.67%. With businesses and households not borrowing (and banks still reluctant to lend) the economic recovery is likely to be slow. It is likely to be a bleak Christmas for retailers, but it also suggests that interest rates will remain low for and extended period of time, given that historically interest rates only rise a year after credit extension starts accelerating.

On a more positive note, the local Kagiso purchasing managers' index (PMI) finally moved above the 50 points neutral level - after contracting for 18 months - climbing to 50.3 in November. The PMI's of other countries have been above 50 for some time now, illustrating the lag between global economic developments, and South Africa's own cycle. The manufacturing sector's contribution to GDP has declined, falling to 13.6% in the third quarter, but it remains South Africa's second-largest economic sector. The New Sales Orders component of the local PMI rose strongly above 50, while expected Future Business Conditions is at 65, indicating that recovery will continue in the sector.Global manufacturing PMI's remained above 50 in November, but most lost some momentum.

The JPMorgan Global PMI fell to 53.6 from 54.4 in November, possibly reflecting the fading impact of government support. The Eurozone PMI rose to 51.2. The US manufacturing PMI (ISM) fell back to 53.6 in November from 55.7 in October. However, China's PMI remained steady at 55.2, suggesting no loss of growth momentum from the world's third largest economy yet. Unfortunately, the US services ISM fell back to below 50 points, indicating that the services sector - which makes up a substantial part of US GDP - is contracting again. This is certainly not a good sign, and the market reacted accordingly. It simply emphasises that the recovery in the world's largest economy is fragile, with some fearing that it is unsustainable too, especially with government stimulus fading.

Jobs data lifts markets after choppy week

Dubai World's debt woes turned out to have a limited impact on the global stock markets last week, especially after the central bank of the United Arab Emirates pledged to support local and foreign banks that had exposure to Dubai World's $26bn debt. What the Dubai World episode illustrated clearly is that the risk of a major company or even country (with many current worries centred around Greece) defaulting on its obligations remains real, and if that were to happen, it would send more shockwaves through the global financial system.

Another key event last week was the outcome of the European Central Bank's (ECB) interest rate meeting. The ECB kept its benchmark refi interest rate at 1%, and is expected to keep it at this rate for an extended period, but they formally began the process of outlining an exit strategy from the stimulus measures and liquidity facilities used to support European banks and drive down long-term interest rate. On the other hand, the world's other major central bank, the US Federal Reserve, remains cautious, as a number of statements released this week show. The Fed highlighted that the US economy recovery outlook is uncertain and that pulling stimulus efforts to soon could have devastating effects. The ECB is traditionally more concerned with inflation ( or "hawkish") than the Fed.

If ECB interest rates rise before US rates rise, the euro could strengthen further against the dollar. As it is, the dollar fell below $1.50/euro this week on lower demand for the safe-haven US dollar. The weaker US dollar, coupled with Dubai-induced nerves boosted the spot price of gold to a new record of $1220/oz, although bullion was unable to hold on to these gains. However, Friday's US jobs data, which showed that unemployment had surprisingly moderated to 10% from 10.2%, lifted the dollar and US stock markets.

The Week Ahead

It will be a busy week in terms of local data releases. The Reserve Bank releases November foreign and gold reserves data, which has been very closely scrutinized in recent times for signs that the Reserve Bank has been building reserves with the aim of weakening the rand. The figures are likely to show a substantial jump R39,8bn in October due to the increase in the gold price.

On Wednesday, StatsSA releases October manufacturing production and retail sales data. Retail sales growth improved to -5.1% year-on-year in September, from a revised -6.5% year-on-year in August. However, retail sales have been negative on a year-on-year basis every month since February, and was very weak even before that. Manufacturing production has been negative on a year-on-year basis every month since October last year, but the recent trend has certainly been encouraging. Indeed manufacturing grew 7.6% quarter-on-quarter (real and annualised) in the third quarter from -11.2% in the second quarter, according to recent GDP data.

StatsSA also releases mining production data for October on Thursday. Mining production slumped by 15.9% year-on-year in September, largely due to a statistical base effect (better production in September 2008, compared to other months). October's figure should reflect an improvement, also due to the steady rise in the gold price.

The Reserve Bank releases its Quarterly Bulletin on Thursday, which contains a number of important data pieces. The Bulletin is expected to show that consumer spending - the economy's growth engine - contracted in the third quarter for the fifth consecutive quarter. The Bulletin also contains balance of payments data, which is expected to show that the current account deficit had narrowed slightly to 3.1% of GDP from 3.2% in the second quarter.

Fairbairn Capital | Old Mutual

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