22 Jul Economic overview: June 2014
Global markets remain the main catalyst for domestic equity performance, supported by the weak Rand. Interestingly the Rand USD exchange rate was range bound throughout the last quarter, trading at between R10.29 and R10.83 and ending the quarter at R10.64 (1% weaker than the starting exchange rate of R10.53).
Spectacular events occurred in South Africa during the quarter: the elections; a sovereign credit downgrade by Standard & Poor’s; and the longest mining strike in the country’s history. The mining strike was the only one of these events that affected the underlying share performance.
The near zero US and European interest rates driving the carry trade are some of the main causes of risk in assets. Investor borrowings, or margin debt, on the New York Stock Exchange is at an all-time high. Investor complacency, measured by the US VIX Index (volatility index), is at pre-crash levels. Have a look at the chart below, the blue line represents the margin debt and the green line investor complacency.
If we evaluate the S&P 500 Index fundamentals, the valuations are not too stretched. The historical index PE is at 18.3 (a bit above the long term mean of 16.3 times earnings) and the one year rolled forward PE is at 15.7. The historical price to book is at 2.7 (below the long term average of 2.8) and the one year rolled forward price to book is at 2.5. Index ROE is at 15% (which is the long term mean).
On the domestic equity side, the FTSE/JSE SWIX Index is a bit rich on both historical (18.7) and one year rolled forward PE’s (14.4). Fair long term PE should be between 11.75 and 12 times earnings. Index ROE is way below the mean of 18% at 12.5%, allowing for some normalisation. We do, however, see risk in the domestic market (mainly driven by expectations of global interest rate normalization and rich domestic valuations).
Real GDP expectations (using IMF forecasts) are set out below: