If you would like to hear our thoughts on the current issues facing South Africa, amidst the Covid-19 pandemic, please click below to listen to a web-based meeting we hosted yesterday (14 April 2020). A summary of the main points is also listed below.
Douw is responsible for providing our investment team with relevant, accurate and up to date information on Covid-19 in South Africa. His findings are based on facts distributed by health authorities as well as regular conversations with a professor at the UCT School of Public Health and Family Medicine.
- The lockdown is intended to slow down the spread of infections in order to buy time to be better able to deal with the large numbers of infections that are expected in July/August after restrictions are relaxed.
- Peak ICU requirement could be 15,000 beds. The current number of beds available is 4,900.
- At most, 3,200 ventilators are currently available. The aim is to manufacture another 10,000 by the end of June.
- The apparent low infection rate in SA could be due to:
- The early and strict imposition of the lockdown.
- Prevention of the spread of infection from the initial high risk group to the general population.
- Use of good existing HIV and Tuberculosis (TB) follow-up teams to isolate contacts with known cases.
- A possible lack of widespread testing could be resulting in an incomplete picture. A total of approximately 80,000 tests have been performed to date, most in the private sector (the ambition is to perform 15,000 to 20,000 tests per day).
- There’s no scientific evidence to support the theory about the TB vaccine improving immunity against Covid-19. This is still being investigated.
- Despite lower than expected numbers, the trends in South Africa are consistent with global examples. The community infection rate will accelerate once lockdown is relaxed, so there is no room for complacency.
- The current lockdown might be extended, depending on trends observed this week. When the lockdown is relaxed, it will be phased in.
- The only real solution is a cure or vaccine, which is expected to take another 12 to 18 months. So there are likely to be further lockdowns and/or restrictions on movement during this time.
The impact of junk status
- The downgrade to junk status was inevitable. The decision, the framework and the data that informed the decision was widely known and anticipated. Therefore, there is no real impact from the downgrade (as such).
- One can manage around (or for) anticipated events. It’s the things that can’t be anticipated that can really derail you – such as Covid-19.
- South Africa has not saved anything for a rainy day. We have no reserves for coping with such a serious crisis. Every week in lockdown equates to ~1.5% of lost output/income generated.
- There are political constraints on reform, which is why they have not been implemented yet. If they were easy to do, they would’ve been done by now.
- To reform the economy means taking on the special interests that have so far been effective at preventing reform.
- To regain investment grade status will require nominal GDP growth in excess of the interest rates at which we borrow (interest rates at the long end are higher than 10%); spending growth well below the rate of nominal GDP growth; revenue growth that does not put the economic growth rate at risk (we need a decade plus of fiscal consolidation and faster growth).
We were asked during the meeting what our thoughts are on the 100 basis point rate cut which was announced yesterday. Below are some of Madalet’s thoughts on comments made during the South African Reserve Bank (SARB) briefing, which she attended yesterday.
- The virus and the policy response to it has resulted in both a supply and demand shock to the economy.
- The SARB is trying to mitigate the severity of the demand shock with a number of interventions including additional liquidity provision (both to banks and government debt market), relaxation of capital buffers in the banking system and interest rate cuts.
- The SARB expects that the real interest rate will still be positive after the cut.
- Structural reforms to grow the economy, encourage investment and create jobs are more urgent than ever (and remain the only source of improved long-term growth prospects).
A history of crises
- After previous crises the market has recovered every time. Investing in the three months after the initial sell-off has yielded exceptional results over the subsequent 12, 24 and 36 months.
- The FTSE/JSE All Share Index initially fell 35% from its peak in January. It has subsequently bounced 26%, leaving it down by roughly 18%. As seen in the 15 bear markets over the past 50 years, rallies rarely happen in a straight line. In fact, only one did not see the initial major low being tested within three months. So, we see further opportunities in the coming months to buy high quality businesses at bargain prices. The bounce may reflect a little too much optimism.
- Investing in gold during a panic sell-off is almost guaranteed to underperform over the subsequent 12, 24 and 36 months.
For more of a history on previous crises and what we’ve learnt from them, please see two recent articles written by Ricco:
Bank valuations – is now the time?
- The market prices reflect fears, not reality.
- In the global financial sector, the sell-off is due to uncertainty about how bad the economic contraction (and the resulting bad debts) will be. However, the Fed, its fellow G4 central banks and the government have learnt from the global financial crisis and have been quick to respond to the crisis with a nuclear arsenal with the commitment to keep pushing more liquidity and aid where necessary.
- The financial sector is very geared to the downside but also to the upside. It is better placed than a lot of other sectors because of diversification and strong balance sheets. Banks will be a vital cog in the machine to help distressed sectors and companies survive and then participate in the post lock down growth and create jobs again.
- Banks have cleaner lending books and stronger balance sheets than ever.
- It is rare that one can invest in companies of such quality at these valuations.
If you have any questions, please contact me at firstname.lastname@example.org
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