Market Commentary




1Q21 Market Commentary

By Mila Mafanya – Portfolio Manager

COVID-19 developments improve economic outlook

Global equity markets entered 2021 in the same vein they exited the last quarter of 2020. The conclusion of the orderly exit of the United Kingdom (‘UK’) from the European Union (‘EU’) and the highly contested United States (‘US’) elections in the final quarter of 2020 meant that the market was rid of the two most pertinent political overhangs through 2020. The removal of these tail risks allowed markets to turn to the improving outlook of the global economy as lockdown restrictions continued to be eased globally. The news of regulatory approvals on COVID-19 vaccines further spurred market optimism on the global economic recovery with vaccine rollouts in developed economies gathering momentum into the end of 2020. These factors inspired a slew of economic growth upgrades at the beginning of 2021 from governments, development finance institutions and central banks.

Reflation Trade or Taper Tantrum

The major talking point in the first quarter of 2021 was undoubtedly the sell-off in global bond yields, with intense focus particularly on the sell-off of the US 10-year bond yield.  The US 10-year bond yields sold off every month in the quarter with the yield spiking up a cumulative 83 basis points (‘bps’) by the end of March.

The market was in engaged in a fierce debate about the source of the sell-off in the US 10-year yield with the optimists citing the reflation trade, whilst the pessimists cautioned against a taper tantrum event. The reflation trade is deemed a positive outcome for global markets as the argument suggests that a sell-off in the US 10-year bond yield is more a reflection of the improving economic outlook when inflation expectations rise, which the US Federal Reserve (‘US Fed’) uses to increase short-term interest rates.  The taper tantrum on the other hand is deemed a less favorable outcome for global markets as a sell-off in the US 10-year bond yield is attributed more to the uncertainty over when the US Federal Reserve (‘US Fed’) will reduce the asset purchases of their quantitative easing program, which lifts expectations of the long-term interest rates. The Chair of the US Fed, Jerome Powell, eventually settled the debate in March when he confirmed that the US Fed was willing to keep interest rates low and allow inflation to overshoot the 2% inflation target and delay any tapering of the asset purchase program into 2022.

The performance of global equity markets in the quarter suggests that the consensus view is that reflation trade has been the main driver of markets thus far in 2021. Global equity markets have consistently been grinding higher in the quarter with the exception of the last week of February, when global equity markets pulled back markedly. The reflation trade has also driven a major shift in the investment regime of markets with value outperforming growth over the past 6 months following significant underperformance of value over the preceding 9 months. Cyclicals which were adversely affected during the market pullback in March 2020 continued their recovery and outperformed defensives. All three of these trends send a strong signal of a more risk-seeking appetite from investors.

South African (‘SA’) equities charge ahead

SA equity markets delivered robust US dollar returns of 12.3% in the quarter which were the fourth best returns in emerging markets and comfortably exceeded the best performing developed markets.  

In local terms SA equities closely matched US dollar returns, generating returns of 21.6% in rands, given that the rand only weakened 0.5% in the quarter. The rand denominated asset class performance in the quarter reflected the risk-on environment with equities (12.6%) outperforming property (6.4%) and fixed income (Cash 0.9% and Bonds -1.7%).

The sector performance of SA equities in the quarter also demonstrated the risk-seeking nature of the market. Resources, as a more cyclical sector, delivered returns of 18.7% buoyed by a supportive commodity price environment which boosted specialty chemicals (48.8%), forestry & paper (40.1%) and platinum group metals (‘PGMs’) (x%). Small caps, which are seen as a risker segment of the market, generated 21.2% returns driven by the good performance of beaten up names which were impacted by lockdown restrictions in 2020.  These include, amongst others, Steinhoff (‘SHF’), Motus Holdings (‘MTH’), City Lodge (‘CLH’) and Tsogo Sun Hotels (‘TGO’). Industrials were middle of the pack from a sector perspective returning 13.0% led by some laggard names from 2020. Financials were the clear detractors with a a paltry return of 3.8% following a strong rally in the fourth quarter of 2020 on the back of strong rand.

At a stock level the outperformers in the quarter were mostly oversold names from 2020 with the underperformers largely being financial shares which had a strong fourth quarter of 2020 and gold shares which peaked in July 2020.

Sasol (‘SOL’), continued its share price rally which took hold for most of the last three quarters of 2020.  The share price rallied by 58.1% in this quarter with the rise in US dollar oil price and better than expected execution of their restructure plan formulated in 2020.

The MTN Group (‘MTN’) share price rose 44.3% in the quarter following a dip in December 2020 on more regulatory issues in their largest market Nigeria. In the quarter MTN released a solid set of operational numbers and unveiled a new strategic ambition that the market sees as a material value unlock opportunity.

Telkom (‘TKG’) has staged a commendable recovery off its lows at the height of COVID-19 in March 2020. The market was concerned at the time about the possibility of the need for an equity rights issue to fund the long anticipated spectrum auction given their stretched balance sheet. In November 2020 TKG delivered a better than expected result which showed a good level of cash generation which spurred a continued rally in the share price of 37.9% into this quarter.

The PGM sub-sector increased 29.4% on the back of continued expectations of deficits in rhodium and palladium markets, which were further exacerbated by the Russian PGM miner Norilsk, which experienced water flooding which affected two of its main mines. Royal Bafokeng Platinum (‘RBP’), Anglo American Platinum (‘AMS’), Impala Platinum (‘IMP’) delivered returns of 77.0%, 49.1% and 35.6% respectively.

Paper producer Sappi (‘SAP’) continued its strong resurgence from the fourth quarter of 2020 with the share price increasing 40.1% this quarter. The share has reacted to the significant recovery in dissolving wood pulp prices due to supply disruptions in the market.

Insurer Discovery (‘DSY’) reversed the rally in December 2020 with the share price falling 13.7% as the market grew increasingly wary that  excess deaths from the second wave of COVID-19 would leave the insurers’ under-provided in terms of the pandemic reserves raised in 2020.

The gold sub-sector was amongst the market underperformers, only managing to return negative 0.9% in the quarter.  The gold shares are following the US dollar gold price which continues to be under pressure with the risk-on sentiment in markets and rising US 10-year bond yields witnessed throughout the quarter.