20 April 2023
Shares and investment
Market update: The winners and the woes
It was an eventful first quarter for the JSE. The 'January Effect' saw the stock exchange starting 2023 on a positive note, up 8.9% (6.4% in US dollar terms), but as market watchers know the January Effect is a global market anomaly caused by (among various theories) the timing of the US tax season which sees Americans trying to offset capital gains, or due to heightened trading and buying activity due to annual portfolio reassessments.
Either way, January seldom lasts. This was particularly true of January 2023 which lost steam in February as it became clear that inflation remained sticky (prompting additional interest rate increases) and US corporate earnings were lacklustre. March began to level off, and then the Silicon Valley Bank (SVB) failure struck, causing a substantial risk selloff.
What are the implications for this start to the year? And how are JSE-listed companies holding up as a result?
Company earnings and valuations
Chantal Marx, Head of Investment Research and Content, explains that how the remainder of 2023 unfolds will depend on the inflation trajectory in the US, how the US Federal Reserve responds to inflation, and whether the US actually ends up in a recession. In addition, all eyes will also be on corporate earnings evaluations.
'In the US, valuations have come down, but they are by no means a dripping roast that is there for the taking - outside of the financial sector at this point (mid-March) following the SVB collapse. The market doesn't look super cheap,' she explains. 'One should expect average returns from the market with a bit of a lift in the second half as investors get to grip with the Fed's next steps and as we get better clarity about US earnings into 2024.'
Turning to South Africa, Marx notes that local valuations don't look expensive at all, particularly in the SA Inc stocks which are clearly reflecting challenging local conditions. 'We are finally starting to see the real impact of load shedding, particularly the heightened stages of load shedding at the end of last year and the beginning of this year,' she explains.
As the first quarter ended, several South African companies began to put out voluntary updates outlining the effects of load shedding on their businesses. MultiChoice, the African satellite television service, was among them, telling shareholders in mid-March that second-half revenue growth (the company has a March year-end) in South Africa would be below expectations as 'the operating environment in South Africa has deteriorated beyond expectations over the past few months'.
TFG, the owner of clothing retailer Foschini, noted load shedding had reduced its turnover by R1 billion over the 11 months to end-February 2023. Unbudgeted direct costs of around R65 million had been racked up to cover diesel, additional security and maintenance costs. Earlier in March, retailer Woolworths noted in its half-year interim results to 26 December 2022 that the group had incurred costs of R90 million over the period because of the energy crisis. 'We've also had several other industry giants, in various sectors, saying that loadshedding is a massive risk and a major concern for South Africans and South African companies,' says Marx.
'Woolworths, for instance, has seen an impact on its revenue, because when its stores - those without backup power - are closed during lockdown, they are not selling goods. It also has an impact on gross margins. For Woolworths Food, wastage has increased because they're very strict on the cold chain and they cannot sell something where the cold chain has been disrupted. Then they are running generators in many of their stores, so they must spend more money on fuel which impacts their operating expenses and, by extension, their operating margin.'
Marx adds that, depending on how a company decides to deal with the issue, this can also have an impact on finance costs. 'If a company decides to invest a lot of capital in getting off the grid, or to buy additional generators, they will see a debt increase and, as a result, their finance costs increase. So, the impact on earnings is widespread. It's not just one thing that impacts a company's profitability from a loadshedding perspective - a fact that has become a lot more apparent and a lot more severe in the last six months.'
There is a silver lining
While it is easy to get sucked into the doom and gloom of this scenario, Marx stresses that 'when it comes to load shedding it is important to maintain perspective. Yes, it is biting hard at the moment, but most companies are actually planning for the future and are either investing in backup power right now or starting to think about what to do in the future.'
She advises investors to remember that markets also look forward: 'Always remember that markets are forward-looking, they have already discounted the past, the present and to some extent the future. So, you need to consider the long-term outlook when you are making investment decisions.'
Marx notes that with additional generating capacity coming online from the private sector in the next six to 18 months, there is a high probability that the load shedding situation will be much less severe beyond 2024, which should pique the interest of long-term investors.
Turning back to the local bourse, where valuations on the JSE don't currently look expensive, investors with a long-term view should consider the effects of additional generating capacity coming online in the next two years, and the gradual tapering off of severe load shedding. 'When you look at it this way, then many shares actually look extremely inexpensive at the moment, so there could be an opportunity locally,' she says, adding that it will be opportune to take these opportunities in the next three to six months while market sentiment remains depressed.
Drawing on the words of Warren Buffett, who once advised investors to be 'fearful when others are greedy, and greedy when others are fearful', Marx notes that right now offers a good entry point for investors with a five- to 10-year horizon. Notably, this opportunity applies not just to companies with renewable exposure, but to well-run companies with good longer-term prospects which are currently cheaply valued.
Guard against recessionary fears
On the subject of market sentiment, Marx notes that concerns of a recession - both locally and abroad - are bubbling over, fuelled by load shedding impacts at home and rising interest rates globally, as well as the global impact of China reopening and the war in Europe. All of this has an impact on economic growth and sentiment.
'We won't be surprised if there is a technical recession this year, but it is a combination of so many things that have led us to this point and, with the information available to us currently, we would expect it to improve in the future,' says Marx.
At this juncture, Marx believes it is wise to position your portfolio to be recession-proof, while taking care not to miss out on high-growth opportunities or good value opportunities.
She notes that investors should be looking for high-quality companies with strong balance sheets, well-diversified operations and very good management teams since companies of this quality tend to navigate recessions well and their share prices tend to hold up. 'When you are looking at the very long term, you want companies that have thematic support - where growth is expected in spite of economic cycles, such as luxury goods,' says Marx. 'You can also look at other themes such as artificial intelligence, cybersecurity and renewable energy. These are the types of sectors that have short-term volatility but if you hold them for a long time, it will be complementary to your portfolio.'
This balance is critical, so Marx suggests speaking to your private advisor to ensure that you are both protecting your wealth and seizing opportunities as they emerge.
Either way, January seldom lasts. This was particularly true of January 2023 which lost steam in February as it became clear that inflation remained sticky (prompting additional interest rate increases) and US corporate earnings were lacklustre. March began to level off, and then the Silicon Valley Bank (SVB) failure struck, causing a substantial risk selloff.
What are the implications for this start to the year? And how are JSE-listed companies holding up as a result?
Chantal Marx, Head of Investment Research and Content, explains that how the remainder of 2023 unfolds will depend on the inflation trajectory in the US, how the US Federal Reserve responds to inflation, and whether the US actually ends up in a recession. In addition, all eyes will also be on corporate earnings evaluations.
'In the US, valuations have come down, but they are by no means a dripping roast that is there for the taking - outside of the financial sector at this point (mid-March) following the SVB collapse. The market doesn't look super cheap,' she explains. 'One should expect average returns from the market with a bit of a lift in the second half as investors get to grip with the Fed's next steps and as we get better clarity about US earnings into 2024.'
Turning to South Africa, Marx notes that local valuations don't look expensive at all, particularly in the SA Inc stocks which are clearly reflecting challenging local conditions. 'We are finally starting to see the real impact of load shedding, particularly the heightened stages of load shedding at the end of last year and the beginning of this year,' she explains.
As the first quarter ended, several South African companies began to put out voluntary updates outlining the effects of load shedding on their businesses. MultiChoice, the African satellite television service, was among them, telling shareholders in mid-March that second-half revenue growth (the company has a March year-end) in South Africa would be below expectations as 'the operating environment in South Africa has deteriorated beyond expectations over the past few months'.
TFG, the owner of clothing retailer Foschini, noted load shedding had reduced its turnover by R1 billion over the 11 months to end-February 2023. Unbudgeted direct costs of around R65 million had been racked up to cover diesel, additional security and maintenance costs. Earlier in March, retailer Woolworths noted in its half-year interim results to 26 December 2022 that the group had incurred costs of R90 million over the period because of the energy crisis. 'We've also had several other industry giants, in various sectors, saying that loadshedding is a massive risk and a major concern for South Africans and South African companies,' says Marx.
'Woolworths, for instance, has seen an impact on its revenue, because when its stores - those without backup power - are closed during lockdown, they are not selling goods. It also has an impact on gross margins. For Woolworths Food, wastage has increased because they're very strict on the cold chain and they cannot sell something where the cold chain has been disrupted. Then they are running generators in many of their stores, so they must spend more money on fuel which impacts their operating expenses and, by extension, their operating margin.'
Marx adds that, depending on how a company decides to deal with the issue, this can also have an impact on finance costs. 'If a company decides to invest a lot of capital in getting off the grid, or to buy additional generators, they will see a debt increase and, as a result, their finance costs increase. So, the impact on earnings is widespread. It's not just one thing that impacts a company's profitability from a loadshedding perspective - a fact that has become a lot more apparent and a lot more severe in the last six months.'
While it is easy to get sucked into the doom and gloom of this scenario, Marx stresses that 'when it comes to load shedding it is important to maintain perspective. Yes, it is biting hard at the moment, but most companies are actually planning for the future and are either investing in backup power right now or starting to think about what to do in the future.'
She advises investors to remember that markets also look forward: 'Always remember that markets are forward-looking, they have already discounted the past, the present and to some extent the future. So, you need to consider the long-term outlook when you are making investment decisions.'
Marx notes that with additional generating capacity coming online from the private sector in the next six to 18 months, there is a high probability that the load shedding situation will be much less severe beyond 2024, which should pique the interest of long-term investors.
Turning back to the local bourse, where valuations on the JSE don't currently look expensive, investors with a long-term view should consider the effects of additional generating capacity coming online in the next two years, and the gradual tapering off of severe load shedding. 'When you look at it this way, then many shares actually look extremely inexpensive at the moment, so there could be an opportunity locally,' she says, adding that it will be opportune to take these opportunities in the next three to six months while market sentiment remains depressed.
Drawing on the words of Warren Buffett, who once advised investors to be 'fearful when others are greedy, and greedy when others are fearful', Marx notes that right now offers a good entry point for investors with a five- to 10-year horizon. Notably, this opportunity applies not just to companies with renewable exposure, but to well-run companies with good longer-term prospects which are currently cheaply valued.
On the subject of market sentiment, Marx notes that concerns of a recession - both locally and abroad - are bubbling over, fuelled by load shedding impacts at home and rising interest rates globally, as well as the global impact of China reopening and the war in Europe. All of this has an impact on economic growth and sentiment.
'We won't be surprised if there is a technical recession this year, but it is a combination of so many things that have led us to this point and, with the information available to us currently, we would expect it to improve in the future,' says Marx.
At this juncture, Marx believes it is wise to position your portfolio to be recession-proof, while taking care not to miss out on high-growth opportunities or good value opportunities.
She notes that investors should be looking for high-quality companies with strong balance sheets, well-diversified operations and very good management teams since companies of this quality tend to navigate recessions well and their share prices tend to hold up. 'When you are looking at the very long term, you want companies that have thematic support - where growth is expected in spite of economic cycles, such as luxury goods,' says Marx. 'You can also look at other themes such as artificial intelligence, cybersecurity and renewable energy. These are the types of sectors that have short-term volatility but if you hold them for a long time, it will be complementary to your portfolio.'
This balance is critical, so Marx suggests speaking to your private advisor to ensure that you are both protecting your wealth and seizing opportunities as they emerge.