Investment perspectives – four key economic themes for Q1 2023

The first quarter of 2023 started with a growing expectation of interest rate cuts by the US Federal Reserve not too far on the horizon. This did appear to be short-lived though but certainly increased fears of a US recession and the detrimental effect this would have on the rest of the world.

Although inflation appeared to roll over from recent highs in the US and Eurozone, developed market central banks continued to raise rates. In South Africa inflation remained below the peak level but marginally increased and remained above the top end of the target band which led to a larger-than-expected 50 basis point increase in short-term rates.

At the start of the new year, four key themes were identified for 2023. These are:

1.  Global inflation
2. Interest rate cuts
3. US recession
4. China re-opening

There is a link between the first three themes, which follows from similar considerations in 2022 and has become more important as the expectation of US GDP growth and global GDP growth has deteriorated. Over the quarter a fifth theme developed as the persistent interest rate increases took its toll on banks that were less well capitalised and depositors lost faith in the bank’s ability to remain liquid.

Global inflation started to show signs of improvement towards the end of 2022 and this continued into the first quarter of 2023 which led the market to forecast that interest rate cuts were due sooner than previously envisaged.

In sympathy with this view equity markets delivered strong returns as investors foresaw economic conditions more conducive to improved company results. The run on Silicon Valley Bank stalled the positive sentiment in the US which was further questioned as Credit Suisse was forced into a merger deal with UBS as the second largest bank in Switzerland collapsed. Initial concerns that this would lead to a large-scale banking crisis proved unfounded as the US government guaranteed depositors and the Swiss government brokered the merger between UBS and Credit Suisse.

Domestic outlook

In South Africa, the Reserve Bank forecast that SA GDP growth was set to moderate further to 0.2% in 2023 and that average inflation would remain above the top end of the target band for the calendar year and only move back to the midpoint of the band in the final quarter of 2024. President Ramaphosa appointed a minister of electricity during the quarter as load shedding remains a headwind to businesses and the prospect of more severe electricity cuts in winter seems to be increasing.

The combination of high inflation, increasing interest rates, and the inability of Eskom to consistently supply electricity has resulted in consumer confidence dropping to levels last seen around the time of the first fully democratic election.

While global inflation remains high with rate cuts seemingly further delayed and a US recession looking like a foregone conclusion, China re-opening post their zero-COVID policy is a positive for markets and especially for countries, like South Africa, that have a strong trade relationship with China.

Luigi Marinus, is portfolio manager at PPS Investments.