Hiking the repo rate

Paul Stewart, Head of Fund Management at Grindrod Asset Management, comments on the repo rate hike of Thursday, 17 July 2014.

  1. Will a 25 basis points repo rate hike achieve the SARB’s objective and cool inflation?

In my opinion, the 0,25% repo rate hike will have little impact on cooling inflation expectations in South Africa, as the inflation we are experiencing is related more to rising external input costs, which is a global phenomenon, and not to overheating growth or excess domestic demand. This rate hike was largely ceremonial in nature and was necessary because consumer inflation is well outside the top limit of the SARB’s inflation targeting range. So while the hike is of marginal economic importance, it sends an important signal to lenders in the bond market that the SARB has its eye on inflation and will act if necessary. It also marginally improves the attractiveness of depositing money in South Africa and could support the rand exchange rate, all things being equal.

  1. What will be the effect of the hike on the South African economy?

The rate hike is probably not of sufficient magnitude to have a meaningful impact on economic growth, which is already very weak. It is troubling that we see prices rise, necessitating a rate hike, while economic growth remains anaemic. The labour unrest of 2014 can explain much of the economic weakness, which is causing much of the economic and reputational damage. South Africa as a nation needs to get back to work.

  1. Can South Africans really afford increased interest rates, considering that fuel and electricity have increased above inflation?

This interest rate hike will probably not affect the unsecured lending market, as the interest rates applied to this sector are already well above normal bank rates. This rate hike will impact the middle income market that is already stretched and generally characterised by high levels of indebtedness. Fortunately a hike of 0,25% is not likely to break the back of this important section of the consumer market.

  1. Are other emerging market economies experiencing a similar interest rate cycle?

Most other emerging markets have stabilised their interest rates after the hikes early in the year. In general, with US, Japanese and European rates being so low, there is little upward pressure on interest rates anywhere in the world.

  1. In which asset classes should one be investing?

We still think good quality equities and listed property stocks with attractive dividend yields and above-inflation growth rates will deliver inflation-beating returns over the next three to five years.

  1. What is the investment outlook for the rest of the year?

The outlook both domestically and globally remains volatile and uncertain. As long as interest rates remain low and inflation remains under control, no major bad outcome should be expected. But to balance this risk, we would recommend investors to avoid expensive growth assets (high PE/low yields) which will be loaded with downside risks. We prefer equity and listed property assets that, by providing more certain income streams, will be less prone to large capital losses in the event of a negative surprise by the markets.

Paul Stewart