Thematic View: 2024 – a roller coaster year

It may be a tired expression to refer to 2024 as a roller coaster year – but it sums up the year neatly.

The S&P 500 looks poised to close at near-record highs, the US economy has withstood the impact of elevated interest rates and relatively high inflation, which has not yet receded to the 2% target of the Federal Reserve.

China has disappointed in many respects, although there have been some signs of late that Chinese fiscal and monetary policy authorities are beginning to take the economic slowdown more seriously. Announcements recently suggest that Chinese authorities will implement both fiscal expansion and monetary policy easing interventions to support the economy, particularly within the context of impending US tariffs on Chinese goods that may decrease the relative attractiveness of buying goods from China.

The US voted to return Donald Trump to the Oval Office, with significant implications for not only China but also the global economy. It remains to be seen how aggressively Trump will pursue his election season protectionist policy promises, the significant ones being fiscal policy, immigration and trade tariffs.

At home, we saw a significant swing in the political dynamics, which gave birth to the Government of National Unity. Until the election of Trump, the rand experienced a significant rally while the 10-year government bond retraced in the face of decreased political and idiosyncratic South African risks. It remains to be seen how the decreased idiosyncratic risks, mostly in the form of Eskom and Transnet, will play out in the broader economy.

Wars in the Middle East and Ukraine did not abate, but the wars proved to not be an inflationary headwind. Brent crude prices retraced during the year, while food prices also retraced to levels last seen before the conflicts. Trump has unequivocally vowed to bring an end to those conflicts, and in a rare concession, Russian President Vladimir Putin stated that he is open to the negotiations as per Trump’s proposals. Trump's proposals will be clearer when he takes office on 20 January.

Elections everywhere proved to be difficult for the incumbents. Power shifts were broad-based, whether you look at France, the UK, India or Africa, it was a difficult time for those in office.

The artificial intelligence (AI) theme had the opposite effect and was partially responsible for the continued gains on the S&P 500.

Nearshoring, onshoring and reshoring should come into the spotlight when Trump takes office. The trade-offs will be more apparent once it becomes clear whether it is cheaper to produce goods at home. There may be some anecdotal evidence of this happening, particularly in the US.

Please look out for our 2025 outlook piece in January.

“The Don” makes a comeback

At the onset of the year, it was clear that the US would be entering a pivotal election. It was clear that a different economic and foreign policy would be pursued under a new administration led by the Republican Party.

The Republican Party gained a trifecta victory in the US elections, obtaining the Presidency, the House of Representatives and the US Senate.

Trump’s policies are vastly different from those of the current administration.  He aims to implement sweeping measures in the form of immigration policy, tariffs, deregulation and taxation.

We believe that it is too soon to tell whether Trump will be able to pull the trigger across all his policies, particularly in terms of their full implementation. There is a broad-based belief that the policy proposal, if implemented, would be inflationary and would hurt the US economy. It is also clear that the Democratic Party lost the election largely due to the inflation crisis in the US and its impact on the consumer. It is therefore fair to assume that the Republican Party may not fully support policy positions that impair their chances of retaining the Senate and the House during midterm elections in two years, as well as of defending the Presidency in four years. It makes sense that Republican leaders are acutely aware of the electoral risks they run if they support hurtful economic policy.

Time will tell. We cannot underestimate the broad appeal of Trump and his influence over the Republican Party.

The US economy didn’t crack …

The expected recession in the US was as elusive as ever. At the beginning of the year, we highlighted various risks to the US economy, which included:

• Tight monetary policy, which was expected to be restrictive for the economy.
• Moderating inflation (weaker nominal growth).
• Falling personal consumption expenditure (weaker topline growth for corporates and weaker corporate taxes, with risks for employment).
• Slower wage growth and its impact on the ability of consumers to spend.
• Elevated government debt and a relative inability of the government to rescue the economy.

Despite the headwinds highlighted above, it seems that nothing could stand in the way of the US economy.
 

At the beginning of the year, consensus forecasts for the year for US economic growth stood at a mere 1.25%. Those forecasts have more than doubled as the US consumer proved to be resilient through the cycle, defying the typical monetary policy response.
 

Despite the resilient economic environment, there are two areas of concern. Looking at delinquency rates in the US according to the New York Fed Equifax consumer credit panel, there has been a sharp acceleration in credit delinquencies in the 90+ days category. And delinquency rates are up across credit cards and all loans. This suggests that consumers are feeling pressure.

Mortgage rates also suggest that the US consumer is increasingly under pressure. Freddie Mac data show that there was a rise in mortgage rates over the last two months and they remain at a level last seen before 2000.

The resilience of the US consumer will continue to be an important metric to track to get a sense of the state of the economy.

Inflation came down, but not enough to justify aggressive cuts

Inflation came down sharply during the year from both a developed and emerging market perspective. The distribution of inflation across the 50 largest economies in the world shows that inflation is well off the peak levels experienced in 2022 and 2023.
 

Due to the inflation trends, we saw both emerging and developed economies start to cut interest rates. Emerging markets generally moved ahead of developed markets, but there has been a general stagnation in the cutting of interest rates in emerging markets. Developed economies have moved, albeit more slowly. The question now is how aggressively can developed markets continue to cut interest rates.
 

European growth is expected to remain subdued over the coming year, while inflation is sitting at the central bank target.
 

One risk to inflation is the Ukraine-Russia conflict and the posture of Europe towards Russia. Europe relies on cheap Russian gas for industrial activity. Any turning off the taps by Russia would be detrimental to growth in Europe and inflation. Europe can cut rates due to lower inflation and lower growth, but the risks to inflation from a geopolitical conflict perspective are pronounced.

The US has not pursued monetary policy easing as aggressively as had been forecast at the beginning of the year. One of the major reasons has been robust economic activity and near full employment, while inflation has not fully moderated to the 2% level as it has in Europe.
 

The market has consistently revised the interest rate change outlook over the last few months. The economic trajectory remains solid, while inflation remains sticky at around 2.5%. What is critical for the Fed at this point is the question of how inflationary Trump’s policies will be.
 

The South African Reserve Bank (SARB) disappointed by only cutting rates by half a percentage point this year. The chart below shows that inflation is well below the midpoint of the central bank target range and is expected to remain there. However, there are pronounced geopolitical risks and risks from the outcomes of the US election, which the SARB is keeping an eye on.
 

The level of monetary policy restrictiveness in South Africa suggests that the SARB may have more room to manoeuvre in terms of rate cuts, particularly within the context of the weak third-quarter GDP print that showed that the South African economy contracted.
 

Bank of Japan interest rate hike sparks jitters

In August, the market was caught by surprise by a decision by the Bank of Japan to hike interest rates. This shook up markets and was exacerbated by weak labour market data in the US, sparking fears of a recession in the world’s largest economy. The Japanese yen benefited from the interest rate hike. The question we continue to ask ourselves is the extent to which the Bank of Japan can continue to hike rates.

By the Bank of Japan’s estimates, inflation is not the problem; rather, the economy faces a growth problem. Consumption has been mostly weak in Japan until recently. The permanence of better consumption data will prove pivotal.
 

Interest rate hikes may not be helpful to growth in the absence of an inflation problem. However, rising producer inflation does cause some concern about the course of consumer prices and how the central bank will respond in 2025 and its implications for global valuations.
 

Research house BCA highlighted recently that the tech-heavy Nasdaq Composite Index has been closely correlated with real yields in Japan. This suggests that expectations of more aggressive interest rate hikes by the Bank of Japan, due to increased inflation expectations, may drive higher real yields which could be negative for already stretched tech-sector valuations in the US.

Global elections prove to be pivotal, no matter where you look…

The Financial Times released an article recently in which it explored the results of elections for incumbent leaders across the world in 2024.

Around half the world’s population went to the polls in one way or another. Tides turned across many major economies and geographic blocs. The key elections took place in the United States, the European Union, the United Kingdom, Brazil, Argentina, India, Taiwan, and Pakistan, to name a few.

According to the Financial Times, every incumbent in a developed country election lost vote share. This puts into context how the electorate views how the government is working.

It is worth highlighting that as voter patterns change and leaders are punished for poor economic performance, high inflation, poor policy choices and generally tougher living standards for the people, there has been a noticeable rise in dissatisfaction with democracy, according to Pew Research.

The French are the latest to experience political instability, following a vote of no confidence in Prime Minister Michel Barnier’s government. This has had implications for the market, with the CAC 40 index coming under pressure, and French government bond yields spiking. This puts into perspective the political vulnerabilities around the world in 2024.

South Africa is not spared the fate of other economies

The South African election surprised to the “upside”, despite the ruling ANC falling below the 50% threshold for an absolute majority. It was an unprecedented loss of support given the historic trend that had seen the ANC lose, at most, five percentage points at the polls in previous elections.
 

The ANC, DA, IFP and other smaller political parties formed the Government of National Unity (GNU), which, in essence, was seen to be “market-friendly”. Although it is too soon to tell, initial evidence suggests that members of the GNU are broadly committed to sustaining it to the next general elections in 2029.
 

The key risks following the elections were captured in the varied party manifestos and the positive reception around the GNU was premised on the following:

• Policy continuity.
• Maintaining the protection of property rights.
• Commitment to continuing the structural reform programme championed by President Cyril Ramaphosa through Operation Vulindlela.
• Maintaining institutional independence.

The result has been greater political certainty, the reduction of the political risk premium in our bonds and currency, and increased momentum in structural reform, evidenced by over 200 days of zero loadshedding and ongoing improvements at Transnet. This is evident in our internal state-owned enterprise (SOE) performance index which shows that SOE performance, which looks at the Eskom energy availability factor (EAF), rail tonnage moved and the number of containers handled at ports, is at its highest level in about two and a half years.
 

The JSE All Share is in the middle of the pack when looking at its performance thus far, relative to its performance in other election years since 1999. The JSE All Share is up around 10% since the end of May 2024.
 

The clearest outperformer in terms of the various asset classes has been fixed income. South African bonds have rallied just over 17% since the May elections. Lower idiosyncratic risks played a big role in the moves, plus the lower political risk.
 

The rand too has done well, even during a period of relative dollar strength. The rand, however, is also about the middle of the range in terms of performance, relative to other election years, rallying about 5%.
 

S&P 500 rallies further despite stretched valuations

Despite stretched valuations at the beginning of the year, not much could get in the way of the S&P 500, which had risen just over 25% year-to-date at the time of writing. Out of the indices we have tracked, the S&P 500 outperformed the next best performer, the Hang Seng, by around 12%.
 

To put into context how stretched the valuations have been, the S&P 500 price/earnings ratio rose to a 44% premium over its 20-year average, from a 26% premium previously. This was primarily driven by the technology sector, although there was broad-based strength across S&P 500 sectors when looking at the price/earnings ratio dynamics.
 

We saw a big uptick in the Shanghai Composite and the Hang Seng in local currency terms during September and October, following the announcement of Chinese stimulus packages, but those indices retraced as the long-awaited stimulus turned out to be relatively disappointing.
 

European indices continued to grapple with the aftereffects of high interest rates and the unequal inflation outcomes relative to the rest of the world, given the region’s reliance on cheap Russian gas. Recent upward revisions to European growth should bode well for valuations going into 2025, particularly if the revisions become more material. Europe is expected to grow at just 1.4% in 2025, up from an expectation of 1.3% a few months ago. But a quicker resolution to the Eastern Europe conflict and a more deliberate extension of the flow of Russian gas will be useful. This, coupled with more aggressive rate cuts by the European Central Bank (ECB) could be a catalyst for growth in the Eurozone. The extent of producer deflation should be a further reason for the ECB to cut.

The AI boom continued, captured in S&P 500 valuations

The AI boom continued, which is adequately captured in S&P 500 valuations. When looking at the performance of the equal-weighted S&P 500 index relative to the market cap-weighted index, it is clear that the upward lift to the overall index performance was due to the Magnificent Seven, of which many have benefited from the overall AI theme.
 

This was also captured in the sector price/earnings ratios in terms of the premiums/(discounts) that the various sectors are trading at relative to history. One concern at the beginning of the year was the stretched valuations in the information technology sector. At the time of writing, the premium to the historic price/earnings ratio had increased over the year. The AI theme thus continued unabated.
 

Other areas of risk posed were from a regulatory perspective. Trump’s deregulation policies may support the sector to a certain extent, however, future earnings will remain the key variable to watch along with the extent to which earnings are supportive of the valuations.

Chinese stimulus disappoints

Despite some action from authorities in China, stimulus disappointed during the year. What is of significance is the recent announcements by the Chinese Politburo on a broad range of interventions that will include both monetary-policy easing as well as the fiscal expansionary response to the challenges in the Chinese economy.

It’s worth highlighting that Chinese interventions in the economy appear skewed towards aiding the consumer as opposed to an expansive industrialisation programme. However, it is still good news and one to watch more closely in 2025.

Things to watch in 2025

We will provide a comprehensive piece in January on the themes for 2025 which, in our view, may shape the performance of financial markets more broadly:

• Will Trump go the ‘Full Monty’ with his policies?
• What does improving labour productivity mean for economic performance?
• Can the centre hold for South Africa’s GNU?
• Is South Africa entering a new economic era, both cyclically and structurally?
• Is high global inflation behind us?
• What does this mean for monetary policy globally?
• Can potentially easing geopolitical tensions in Ukraine help the European economy?
• What do tensions in the Middle East (and elsewhere) mean for the global economy?
• How will electric vehicles shape the performance of Germany, Europe’s largest economy?
• Where to from here for artificial intelligence? And what does this mean for global energy demand?

We look forward to unpacking these themes in more detail next month. Until then, have a lovely holiday and stay safe!