Some investment perspective on the first six months of 2010 from Absa

Chris Gilmour: Analyst, Absa Asset Management Private Clients notes that the JSE Alsi fell by 4,9% between 1 Jan and 30 Jun 2010 and that between 1 Apr and 30 Jun, the fall was 9,2%, representing the worst quarterly performance on the JSE since Q3 2008.

Although bad, the JSE‟s performance was better than global equities generally, which fell by 13% in Q2.

Investors now find themselves in a type of “no-man's land”. The Alsi is still 21% below its all-time high of 33232 set on 22 May 2008 but well above (+47%) its recent low of 17814 set on 20 November 2008. In our view, investor fears are overdone and value seems to be returning to our market.

Global equity markets need direction and unfortunately they are not getting it from the deluge of economic fundamentals.

US data is patchy, while European data is highly polarized between the indebted south and the wealthier north. And even China, which has been the engine for growth in recent years, is seeing some of its growth tapering off.

It appears to us that investors are being swayed more by general market nervousness and less by prospective economic fundamentals. While US economic growth is not consistent, it is generally positive.

Many investors were spooked in early July amid concerns of slowing Chinese economic growth. While it is likely that Chinese growth may well slow from, say 11% to around 9% to 9,5%, it is still extremely strong and from an already high base. What may be of more concern is the profile of that growth; instead of relying so much on export-oriented growth, much Chinese  growth in future may come from increased internal consumption.

US economic growth is looking decidedly patchy in its composition. While certain high frequency  indicators, such as industrial production, are positive and sustainable, others like unemployment and the housing market remain stubbornly unresponsive. Many observers are talking about a “jobless recovery”, though most US recoveries since WW2 have been jobless, at least in the earlier stages. Only as momentum gathers pace are many more new jobs created.

European growth is still very polarised between the debt ridden south (mainly Greece, Portugal and Spain) and the wealthier north, largely France and Germany. But it should be noted that economies like Greece, Portugal and Ireland are tiny in comparison to their northern peers. Conversely, German exports are doing very well, aided by the weak Euro.

Even negative observers like Professor Nouriel Roubini do not believe that Europe will experience the so called “double-dip recession”, but rather believe growth will be tiny at best. Greece, the worst example of the indebted south of Europe, has recently demonstrated that it is coming to terms with tackling its chronic deficit problems, even though this has meant higher inflation and unemployment as well as a shrinking economy.

Against this global economic background, coupled with our belief that local earnings growth will improve from a low base, the rating of our market (as proxied by the PE ratio on the JSE Alsi) should continue to fall as the year progresses. The current PE of the Alsi, at 16,4x, is right on one standard deviation from the ten-year mean but the trend appears to be improving.

It is always difficult to be positive when confronted with overwhelming bearish market sentiment. But cutting through the noise and distilling the fundamentals reveals to us that continued participation in our equity market remains the soundest way to preserve and enhance wealth.