Market outlook as at 31 Dec 2022
Bond returns are expected to underperform cash in a volatile environment where inflation rises. This is in consideration of the fact that the rise in policy rates would also support cash returns. Hence, cash return in the form of the SteFI Composite Index was the best-performing asset class for 2022 with a return of 5.19%, followed by equities with 4.41%, inflation-linked bonds at 4.24%, nominal bonds at 4.23% and listed property flat at 0.49%.

The inflation outlook is such that it has reached peak levels as the major drivers, such as goods inflation, face a significant slowdown in momentum. Locally, inflation continued the moderation path in November, with headline inflation decelerating to 7.4% y/y from 7.6% y/y in October. The slowdown in momentum for core inflation was vital, with core rising 0.1% m/m compared to 0.3% m/m in October (5% y/y). Energy and food prices, which feed into goods inflation, continue to be the biggest driver of the slowdown.
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Central Banksf resolve to revert inflation to target levels over a short period will be tested, especially where the downward trend in inflation is well established. We may see the peak in interest rates in the first quarter while the hawkish rhetoric remains, and policy rates remain on hold over the rest of the year. However, Central Banks would not want to see financial conditions loosen prematurely, as this would threaten the downward path of inflation.
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The ANC elective conference was the main local political event in December. But we need to watch the developments closely as individual political ambitions unfold. President Cyril Ramaphosa was re-elected as the ANC president, and the market responded positively as it was followed by a further reversal of the sell-off seen at the beginning of December when threats of his resignation took centre stage. The newly formed top-7 was skewed towards the Presidentfs camp. The Phala Phala issue remains an overhang to his presidency as a further parliamentary review will begin this year.
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It is important to ensure that portfolios are positioned for more than any single outcome when constructing portfolios. Scenario analysis becomes critical in stress testing the portfolio on both sides of the base case. Therefore, from a portfolio action perspective, the direction for base rates is subject to risks given risks on the inflation profile, recession concerns and the reopening of China. These factors should be considered when constructing portfolios. The higher base rates driven by an increase in policy rates make floating rate notes attractive from a total return perspective.
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The attractiveness of floating rate credit needs to be balanced by considering the quality of earnings and the strength of balance sheets. The expected total return on floating rate credit is attractive. However, we need to be cognisant of growth concern impact on earnings. In a slowing growth environment, company earnings will be impacted, given the expected strain on the consumer.