News Flash – Climbing the Vertical Wall of Valuations

Since the lows on 23 March 2020, the S&P500 has bounced by just over 50%. This has largely been driven by technology heavyweights, such as Apple (up 102%), Amazon (up 65%) and Tesla, which is likely to soon be added to the S&P500, (up 280%!). Together the top technology companies comprise about 22% of this benchmark index and are pricing in very strong growth in earnings. However, with Tesla on a historical price:earnings ratio of 637x (110x forward earnings), and Amazon 136x historical and 101x forward earnings, will they achieve the growth required to justify these valuations?

The actively managed global equity funds that we favour – Ninety One Global Franchise Fund and Fundsmith Equity Fund – are prepared to “miss out” by avoiding these lofty-valuated companies, and to rather focus on old-line technology businesses which are cashflow generative, have the ability to grow their revenue and are not priced for perfection. These include Microsoft and Facebook, where their forward PE ratios are both at 32x and which have managed to gain 53% and 75% since 23 March, respectively.

Global News

The global recovery has slowed down. Some of the most advanced global economies are hitting an activity limit that is below their pre-pandemic levels, this being according to Bloomberg Economics that gauges high-frequency data such as credit card use, travel, and location information. Germany, France, Italy, Norway and Japan are close to their pre-crisis levels whereas the UK, the US, and Canada are still far below the levels of activity seen at the beginning of the year.
The UK is facing the worst recession of any major economy during the pandemic and in its recorded history. In the second quarter of 2020, the country’s economic output shrank by 20.4%. Not only has the UK lost 730 000 jobs since the pandemic began, but wages have also reduced. In addition to this, the UK is still negotiating its Brexit terms, which means it needs to get a trade deal done with the European Union by the end of the year. UK companies, that are already under pressure, will have to endure the additional expense of having to do business with international partners.
US Presidential candidate, former Vice President Joe Biden, announced his running mate for the election, Senator Kamala Harris of California. She is the first black woman and first person of South Asian descent to be nominated for national office.
After the recent massive explosion in Beirut, Lebanon’s government has stepped down. In his resignation announcement, Prime Minister Hassan Diab said that the explosion was a “disaster beyond measure” and that the political elite had created “an apparatus of corruption bigger than the state.” Diab’s resignation means that the Lebanese people will have to go to the polls to elect their third prime minister in less than a year.
Chinese internet giant Tencent announced that President Trump’s executive order targeting WeChat, the company’s messaging app, should not impact its other businesses in the US.
President Trump has refused to support a second recession bailout package that supports the US postal service. The postal service funding would mean that more people would be able to use mail-in voting in November’s presidential election. There is also a report that mail-sorting machines are being removed across the country.
Russia has become the first country to approve a coronavirus vaccine. This has been met with scepticism from the international community, in that the process has been rushed for political reasons: The vaccine has been approved even though clinical trials have not been completed.

Local News

What is the likelihood of President Ramphosa being recalled? An opinion piece authored by writer and political economist Ismail Lagardien outlines a hypothetical scenario whereby the Radical Economic Transformation (RET) faction and the Economic Freedom Fighters (EFF), strike a bargain to get rid of Ramaphosa and the constitutionalists, and halt all investigations into State Capture and corruption. This is not Dynasty’s base case, but if that were to happen, we postulate that it would not take place via a single event, but rather through a slower and intensified corrosion of ANC and government structures that is already underway. The problem that writer Lagardien does not address is that if the RET gang were to strike now, it may well be game over for the ANC, as public distrust of the party – already at very high levels – could go into orbit. This will destroy the ANC as a political party, especially in the lead up to the 2022 electoral conference. Nonetheless, Lagardien’s hypothetical scenario cannot be dismissed outright. Follow this link for the full article.
Plugging the Tax Gap: In an article published in this week’s Financial Mail, Dennis Davis – chair of the Davis Tax Committee – submits that it will be impossible to meaningfully contribute to the projected reduction (R310bn!) of our tax collection, by way of tax increases. Neither is it likely that the government will fulfil its commitment to cut expenditure by R210bn. Rather the SA Revenue Service, with the support of the National Prosecuting Authority, can make a serious dent in this gap by improving tax collection and clamping down on tax evasion and the proceeds of corruption. Follow this link for more.
The JSE ALSI Index is now higher than it was at the beginning of the year. This equates to the market experiencing one of the largest crashes and quickest recoveries in its history, despite all the political and economic turmoil present in the country. Lara Dalmeyer, portfolio manager at Abax Investments, has attributed this phenomenon to the global stimulus provided by governments. which has allowed markets across the world to rally, regardless of poor domestic economic fundamentals.
Follow this link for an article written by Antony Sguazzin and Prinesha Naidoo, that analyses South Africa’s economic health and whether its response to Covid-19 has accelerated the country to the edge of economic and political disaster.
Absa announced that its half-year earnings will be almost wiped out. This is for the same reason recently provided by Capitec, in that a sharp increase in bad loans has dramatically weakened its performance. Absa disclosed that “credit impairments were four times higher,” adding that “the Covid-19 pandemic, national lockdowns, and weak economy during the first half [of the year] had a material impact on customer loan and transaction volumes, while significantly lower policy rates reduced our net interest margin.”
After an incredible rally, gold has softened significantly, but is still holding above $1900 an ounce. Even with this correction, gold and silver remain some of the best-performing commodities this year.
The City of Cape Town lost a bid to secure South African municipalities the legal right to select their electricity suppliers. The court ruling said that the city must first exhaust negotiations with the government on the matter. Currently, Cape Town is obliged to purchase its electricity from Eskom, which is struggling to meet demand and generates electricity mostly through burning coal. Had the city won the case, it planned to set up its own power-purchasing office which would secure supplies within six years. This could have encouraged other municipalities to follow suit, thereby eroding revenue for Eskom and exacerbating its reliance on tariff increases and government bailouts to continue operating.