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The Asset Class: Adam Furlan · Strictly Business

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  You're listening to Strictly Business Podcast with Lindsay Williams.
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  South Africa's consumer price inflation rate has risen in the month of April
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  year-on-year to 4%.
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  That's up from 3.1% in March.
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  If you look at the core inflation, that's gone from 3.2% in March to 3.6%
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  year-on-year.
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  This presents, I think, a conundrum for the South African Reserve Bank.
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  With me now is Adam Furlan, Portfolio Manager at 91 in Cape...
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  town.
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  Is it a problem?
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  Is it a conundrum?
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  What do you think?
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  Hi, Lindsay.
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  I think it is a conundrum for the Saab.
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  As you know, the Saab changed its inflation target to 3%.
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  That was reaffirmed by National Treasury in the fourth quarter of last year.
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  And all was going quite well with inflation declining on RAND strength,
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  on global disinflation coming through and being imported into South Africa.
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  And that's picture has turned around now.
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  We've had a supply shock, an energy supply shock.
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  We have food inflation risks coming potentially later in the year.
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  And as a result of these large preferential prices increases, we are
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  likely to see some second round effects.
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  This is a problem for the FAB.
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  This is where you come in with your expertise about how the South African
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  Reserve Bank works, how Lesetra Kanyaga and his team views this.
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  Do they say, OK, this is a blip in a long-term graph because of extraordinary
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  circumstances beyond our control, i.e.
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  the war in the Middle East.
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  Now, it'll come back down again, or that has been the case in the past, so we
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  ignore this.
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  And even if we do raise rates, it won't have much effect, because this is
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  inelastic demand for oil we're talking about here,
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  for petrol in South Africa.
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  So people will spend anyway, no matter what the price is and no matter what the
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  interest rate is.
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  I mean, that's a sort of an idealistic purist view, I suppose.
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  Yeah, so I don't think the SOAB will think that way at all, actually, Lindsay.
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  What we've heard from the governor at the last few public appearances he has made is
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  that you don't wait to see second round effects
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  coming through from a supply side shock.
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  You act early and acting early means you actually, in the long run,
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  you have to go less and you'll have a smaller impact on the economy.
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  So in the May meeting coming up, we think very likely that they will be hiking rates
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  by 25 basis points.
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  and potentially one or two more hikes in the cycle,
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  just reacting to the first round and potential second round effects coming
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  through as a result of the supply side shock.
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  They followed this exact approach in 2022,
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  and I think were proven quite right to have acted early in that cycle.
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  Okay, so it's not a preemptive strike because no one knew the war was coming,
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  but it's a strike early, which you agree with.
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  At what point do they start to get worried about it?
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  4% is one thing.
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  It used to be the old 3% to 6% range.
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  So, you know, it's still below the midpoint, I suppose, if you look back, but
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  that has all changed, of course.
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  But when does it become a really big problem?
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  I think it becomes a really big problem when they start to see inflation
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  expectations reacting.
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  So the SARB won't have the most recent inflation expectation survey at this
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  meeting.
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  They won't have updated expectations.
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  They've already got...
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  the most recent at the March MPC.
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  At the next expectations release, if those increase or are showing an upward trend,
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  that will be quite concerning for the Reserve Bank.
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  That will show second round effects really starting to get intented into the markets.
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  How has the market reacted to this, to the expectation of a 25 basis point rally in
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  the interest rate that is?
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  So the market has been pricing a 25 basis point hike.
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  for the May MBC meeting for quite some time.
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  As a result of more recent volatility in markets, a little bit more uncertainty
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  around the war in the Middle East,
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  oil prices back at 110, the RAND moving slightly higher.
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  That has led to further rate hike expectations being priced into our curve.
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  Our curve now expects 100 basis points of rate hikes over the next 12 months.
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  100 basis points is quite a big number.
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  I mean, 25 basis points is one thing, but you're talking about three additional
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  hikes on top of that.
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  And that's what the market is expecting.
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  If there is a surprise to the downside in the oil price, for example, I mean,
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  if someone comes out and says the Strait of Hormuz is open and all the tankers
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  start flowing through and the oil price comes down to
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  75, 80, whatever it might do, that's a lovely surprise.
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  And then can interest rates react to that very quickly in South Africa, just as they
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  have to the upside?
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  I think, yeah, what you say is completely correct.
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  A significant move lower in oil prices would definitely reduce some of that rate
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  hike expectation.
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  That being said, what already is priced in, we think is maybe a bit too much.
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  We are forecast, our expectation is an average inflation of
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  4.5% for 2026.
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  and declining over 2027.
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  However, the peak is about 5% in the fourth quarter of this year.
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  So 1% of hikes would take mutual real rates into restricted territory,
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  and probably a bit too far with that inflation profile,
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  assuming a decline in oil prices and correction in the inflation rate turning
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  over into 2027.
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  Has today's print of 4% CPI, has it changed your positioning at all?
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  Have you been adjusting your positioning?
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  in anticipation of that, or because it was slightly more than people expected?
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  Have you started to think about changing your positioning at 91?
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  So our economists flagged these upside inflation risks to us from food
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  predominantly prior to the war.
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  And, you know, as a result of the sharp increase in petrol prices that we've seen,
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  it was quite favourable for portfolio positioning as we were underweight,
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  shorter dated bonds,
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  which were much more reactive to this market price and change.
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  We have not changed positioning as a result of today's imprint.
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  It was in line with consensus and our expectations, but we do remain very
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  cautious on duration,
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  particularly in that front end of the curve, as we expect the hiking cycle to be
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  embarked on in South Africa.
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  Adam, thanks so much for your time.
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  Adam Furlan is a portfolio manager at 91 in Cape Town.
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  The views and opinions expressed in these podcasts are those of Lindsay Williams and
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  various contributors.
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  and do not reflect the policy, position, or opinion of any other agency,
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  organization, employer,
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  or company associated with StrictlyBusinessPodcast.com.
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  entity other than the speaker or the author.
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  And since we are critically thinking human beings, these views are always subject to
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  change, revision,
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  and rethinking at any time.
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  Please do not hold us to them in perpetuity.