Improved tax collections provide a glimmer of hope for weary bond investors
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By Bernard Drotschie
When Minister of Finance Tito Mboweni tabled the national budget in February, he told the nation about the improved forecast for tax collection compared to what was tabled in the medium-term budget policy statement in October last year. By the time the budget was tabled, the South African Revenue Service (Sars) had managed to collect almost R100 billion more in taxes than what was anticipated in October 2020. As a result of this better than expected revenue collection, the tax hikes that had been envisaged in the October forecasts were scrapped and instead the minister gave back to taxpayers more than R2 billion in tax relief through tax bracket adjustments. Consequently, the minister announced that the National Treasury would be reducing the weekly bond issuances that are used to fund the budget deficit and refinance maturing debt.
This windfall has continued into March this year with Sars recently announcing that it had exceeded its tax collection target by a further R36 billion, therefore ahead of expectations to the tune of more than R130 billion. As a result of this, the National Treasury announced in the last week of April a further R900 million reduction in the weekly nominal bond issuances. This tax buoyancy and improved collection bodes well for the country’s fiscal metrices and makes it possible for government to achieve its debt stabilisation plans as outlined in the February budget. This is an important development that will likely keep the credit rating agencies at bay for now, and perhaps explains the recent decision by Moody’s not to review South Africa.
The political tectonic plates within the ruling party seem to be steadily shifting towards President Cyril Ramaphosa and with each development, his political control within the party is growing. These developments are in favour of the President and his commitment to eradicating crime and corruption and the improvement in the country’s fiscal prognosis, which could result in a positive adjustment to South Africa’s credit rating outlook – something that is currently not reflected in government bond yields.
All the above bodes well in reducing the debt burden costs for government. The reduced issuance will invariably keep a lid on rising bond yields and improve the cost of borrowing on the part of government. The improved fiscal landscape is supportive of both the currency and bond yields and given the benign inflation outlook, a stronger currency should provide a buffer to imported inflation, keeping it in check. Even though we expect global bond yields to steadily increase from current levels as growth normalises, South African government bonds remain attractively priced relative to our emerging market peers with real (inflation adjusted) yields on longer dated bonds in excess of 5%.
Local assets process benefit from improved global outlook
Risk assets have continued to gain ground this year as global economic activity has rebounded robustly as vaccination programmes are rolled out and policy measures remain accommodative. Economic and corporate earnings data is both strong and ahead of consensus, partly as a result of depressed base effects from a year ago but also due to an improvement in employment, business spending, inventory rebuilding and pent up demand (high savings rates) as economies re-open. Growth momentum is naturally expected to slow as the year progresses but for 2021 and 2022 global economic growth looks set to comfortably exceed long-term norms.
South African asset prices have benefited from the improved global backdrop with export commodity prices reaching new highs and favourable terms of trade providing support to the Rand. The domestic equity market has been one of the best performing equity markets over the past 12 months. A stronger Rand and an exceptional performance from mining shares on the back of higher commodity prices explains the outperformance, but with earnings expected to increase by more than 50% this year, valuations remain undemanding, and this supports an overweight position to the asset class.
Bernard Drotschie is the Chief Investment Officer at Melville Douglas