Prospect of rate cuts stirs hope for retail stocks

It’s been a tough year for South African retail stocks, battered by gloomy economic news. But hope is on the way.

The SA Reserve Bank is expected to reduce its key interest rate Thursday for the first time since March 2018, starting a series of cuts that economists forecast could total as much as 75 basis points over six months. That would support a fragile recovery in sales and consumer confidence by loosening the cost of debt.

Retail stocks reflect the strain on South African shoppers: an index of general retailers has dropped 10% this year, compared with gains of almost 30% for their emerging-market peers. Mr Price [JSE:MRP] and and Truworths International [JSE:TRU] were both among the five worst-performing shares in the developing countries gauge as of July 17.

“Retailers have been among the hardest hit by the consumer being under financial pressure, so any reprieve, even small, will help,” said Nolwandle Mthombeni, an analyst at Mergence Investment Managers in Cape Town. Households spent 9.3% of their disposable income on interest payments on debt in the first quarter and a lower key rate would increase their spending power.

The general retailers index gained 0.3% as of 09:35. Food and drug retailers were 0.6% higher.

The implications are less positive for South African banking stocks, which have retreated 7% from their 2019 peak in June as expectations build for rate cuts. That’s even offset some of the positive effects of a strengthening rand, which is typically reflected in shares of both lenders and retailers. The correlation between the two sectors has dropped to 0.56 from 0.7 in June, with a reading of 1 indicating the sub-indexes are moving in lockstep.

Bank of America Merrill Lynch strategists, who said July 15 they foresee 75 basis points of cuts within the next six months, estimate the reductions could lift total returns by as much as 20% for retailers. They also see bank stock returns climbing 15% as the rand benefits disproportionately from a risk-on environment in emerging markets.

Casparus Treurnicht, a money manager at Gryphon Asset Management, is less optimistic.

“The SARB cutting rates would have a negative effect on bank earnings,” said Treurnicht. “Also bear in mind that the SARB usually cuts rates when economic growth slows down, which might also mean that the net interest margin decreases, and provisions must be made for higher insolvencies.

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