Emerging market investors neutral on South Africa

By Kevin Lings

The Global Emerging Markets Strategist from Morgan Stanley in London has provided us with updated data on the latest (as of April 22) benchmark weights for the MSCI Emerging Market countries as well as the weight of South Africa in the average dedicated Emerging Market Fund.

As at 22 April South Africa had a weight of 6.63% in the Emerging Market Index. This is the 7th highest weight in the index after Brazil (15.37%), China (14.23%), Korea (13.41%), Russia (9.69%), and India (7.12%).

According to their estimates, dedicated emerging market investors (funds that only invest in emerging markets) were essentially neutral weighted in South Africa at the end of March. The foreign selling of South African equities in Q1 2008 is mainly attributable to either Hedge Fund investors or what is called Crossover Investors. These are investors who would normally only invest in developed markets but have ventured into emerging markets in recent years due to their out-performance. In contrast, the dedicated emerging market investors actually increased their relative weight in South Africa in March, albeit marginally, after having reduced their weight in December, January and February. Overall Emerging Market Investors are neutral South Africa.

While this sounds reasonably positive, the concern is that many offshore brokers currently have a sell recommendation on South Africa. Morgan Stanley is recommending that investors go 2 percentage points underweight South Africa. This is the second largest underweight recommendation after India, which has a recommended underweight position of 2.25 percentage points. Given that foreign investors own around 25% of the JSE, if emerging market investors actually took their advice the SA equity market would be under significant pressure; which would probably also reflect in a weaker exchange rate.

The main reason for Morgan Stanley’s underweight recommendation is a very poor outlook for the economy (business cycle). In terms of their model SA ranks last among the emerging market data set of 20 countries in terms of the outlook for the business cycle. The other areas of concern are political risk (we currently rank 16 out of 20, with Turkey at number 20), in addition they feel that the market is expensive on a relative basis (ranked 15 out of 20), while the extent of the earnings downward revisions is the worst within the emerging market context (we are current ranked last in terms of earnings revisions).