Episode Transcript
The Finance Ghost: Welcome to episode 217 of Magic Markets. Despite the best efforts of my internet today, we have finally found a slot in which to record this show. It was a close one, I've gotta say. It's been a rough day, Moe. But anyway, here we are, the show must go on, as it always must!
Last week we did a pretty interesting one on Europhoria and we did some digging into the European indices and what there is to buy there. In our Magic Markets Premium show this week, we are covering BMW. If that did pique your interest and maybe even if you're just a BMW fan, then I think you'll enjoy what's happening in Premium this week. I think it will also show you just how tough things are for the European car manufacturers. Just a reminder, there's no minimum monthly commitment. You can go and sign up for R99 bucks and even if you absolutely hate it for some obscure reason, you're only putting R99 bucks in - doesn't buy you much petrol for your BMW these days, so it's worth a punt. And if you love it, of course, then it'll be the best R99 bucks a month that you spend!
Moe, this week, in free, we are not going to talk about Europe. We are going to talk - well, maybe we're going to talk a bit about offshore, but we're especially going to talk about Africa. That's where I still live. I think it's where your heart still kind of is. Don't know if you can publicly admit that, but welcome to the show.
Mohammed Nalla: Yeah, Ghost. We love Africa so much that we made reference to an impala on our show with BMW. Not the animal, I guess, an automobile model. But you referred to the animal…
The Finance Ghost: …I did. I referred to an impala being squeezed by a python. So that gives you a precursor or an idea of what was in the show.
Mohammed Nalla: I loved it so much, I actually said an impala being eaten by a lion, right? So that's my heart being in Africa.
Indeed, I think there's a lot to unpack and where we want to go with this discussion, Ghost, is that we've got to look at the impact of foreign exposure or foreign exchange exposure on companies. And what impact is that really? If you're looking at South African firms, what impact is that? If you're looking at US firms, maybe even European firms as well?
Maybe just starting off on that point, when you're looking at Africa, they always say Africa is not for sissies. Because all you need to do is go and pull up a chart of the US dollar versus the Nigerian Naira or go and pull up a chart of the US dollar versus the Zambian Kwacha. And again, you live in South Africa, it's - trust me, if you pull up a US dollar versus South African Rand chart, it comes nowhere close to what's happening in the rest of Africa because again, if you're not familiar, those charts go up in a straight line. The only other non-African emerging market I can think of that gives you similar price action on the currency recently has been the Turkish Lira. We've seen some outsized moves on the Turkish Lira.
When I say Africa is not for sissies, remember there's the forex move. They are companies that operate on the African continent. They've got to do business in those economies, which arguably is still lucrative, they've got to be there for some sort of reason. Maybe there's an economic profit there, maybe it makes sense for them strategically. But then the problem is when you have this currency massively weakening over time, you've got to convert those currencies back into your home currency. In this case, in your case, Ghost, into South Africa. In my case, either into US dollars or Canadian dollars. And that really does tend to hurt because you're now taking a massively depreciated African currency or frontier economy currency and bringing that into what you would consider to be hard currency.
I think that sets the backdrop, Ghost. I know there have been some companies out with results recently down in South Africa. What does that picture look like down in the equities market?
The Finance Ghost: Yeah so look, the Africa story is a big part of the JSE because so many local companies obviously went off to Africa in search of growth. And we can talk about a couple of those just now.
What is quite interesting is that when Standard Bank released results, and obviously they have a big African business, they had some commentary in there around how they expect the situation to improve in African currencies in 2025. Now, I'm not sure what the reasons for that are. Luckily, we have you as our macroeconomics man on this podcast. I'm keen to actually get your thoughts on that because from where I'm sitting, it just always feels like the African currencies pretty much go in one direction. There are exceptions, obviously.
What's quite fun with following a company like MTN, you go and read the underlying subsidiary results and a country like Uganda, for example, actually seems to be doing really well. It's got a low inflation rate, everything's going swimmingly there. And then you go and look at places that have got really high inflation rates and you always have to be so careful because when the results say, oh, this company grew 30% in constant currency - great, but if inflation was 35%, then it didn't grow at all. If inflation was 25%, sure, it grew ahead of inflation, but not by so much. In a low inflation economy, 30% growth means something. In a high inflation economy, it doesn't mean anywhere near as much. And of course, inflation rates are part of why these currencies depreciate, right?
Mohammed Nalla: Absolutely. Ghost. You've hit one of the nails on the head. I hate it when people just look at Africa and they say, oh, Africa, you know, African currencies. When you're looking at Africa, each country is very different and you could, I guess, break that down into regions. The traditional way of looking at it is you just split it straight down the middle. You've got East Africa and West Africa, right?
When you're looking at East Africa there, you've got economies like Kenya, you've got Uganda that you've mentioned there. Very different dynamics. If you look at the macroeconomic story there, you've mentioned lower inflation, yes. You've also seen strong foreign exchange inflows into those markets. You've seen a lot of buzz around investment. I know Rwanda has been in the news down in South Africa, and not in a good way, you know, with the incursion into Congo and so forth. But if you just rewound about a year, two years ago, Rwanda was being sold as this real, let's call it, success story in Africa. They wanted to build themselves out as the Silicon Valley or the Singapore of Africa and they made significant gains in terms of rebuilding that economy after the Rwandan genocide back in the 90s. You get these flash in the pan moments where sometimes those gains are made and then those have got to be sustained.
Uganda, they're doing well now, but they also have a very tainted history if you go back far enough. It does tend to be cyclical. And at this point in time, at this juncture, East Africa seems to be benefiting from those strong foreign exchange inflows. The low inflation, as we've mentioned, the interest rates, those tied to the inflation, they are seeing declines and growth has remained robust in the region. It's a really positive macroeconomic backdrop.
Now contrast that against West Africa and here predominantly I'd want to maybe focus on two key markets, right? That would be Nigeria and Angola. These markets have encountered higher inflation. As a result, they've got higher interest rates. They've also got weakening local currencies. Remember, a critical component that feeds into both of those economies would be the oil price. We know the oil price has been under pressure - that comes through quite strongly in terms of Nigeria as well as Angola. Remember with Nigeria though, you've also got what I think is the largest population in Africa. It's one of those where it's really attractive to look at in terms of size of market, but you've got to look at some of those other macroeconomic pressure points.
I think that's really what's driving some of this bifurcation that you're seeing between some of the East African and West African economies. You're seeing that in MTN's results. You're probably seeing that in Standard Bank’s results.
But again, Namibia, that's right on South Africa's borders, that was actually a success story. No currency impact there because it's pegged to the South African rand. They defend that peg. But you saw a massive uplift in terms of their mining sector a little while ago. Now, naturally, again cyclical, the steam has come out of that a little bit. But pay attention because even on a simple east-west comparison, you can't just bucket all the West African economies together. There are different dynamics at play. You've got to be sensitive to those.
The Finance Ghost: A big dynamic that's going to come in soon I think is Botswana and diamonds. Watch that space. It's going to be very, very interesting to see what happens there.
I'll give you a couple of other interesting South African companies that have lots of exposure to Africa. So we've talked about Standard bank already - what about Absa? At Absa, they have a pretty large African business, even though no one really talks about it. Interestingly, in 2025, they expect the African region to grow faster than the South African region - that's where they think the growth is coming from. In fact, it's a core part of their plan to get from the current return on equity of about 14.8%, to 16% by 2026.
Now, all the local banks always have a plan to increase their return on equity. I've been reading about that for about 15 years now. But, they have to have a plan - it doesn't help to have a plan to go down, that doesn't do your salary any good! So be that as it may, that's part of how they think they'll get there.
What is also really interesting is that the importance of the African business really comes through in their Corporate and Investment Banking business. They call it Absa CIB - Moe, that'll remind you of Standard Bank CIB. Absa has adopted that naming convention now as well. The Africa regions contributed over 40% of earnings in their CIB business. That's pretty big, right? I mean, that's - yeah, I can see your reaction on the podcast and I felt the same, I was quite surprised to see that.
Retail banking in South Africa is obviously really struggling for growth. Capitec has eaten all of their lunch. It shows you that Africa in many ways is the growth engine because CIB is where the action is and Africa is almost half of it. This is why in 2024, headline earnings growth at Absa was 12% as reported - actually quite decent – and constant currency, 35%! That's a massive gap. It's a much bigger gap than we saw in 2023, where growth was 18% as reported, 25% in constant currency. So only 700 basis points difference there in 2023. That opened up massively in 2024. It's obviously because of the depreciation of the African currencies and also the relative importance of Africa to these banking groups.
But the most obvious choice would be telecoms. MTN and Vodacom have both gone off to Africa in search of growth. And in fact, what's really interesting is even though MTN has had such a hard time with that and has been a bit on the receiving end of some really tough things, Vodacom has followed in their footsteps. They are betting very heavily on Egypt. I don't know if you actually saw that story Moe, if you know that Vodacom is very deep in Egypt now? They’re taking a long-term view here because there just isn't enough growth in South Africa. If the local telecoms players release growth in SA of like 3%, the market gets quite excited actually. There's not much going on in SA for them. It's very hard to grow through acquisitions. Vodacom struggling right now to get their fibre deal with Remgro across the line, the Comp Comm saying no.
The currency issues are just really layered in those telecoms businesses. There's the obvious one, which is translating African earnings into rands. You've talked about currency depreciation of the Naira. For example in Egypt, I think it's the Egyptian pound - it takes a pounding based on Vodacom's numbers. So that's not good. So that's one layer on which it hurts.
Another one is foreign denominated debt. That's another problem. A lot of African businesses are funded with US dollar denominated debt but then they go and run their business in local currency and that can cause a big problem if you're not careful.
And then, the look-through exposure to capex. A lot of the capex, a lot of the equipment that's being put out into these networks in Africa, it's imported, it's not made there, so obviously it has exposure to what the thing costs in dollars. Again, as the currencies depreciate so much against the dollar, so the capex becomes more expensive relative to what they can actually earn.
Africa's not easy but there are some highlights. CA&S Holdings, I'll be surprised if you've heard of that one Moe, maybe you've been watching Unlock the Stock, I'm not sure. I know you don't follow the South African equities in that much detail. CA&S Holdings is a mid-cap on the JSE. Pretty interesting group actually. They help FMCG players reach retail markets in a bunch of regions in Africa and also in South Africa doing incredibly, incredibly well. This is actually a business that has its core in Botswana, so I think they're very aware of the need to diversify and you'll often see them doing bolt-on deals in places like East Africa for example. A really good company. I'll pull up the share price now-now so I can give you that stat while you chew on some of those names I've given you there.
Mohammed Nalla: I love how you say now-now, that's such a South African thing to say. I haven't heard of CA&S. I have heard of Choppies. I know that's a retailer that comes out of Botswana as well. Those African interplays are coming through. While you were talking about it, I just went and I pulled up the Egyptian pound because that's not a currency that I look at. And again, just from 2021, that moved from levels of around 15, call it 20 against the US dollar, it had a step-change up to around the 18s or 20s, then 2022, step-change up again, then step-change. Take a guess, Ghost, where are we sitting? Well, I guess you'll know, you've looked at the chart. We're now sitting around 50! That’s 50 Egyptian pounds to the US dollar. That's not as bad as it was on the last step-change in March last year. It then strengthened and slowly has gotten back to that level.
It's not for sissies. That's the first point. The other point is Vodacom's foray into Egypt reminds me a lot about MTN's foray into Iran a long time ago. South African firms go into these foreign geographies. It's really quite concerning because sometimes they just don't have the understanding of the nuance. I know Nedbank, for example, was heavily invested in Ecobank a while ago, I don't know if that's still on their books. Really struggled to get the metrics, the numbers, the businesses to fit well together.
Ghost, I'm going to actually come back to you on a question here because when you look at South African firms, it's been a very mixed performance. They go abroad, whether that's in Africa - in fact, we can broaden this discussion and also move it out into developed markets. South African firms love going into – historically it was Australia, and then they all burned cash in Australia. Then it was Eastern Europe with the property companies. A lot of the REITs went into Eastern Europe. Now it's Western Europe, lots of Spain – I know Spain comes through very strongly there. You see these flavors come through. North America maybe doesn't feature as much. In the REIT space, I think Emira still has exposure up in the United States, but I don't see North America as much of an exposure.
Ghost, my question to you, there is a question in this, is: what efforts by South African firms to gain those offshore earnings have been largely unsuccessful? We've talked about the currency pressures. But it's more than that. It's about knowing how to do business in the markets you're entering.
The Finance Ghost: Well, I'll give you an example of what is successful, or what can be successful, is when a company really understands those markets. So, as promised, I pulled up a quick share price chart and thank you for referencing Choppies, because that's not a name I look at very often. Moe, it's time to guess. What do you think Choppies has done over 12 months? 12 months?
Mohammed Nalla: Probably stellar. It's. I mean, I don't know. It's probably stellar because if you're asking the question like that, it's probably stellar. Okay, just give me the number.
The Finance Ghost: It is stellar. 76%! Choppies year-to-date is up 40%. I think it must be the best performing retailer on the JSE.
Mohammed Nalla: That's more than South African retailers, right? That. That sounds outsized…
The Finance Ghost: Much more! It's outrageous, actually. CA Sales holdings, which has been a somewhat more steady strategy and I believe that rally a lot more, that's up 52% in the past year, actually a really good business. Choppies, the rally recently has been a bit crazy actually. So, yeah, you see some pretty interesting share price charts on the JSE.
But anyway, what these things have in common is that they actually understand their core markets. I think where South African companies go wrong is they go offshore for the sake of going offshore. They don't go offshore because they found a business they really like or because they actually understand that market. They go offshore because once upon a time everyone sat in a boardroom, specifically in the Zuma years, and they all said, oh my goodness, South Africa is becoming like Zimbabwe, we've got to buy something! All of our institutional investors are begging us to find something offshore. They've all got restrictions on the assets that they can allocate offshore, all the pension rules, etc. So we need to do that for them, we’ve got to find something to buy.
Then they would go and they would either hit Google, quite literally sometimes, or what would really happen in a big company is they'd go and find advisors who would say, yes, our ship has come in! We will find you something to buy in Australia or in the UK or whatever.
That's just a really bad, bad, bad basis for a transaction. If you're going to go and do M&A, it needs to be something you understand in a market that you've identified as attractive for the right reasons, not just because the CEO one day wants to emigrate there. What ends up happening is companies overpay. They way overpaid for assets that have the hard currency underpin - developed markets, it's all rock solid, this will never go wrong, hence we'll pay a crazy multiple.
Well, newsflash, developed markets are not as steady as people think. Europe has been a great example over the past 10 years. Very, very sideways. You go and pay this big premium for a business there, but there's no growth. The only growth you really get is Rand depreciation. Sure, the Rand does depreciate over time, over any length of time, really, a long enough time horizon, it has depreciated against these developed market currencies. But that's not enough to go and justify doing this because if you bought the correct high growth play in South Africa, it can more than offset the currency depreciation and you can end up better off in a market that you actually understand.
What's proven to be the right strategy, and you already referenced it, is to go and invest in higher growth markets that have regional strength. For example, Poland was very popular and still is for property funds. Spain and Portugal now seem to be flavour of the month. It's all about the Iberian Peninsula because once again, there are relatively decent growth rates. You can buy properties on pretty solid valuations, I've got to say. “Solid” being appealing valuations. I've seen some of the yields that have been announced recently and it's interesting
So that's the one thing to think about. The other that I’ll just highlight there is they go and buy companies out in full rather than looking for a pathway to control. It is way better to go and buy either a large minority stake with some kind of mechanism to get yourself to control or to go and buy control day one, but don't let the sellers immediately walk away - go and buy 51%, go buy 60%, even 70%, but make sure they still have skin in the game. Give them a mechanism to get them out later on because you also want to get rid of them at some point, but you want them to walk the road with you.
Some companies do that very well, others absolutely do not. That makes a big difference to how the risks are shared. I'll use CA Sales again as a good example. I think it was in East Africa, their latest deal - they always do deals like this - you inevitably see them buying out a large stake, I think it's often a controlling stake, then they leave behind the management team and the sellers. They need to earn their way out over the next couple of years. It just creates more alignment and it makes a big difference.
I think one other thing worth mentioning is that bolt-on acquisitions are what seem to work. That's what CA&S does. Bidcorp, there's another fabulous example, probably the best one actually. Bidcorp is a South African founded business, effectively it was spun out of Bidvest. It's in the food services space. I don't know the exact number, but their South African business is like single digits as a percentage of the total group. The rest is all over the world except North America, actually, I think they're pretty much everywhere else. They've done it through bolt-on acquisitions. They don't go and bet the farm on some massive fancy retailer in Australia. They go and buy a seafood specialist somewhere in Asia, and then they go and buy a business that's really, really good at meat products somewhere else in Europe - I'm just making these examples up - but that's the flavour of what they do, literally, is they go and do these bolt-on deals. It's just smaller deals, less risk. That works really well as well.
Mohammed Nalla: I love that, pun intended, the flavour of what they do. I know Bidcorp, when I last looked at it, had very big European exposure. It’s certainly interesting that they've got more exposure coming from other regions as well. Not much in North America, but this is a very competitive market, Ghost.
Maybe that's a good place to kind segue into the point of what component of US returns is actually in foreign currency. I know a lot of our listeners, certainly in Magic Markets Premium as well, look at the US stock markets. We often see that impact coming through, so I want to break that down because on an aggregate level, roughly, and this now I'm talking at an S&P 500 level, roughly around 30% of its revenues are derived internationally.
Now if you had asked me, would I have guessed that number? I think it's in the ballpark of where I would have guessed because US companies are by definition global companies. In many instances, they are the global giants. What's very interesting for me, Ghost, as my parting point, is if you slice that down on a sector by sector basis, then you see a very large divergence between which sectors have a lot of US dollar specific exposure and then which sectors are actually exposed to foreign currency. Take a guess at the top of the list, which sector would have the highest foreign sales exposure?
The Finance Ghost: That is a very good question. I want to say tech, software-as-a-service type businesses. I don't know?
Mohammed Nalla: I'll let you stop there because you're right. It's basically the tech sector, right? They've got around 60% of their earnings coming from abroad. Now, why this is important is that if the US dollar's very strong, by contrast, that means that the emerging market or other market currencies are weak. If they are deriving such a large portion in those economies, they're getting the growth that comes through, they've got to bring it back into US dollars and when the US dollar is strong, that actually mutes their earnings to some degree. That's the impact - the higher the foreign sales exposure for a US firm, the more muted an impact it has on your earnings if you have a strong dollar. And the flip side is if you have a weaker dollar, that's going to supercharge your earnings.
That's why a lot of people say that Trump actually needs to weaken the US dollar because if he does that, you're going to see equity start to outperform and specifically the tech sector. I'm going to quickly run through that because the next couple of sectors that have large foreign exposures are not necessarily ones you would guess. They are in the materials or in the resources space. And that stands to reason, if you're producing raw materials, China has been a large customer and so have other emerging markets. Materials and energy, that comes through close to between 35% to 50%.
Then you move down the list to Industrials at around 30%. Then right at the bottom of the list, you've obviously got the likes of utilities, that's very defensive and very specific to a geography. Only around 2% of US utilities revenues coming from foreign exposure. Again, if you go and really look at that, maybe some of that actually counts Canada as foreign exposure. I know they count us as the 51st state. We're not quite the 51st state, but sectors like utilities, healthcare, have very low exposure on the forex side.
The reason I raise this Ghost is you've gotta understand that when we talk macro, when we say, hey, the global dollar's been stronger or the global dollar's been weaker, try and contextualise that into what that means for you as a South African investor with regards to firms that have exposure to Europe or to Asia or to North America. Likewise, try and contextualise it in terms of what this means for stocks that I might own in the various sectors in the US. Then lastly, as a South African, we've discussed Africa, we've discussed Europe, we've discussed how South African firms have gone into those markets. I think this discussion, rounding it all off, is really valuable in terms of empowering our listeners in understanding when you see that currency reported on your news every single day or on the radio, whatever it might be, now you have an understanding of what impact that could have on your equity holdings.
The Finance Ghost: Yeah, absolutely. Like all the macroeconomic indicators, it makes a big difference. I think let's bring that to a close. Moe, that's been a fun show. We’ve talked about something a little bit unusual. We'd obviously love to hear back from our listeners. Give us ideas on what you'd like to hear. By the way, we're super open to hearing audience ideas as long as they're not too bonkers. But generally speaking, we get high quality suggestions, so please do send them through. And as I say, go check out Premium, especially if you are a car fan, I think you'll find the BMW insights particularly interesting. Lots of good stuff in there.
Moe, we'll be back next week.
Mohammed Nalla: Indeed. If you follow us, hit us up on social media. It's @MagicMarketsPod, @FinanceGhost and @MohammedNalla, all on X. Or go and find us on LinkedIn. Pop us a note on there, let us know your thoughts. And until next week, same time, same place. Thanks and cheers.
The Finance Ghost: Ciao.
This podcast is for informational purposes only and is not financial or investment advice. Please speak to your personal financial advisor.
