For the first time in many years, we are seeing valuation dispersions in the local stock market that suggest that investors are discriminating between future outcomes for different sectors in the market. While most of the "domestic companies", including retailers and financials have seen their share prices dramatically marked down, the "global" companies like resources plays are still trading close to record levels and valuations.

However, the overall level of valuation, at an historic PE of 15.4 for the Allshare index, still expects some continued strong profit growth. At these valuations, given the current levels of interest rates in South Africa, about 45% of the price you pay reflects the future value of current earnings, and about 55% of your purchase prices accounts for the possible future growth in profits.

Be aware of the outlier

The one scenario that investors discount at their own peril is a combination of lower commodity prices and a stronger currency. Most South African investors tend to associate weaker commodity prices with a weaker local currency, providing downside protection to their investment in commodity shares. Otherwise, stronger commodity prices are associated with a stronger currency. The Bonus scenario to investors is obviously when we have stronger commodity prices and a weaker currency, like the last few years. Our sense is that investors by and large do not allow for the worst of all: weaker commodity prices and a stronger currency. Even though the probability of this scenario is small, one should be aware of the impact it can have on your portfolio.

South African long bond rates have been rising for the last two years, from levels of just over 7% to levels of about 9% currently, resulting in modest to disappointing returns. This has been driven lately mainly by fears of higher inflation. However, as investors start focusing on the real possibility of a possibility of a weaker local economy, their focus might move away from inflation to capital protection, which would render bonds an attractive asset.

Globally, environmental issues much more important in investment decisions

With most resources, if there is an abundant, cheap supply available for a long period, the consumers of such products become wasteful - that is the nature of humans. In the case of electricity in South Africa, the same holds. As a nation and a society, we have become used to abundant, cheap energy for a very long period of time. Anecdotal evidence in all of our personal lives will confirm that we still exhibit behavior indicative of our wasteful nature. Eskom will have to address power generation and distribution - not only to alleviate the current and expected medium term energy deficit - as a national power utility should. But as a nation of consumers of such resource, we have to be open minded to the fact that the cost of energy will increase over time. Those households and companies that embrace this principle will tend to benefit most in future.

Energy pricing and availability has become a global debate, together with global warming, and other environmental issues. We expect increased future attention to these issues - both from the side of investors and regulators. History suggests that humans are notoriously weak at dealing with slow-burn, high consequence events. Examples include the current electricity crises in South Africa, the fact that airline tickets are at all-time lows while oil-prices are at all-time highs, and the effect that global carbon emit ions will have on the global economy. In constructing portfolio, one should be aware of these possible risks, but also of the opportunities available to investors to make money from these.

ISSUED BY:

CITADEL

For further information please contact:

Jan van Niekerk
Chief Investment Officer
Tel: (021) 940 7200 / 083 285 6596
E-mail: janvn@citadel.co.za

OR

Daleen Cornelissen
Media Liaison
Tel: (012) 470 2500 / 083 302 0827
E-mail: daleenvw@citadel.co.za