Emerging Markets

South Africa's new era of leadership could surprise, and make it a 'good place to put money'

Key Points
  • With the exit of the controversial Jacob Zuma, investors are hopeful his replacement can restore confidence to the once high-flying South African economy.
  • Cyril Ramaphosa was once seen as a potential heir to Nelson Mandela.
South African President Cyril Ramaphosa speaks at a rally on February 11, 2018, in Cape Town.
Rodger Bosch | AFP | Getty Images

Jacob Zuma, South Africa's embattled former president, is now officially out of power and is facing prosecution for corruption charges. Can his replacement, the 65-year-old business tycoon Cyril Ramaphosa, bring stability to what was once one of the world's top performing emerging markets?

Global investors are certainly hoping he can. The new government has made a good start, with a cabinet reshuffle that has restored familiar faces like Nhlanhla Nene as finance minister and Pravin Gordhan to the ministry of public enterprises.

Last year, the political turmoil prompted ratings agencies S&P and Fitch to downgrade South Africa's sovereign rating from BBB- to BB+, to speculative or "junk" levels, with a negative outlook. Meanwhile, Moody's also placed its Baa2 rating on downgrade review.

Markets have cheered the delivery of a new budget, but the number of Zuma holdovers lingering within the government could be a bad omen.

"The government will need to prove it is free of the cronyism and incompetence of Zuma's government despite these remnants," Craig Botham, chief emerging markets economist with Schroders Investment Management told CNBC.

"On top of this, it needs to address the yawning fiscal deficit, restore confidence and bring back investment, and address the thorny issues of state-owned enterprise governance, the mining charter and energy policy."

In 2017, South Africa's economy ended on a note that was stronger than many expected. Still, the International Monetary Fund recently downgraded its growth estimates for both 2018 and 2019.

Investors, however, remain sanguine that the end of a political crisis fomented by Zuma can repair the damage to confidence and investment.

"That this has been resolved favorably will do a lot on its own to give South Africa a bit more growth," Botham added – and could be enough to stave off a credit downgrade that could scare away foreign capital.

"The review is due this month, I believe. My assumption would be that the cabinet changes and budget have been enough to buy the country time, but progress will need to be maintained," he added.

Rogan Ward | Reuters

'Re-instilling confidence'

To be certain, South Africa is still facing stiff headwinds. The country's drought will impact agricultural output, and tax hikes are expected to weigh on real income and consumption.

Other significant risks are high levels of household debt, which could curb the country's nascent recovery if it prompts a crisis in consumption, and an expansion of the current account deficit as domestic demand picks up.

The new government has the challenge of balancing the interests of big business, financial markets and rating agencies with those of the various political factions.

"It will have the challenge of re-instilling confidence in the independence of its institutions, while working through sensitive issues such as land and labor reform," James Donald, head of emerging markets with Lazard Asset Management said in an interview.

If you're prepared to bet on Ramaphosa managing that, South Africa could be a good place to put your money.
Craig Botham
chief emerging markets economist, Schroders

"Improving the clarity of the regulatory framework…while at the same time bettering the conditions for competition and innovation, is critical," he added. "From a sector perspective, areas which have not seen significant investment for some time could present interesting opportunities, benefitting from longer term structural change."

With Ramaphosa in, and a country yearning for sustainable change, a new dynamic could bolster the fortunes of the government. Living up to promised reforms ahead of 2019 will pose be a big test for Ramaphosa.

Ramaphosa's ability to deliver on much-needed reforms remains to be seen, but early progress has significantly brightened the outlook for South Africa. Once considered a potential successor to Nelson Mandela, investors are counting on Ramaphosa to use his clout to restore political and fiscal stability – which had atrophied under Zuma.

"The keys to Ramaphosa's reform agenda will be his ability to improve the civil service and negotiate with labor unions. With the new government now in place, our focus has shifted to the central bank and confidence indicators," said Denise Simon, co-head of emerging market debt with Lazard Asset Management.

Market friendly reforms generally lead to a good environment for risk assets, but much has already been priced in. Not yet accounted for, however, is a recovery underpinned by sound structural reforms, analysts say – and that could boost the upside for the country.

"If you're prepared to bet on Ramaphosa managing that, South Africa could be a good place to put your money," Botham told CNBC.