South Africa: Should the BRIC countries become BRICS?

South African President Jacob Zuma joined the BRIC presidents at a summit in Sanya, China in April. From left to right: Indian Prime Minister Monmohan Singh, Russian President Dmitry Medvedev, Chinese President Hu Jintao, Brazilian President Dilma Rousseff, and Zuma. Photo credit: www.kremlin.ru

South Africa got a lot of press in April when it was invited to join the BRIC summit in Sanya, a meeting of the world’s largest emerging economies—Brazil, Russia, India and China. By the end of the conference South Africa was an official member and “BRIC” is now morphing into “BRICS.”

But Jim O’Neill, the Goldman Sachs economist who coined the term in 2001, says the designation is unwarranted. He defines BRIC nations as emerging markets that create at least 3 percent of global GDP. As the 32nd largest economy, South Africa creates only 0.5 percent—nowhere near O’Neill’s standard.

In April, South Africa’s rand exchange rate fell to its weakest point since 2007. Its value is closely tied to the euro, and the Eurozone debt crisis has stunted its growth. It has recovered slightly in May but remains volatile.

Even so, the stability of the post-apartheid republic has edged out Nigeria as the economic “gateway to Africa.” The International Monetary Fund expects South African GDP to grow by 3.6-4.4 percent per year for the next three years—more than twice the estimate for the United States.

Additionally, Moody’s raised South Africa’s sovereign debt rating from A3 to A1 in March—much higher than Brazil’s and India’s Baa3 ratings. So although the potential returns may be smaller than for the emerging market powerhouses, South Africa may have more stable investment potential.

The first and most obvious investment choice is the MSCI South Africa Index Fund (EZA) which trades on the NYSE. Foreigners can’t trade on the Johannesburg Stock Exchange without paying exorbitant fees to a South African investment bank, so the ETF is the easiest way to invest. The fund comprises a basket of holdings that show promise in both the short- and long-term.

Since South Africa is the world’s leading producer of gold, the investor stands to benefit from the inclusion of Anglogold Ashanti Ltd and Gold Fields Ltd. Twenty-six percent of EZA holdings are in the raw materials sector.

But with fears that the bull market in raw materials is waning, EZA doesn’t have all its eggs in the commodity basket. The ETF’s largest holding is MTN Group Ltd., a communications giant that provides the majority of mobile phone service to the African continent—the fastest growing mobile phone market in the world.

MTN recently announced an ambitious project to build a vast cable network connecting Africa to the Internet, which should provide huge growth in the years to come.

A quarter of EZA’s holdings are in the financial sector, which also promises steady long-term growth. During apartheid, black South Africans held their savings in informal mutual-credit clubs called stokvels.

In recent years, banks have aggressively courted stokvel members to deposit their savings in traditional bank accounts. Stokvel expert Andrew Lukhele estimates the value of stokvel deposits at more than USD $2 billion.

EZA closed at $70.78 on May 19, with a 52-week high of $77.19 and a low of $50.55. It has grown by 21 percent since its inception in 2003 and 25 percent in the last year.

A less obvious choice for investment is San Jose, Calif.-based SunPower Corp. (SPWRA), which trades on the NASDAQ Global Select Market. The solar power technology company recently announced a partnership with French energy company Total SA to build a large-scale renewable energy project in Cape Town.

As more South Africans connect to the electric grid, the state-run utility Eskom cannot meet demand. Load-shedding and blackouts are a common occurrence.

The push for renewable energy is only in its infancy in South Africa, but after the UN Climate Change Summit in Durban this December, the industry may pick up steam and SunPower will be poised to benefit.

SPWRA closed at $21.30 on May 19, with a 52-week high on Apr. 28 of $21.75—the day after the announcement. Its 52-week low of $9.61 occurred in September.

While South Africa is not the global economic powerhouse it imagines itself to be, it still dominates the African continent and has the diversification of industries of a more developed nation.

With the BRIC countries welcoming it into the fold, South Africa may be the best of both worlds for investors: stable enough that one can sleep at night, but with just enough risk to be amply rewarded.

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