The strength of the rand | Fin24

The strength of the rand

Jan 15 2020 15:19
Jaco Visser

High real interest rates in South Africa are supporting the value of the rand even as the country’s economy is hit by slow growth, rolling blackouts and a looming sovereign credit-rating downgrade. A positive view of emerging markets, driven by low interest rates in developed markets, adds another boost to the currency.

“Our relative high interest rate is the reason why the rand remains relatively stable, given the country’s economic fundamentals,” says James Turp, head of fixed income at Absa Asset Management. “Due to the higher domestic rates, the currency hasn’t weakened as much as it could have, given the weak economic fundamentals.”

The real interest rate

The real interest rate – the difference between the Reserve Bank’s repo rate and consumer price inflation – more than doubled from 1.3 percentage points in November 2018 to 2.9 percentage points a year later. The economy went from a quarter-on-quarter annualised growth rate of 1.4% in the final three months of 2018 to a contraction of 0.6% in the third quarter of last year.

According to Turp, SA’s monetary policy committee should, however, not lower the rate at its bi-monthly rates-decision meeting, which is due to end on 16 January.

“The monetary policy committee needs a stable rand,” he says, “to keep foreigners here”.

Should the committee, however, cut the repo rate, from its current 6.5%, Turp foresees a weakening of the currency as it had after the last two rate cuts.

“If they cut the rate, I see rand weakness ahead of the difficult budget speech in February as well as Moody’s decision on SA’s sovereign credit rating,” he says.

Moody’s Investors Service could find itself in a tight spot should its peer, S&P, decide to lower SA’s rating further. Moody’s is the last agency to still rate SA’s government debt as investment grade; Fitch’s rating is a notch below investment grade and S&P’s is two levels below investment grade. 

Should S&P decide to lower its rating by another level, it would place Moody’s in a position where its rating is three levels higher than S&P. This is an untenable situation, which would gnaw at Moody’s credibility. Both Fitch and S&P have SA’s credit rating on a negative outlook – sometimes a precursor to a further downgrade.

“The 27th March has special significance as the date of Moody’s next review,” says Nolan Wapenaar, fund manager at Anchor Capital. “We think that the market is pricing in a 67% probability of a downgrade. It is reasonable to expect that the fear factor will push the rand weaker as we head into the government budget at the end of February and the rating review a month later.” 

Developed-market monetary policies

Global investor sentiment towards emerging markets played a role over the past couple of weeks in informing the value of the rand.

“December served to prove that no matter what the domestic situation, a globally accommodating environment will strengthen the rand,” says Wapenaar. “We saw the rand about 4% stronger during the month” to end the year close to Anchor Capital’s fair valuation of the rand, he says.

It seems that the supportive external environment will persist for the next while, with the US and China expected to sign their preliminary trade deal today, according to him.  

“This will likely see China increase its imports from the US again,” says Wapenaar. 

“The Chinese are also pledging to protect intellectual property rights.” This would further ease tensions that have been weighing on global markets, with emerging markets likely to benefit, according to him.

Similarly, it appears that the UK will leave the EU at the end of this month, and although the House of Commons continues to scrutinise the deal, it is likely to pass with few amendments. 

“The receding global risks make for a risk on environment and continue to be supportive of the rand,” says Wapenaar.

“We expect that the rand will be weaker during the first quarter, though the forgiving global environment should keep this muted as we head towards some binary events for our country,” he says.

rand  |  currency  |  economy

20 February issue
Subscribe to finweek