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SA's bonds have no patience for time or space: Gadfly

Feb 13 2018 19:54
Marcus Ashworth, Bloomberg Gadfly

London - Time and space are wonderful things - except South Africa doesn't really have the luxury of either.

The ruling African National Congress party are trying to smooth the end of President Jacob Zuma's political career, and on Tuesday decided not to set a deadline for him to respond to their decision that he should leave office.

An extended exit has the capacity to seriously damage the South African domestic bond market, and reverse recent gains in the rand as well. 

A raft of political turmoil and a global bond-market rout haven't been enough to unseat South African debt this year. The yield on the nation's benchmark 10.5 percent 2026 bond has dropped sharply since December, when Cyril Ramaphosa won the ANC leadership contest. Those gains look fragile at best.

Two deadlines loom for investors. The first is the budget statement, which Finance Minister Malusi Gigaba is to deliver on February 21. And Moody's Investors Service, the only one of the three main credit-rating agencies to assign the local-currency debt an investment grade, is to review the rating on March 23.

For South Africa to avoid the slide to pure-junk status, Gigaba will have to demonstrate that officials are focused on fiscal discipline. That's an uphill battle, as in October he abandoned a target for the fiscal deficit to be no more than 3% of gross domestic product, and National Treasury estimates for this financial year's budget deficit has spiralled to 4.3% of GDP. 

READ: SA economy high on Zexit euphoria, but budget will be real test

A painful rise in value-added tax in the budget may be enough for the government to show that it has not lost fiscal control. 

However, a delay in the budget statement would undermine any pretense of fiscal discipline, and could well drive Moody's to lower its Baa3 grade into junk status - just a one-notch cut would do it.

It is uncertain if the budget will go ahead with Zuma's status in limbo. If a parliamentary no-confidence vote in him does proceed, he would certainly lose - but the nuclear option of removing him may also result in the government having to stand down. It is hard to see the budget proceeding under those circumstances.

This is where South Africa's troubles will really begin. Moody's Baa3 rating is the only thing keeping the nation's debt in the Citi World Government Bond Index, given that the grades from S&P Global Ratings and Fitch Ratings are already below investment grade.

The rules of the index require that a borrower can no longer be included once it's rated junk by all three rating companies. 

Bond funds that use the Citi index as a benchmark would be forced to liquidate their holdings on a Moody's downgrade. Many foreign funds invest directly into the higher-yielding domestic bond market as the South African rand is one of the most liquid emerging-market currencies.

The ANC needs to clarify that the budget will proceed regardless of the timing of Zuma's departure. Moody's can always bring forward its credit rating review if it believes the political situation is untenable.

Ramaphosa is certainly a more market-friendly leader for South Africa, but the fiscal drift under Zuma needs to be reversed to enable an economic dividend. The bond market may not be turning up at the polling stations, but politicians shouldn't overlook its importance as a voter. 

         *** This column does not necessarily reflect the opinion of Bloomberg LP and its owners ***

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economy  |  budget  |  rating agencies
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