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Saturday, December 1, 2012
Perfect storm

With a perfect storm of negativity engulfing the rand at the moment, it is difficult to take a view on the currency without also taking on a good deal of risk. The issues that drove the weakness initially was the burgeoning current account deficit. More recently the spiralling fallout around Marikana and the downgrade by Moody’s are all still very much in play.

“There has been some good news, however,” says Mark Wilkes, Sales Trader at GT247.com, “with the run on the rand to close to US$9 being softened by the mining industry’s strong stance on wildcat strikes in retrenching staff, and some degree of retreat in terms of the transportation strike.”
In addition those active funds investing in South Africa bonds, he says, may have seen value in acquiring World Government Bond Index (WGBI) SA bonds to weighting at a 4% discount (i.e. the rand devaluation) to the levels of last week. The net impact of this has been to drive a rand/dollar rally to 8.65. Net-on-net, none of these factors are secret and the rand has thus been pricing them in.
However, the on-going loss of productivity and offshore perception continues to underpin weakness in the current account, with cash flows against the capital account also turning negative. The impact of investor perception of the rand cannot be underestimated: most long-time traders in South Africa have a healthy and respectful regard for this volatile currency.
“Historically the rand can fall heavily on bad news but, for example, with over 30% of the bond markets in foreign hands, the threshold for the en-masse liquidation may require materially more negative news than previously,” he says. Such a trigger could come from, for instance, massive rolling strikes and escalating unrest or the knock-on effect of a radicalised Mangaung Elective Conference of 16th December. “It should be noted that a lot of the current issues are in essence pre-cursive posturing interweaved with political machinations set to play out in Mangaung.”
“A few ironies come into play as the rand slides. Rand hedge shares – those that obtain earnings in currencies crossed to the rand – appreciate,” Wilkes points out. “A lot of these are commodity plays. Platinum miners become very interesting if the devaluation of the rand is greater than the loss of earnings due to striking (within the context of heavily bombed out prices).”
Due to the weighting of rand hedge shares in JSE indices, downside volatility will be capped, and switches out of domestic banks and retailers will get traction in a continuously weak currency environment. “Meanwhile, South African Bonds become more attractive because the yield that they offer can be bought with less rands but the cost of hedging currency exposure may rise as volatility escalates.
“In a nutshell, South Africa has been running a current account deficit funded by foreign capital. Should the currency continue to slide the offshore investment approach will become increasingly negative and the prognosis for the rand becomes far worse.”
A lot of negativity is priced into the currency. Foreign investment in local markets is large and may be less prone to head for the exits en-masse due to the potential impact of such selling on existing holdings up until a point. The key to South African markets at the moment is the rand and factors that may impact it negatively are largely political in nature. The rand/dollar range is currently 8.50 to 9. However, breaches at either end of this continuum are likely to prove calls to action.

Copyright © Insurance Times and Investments® Vol:25.12 1st December, 2012
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