Rand note: shifting geopolitical risks see the domestic currency post gains

30 Aug 2017

Annabel Bishop

Chief Economist

The rand strengthened from R13.52/USD, R15.94/EUR and R17.55/GBP mid-month to R12.92/USD, R15.44/EUR and R16.70/GBP yesterday, as the US dollar weakened materially, moving to 1.197 against the euro. Additionally, the rand gained as geopolitical risks shifted on news that North Korea launched a missile which passed over North Japan.

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While expectations in the markets are that the tensions in Asia will not escalate into full blown military conflict, markets have previously reflected tensions between North Korea and the US, with the VIX, S&P 500 and other risk measures affected. With SA well removed geographically compared to EM’s in Asia, and still retaining some investment grade credit ratings, the rand likely benefited somewhat.
The Institute of International Finance (IIF) shows that the bulk of non-resident purchases of bonds and equities (net of sales), i.e. portfolio inflows into emerging markets, tends to be into emerging Asia, US$124bn to date this year. Significant outflows from EM Asian countries were recorded yesterday by the IIF, although an even more significant outflow occurred mid-month on the rise in US North Korea tensions at that time.
The domestic currency has subsequently bounced back to R13.06/USD, R15.60/EUR and R16.86/GBP, as markets quickly recovered their composure, while the R12.90/USD resistance level proved too substantial. Going forward similar friction between the US and North Korea is expected, as the latter will likely continue with ‘illegal’ missile tests, although the global financial environment is experiencing low volatility which has stilled many currencies.
The euro has risen significantly against the US dollar this year as expectations of growth, and hence equity performance, in the region have lifted, while concerns over political tensions (risks) have subsided. Additionally, weakness from other developed market (DM) currencies has aided the common currency as Brexit fears weaken economic activity in the UK, and hence the pound, while the US$ has languished this year under the current US administration.
From a credit rating perspective South Africa continues to await further country creditworthiness assessments from the key agencies at the end of November. With the economy in a holding pattern before the ANC elective conference, business and consumer confidence depressed over the term of the current administration and economic growth sinking in an environment of secular stagnation, the next move could be further rating downgrades, potentially next year.
The rand has experienced a reduction in volatility on low global volatility in financial markets. We continue to forecast some further weakness in the domestic currency this year, particularly marked over the turn of the year as the elective conference ensues. The risk is for a marked depreciation of the domestic currency, to closer to R17.00/USD by the end of this year, and closer to R19.00/USD next year, if the new president of the ANC is not favoured by the financial markets and the credit rating agencies.
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