The rand hasn’t had an easy time in 2023, coming under pressure from record levels of load shedding, the Financial Action Task Force grey-listing, and rising interest rates in the rest of the world. But this week has been especially tough for the currency after US Ambassador Reuben Brigety accused the South African government of supplying munitions to Russia.
This follows months of speculation about why the sanctioned Russian ship, the Lady R, docked at the Simon’s Town naval base in Cape Town in December last year. Questions were raised back then about what cargo the ship might have collected or offloaded. Now, the US is confident enough to state in public that the cargo was arms for Russia in its war against Ukraine.
The rand tumbled 2% yesterday to record lows as markets digested the headlines, which followed a week of relentless Level 6 load shedding. This week’s fall of circa 5% is disheartening, but not as severe as the blowouts around December 2001, the Global Financial Crisis (2008), Nenegate (2015) and COVID-19 (2020). Three of those blowouts were largely triggered by international risk factors outside of South Africa’s control, and it was only Nenegate which was attributed mainly to SA-specific factors, but concurrent with weakness in emerging market currencies in general.
There may be room for the rand to fall further in the short-term, especially if the diplomatic tensions between the US and South Africa worsen. Markets will be cautious—the stakes are high, given the economic importance of our trading relations with the US. Yet the rand had bounced back strongly within months of cratering in each of the blowouts we mention above.
With the rand trading at R19.27 to the dollar at the time of writing, our clients are asking whether we are past the worst or whether there’s worse to come. Our fair value model suggests that the rand is currently trading at a 15% discount to the US dollar. For the record, our currency model reflected the rand trading at a 25% discount to the US dollar in April 2020 in the immediate aftermath of COVID 19 becoming a global health emergency.
Our currency model is dynamically updated on a weekly basis and takes three factors into account: The relative strength of the US dollar versus other major developed market currencies; how other emerging market currencies are performing relative to the US dollar; and South Africa specific risks. The “Currency Decoder” illustrates graphically that this week’s Rand weakness was caused solely by SA specific factors, the primary factor being the fallout from the Lady R debacle. Other emerging market currencies did not crumble against the US dollar during the week, this also being the case for 2023 thus far.
With inflation in the US starting to subside and with interest rate tightening hopefully reaching its end, we would normally expect to see the dollar continue to weaken moderately for the rest of the year. And as is the case with financial markets, we believe the rand is already pricing in this week’s negative news, and by implication the concomitant risks. We would therefore be cautious about rushing to externalise rands at the current exchange rate. In preference, we will continue to monitor developments closely, being mindful that an escalation in this week’s diplomatic crisis could further weaken the rand, whilst any disproved allegations or positive resolution would serve to strengthen the currency from today’s levels.
Irrespective, we’re not expecting a dramatic recovery in the value of the rand and many economists doubt that an anticipated 25 to 50 basis point hike in interest rates at the end of May will move the exchange rate needle meaningfully. In the longer term, South Africa’s economic prospects and the value of the rand will be hostage to the slow pace of economic reform, moribund growth and constant load shedding. Until the ruling party addresses these crises, the rand will likely continue to depreciate over time, in line with its long-term trend of approximately 5.2% per annum over the past 30 years.
We maintain our advice that clients should externalise wealth in an orderly way, especially by taking advantage of periods of relative rand strength using our Currency Decoder as a useful guide.
“We are confident that weapons were loaded onto that vessel, and I would bet my life on the accuracy on that assertion.”
– Reuben Brigety, the US ambassador to South Africa
Global News
- As talks in the US to potentially raise the debt ceiling ahead of a looming default continue, slowing inflation is giving some hope that the Fed may have some breathing space to pause the rate hike cycle soon. April’s consumer price index rose by 4.9% from a year earlier, the first sub-5% reading in two years. Excluding food and energy, the core consumer price index also cooled slightly.
- House prices, too, are falling, dropping in more parts of the US than they have in more than the last ten years. First quarter figures from the National Association of Realtors shows that nearly a third of metro areas posted annual price declines. During the peak of the housing boom, prices surged across the US. Currently, the housing market is split down the middle of the country, with prices still rising in many parts of the Midwest, South and Northeast while sliding in Western states.
- Reports from the Federal Reserve have indicated ongoing tightening of lending standards by US banks. Larger banks are tightening out of concern for the economic outlook, while smaller banks are constricting loans out of concern about deposit movements and liquidity. This could affect consumers’ ability to borrow and, thus, spend on large-ticket items such as homes and cars, adversely affecting the economy.
- Brazil, Russia, India, China, and South Africa, collectively Brics, are anticipated to overtake the US-led Group of Seven (G7) nations when it comes to their contribution to the world’s economic growth from 2023 onwards. According to Bloomberg’s most recent calculations based on the latest IMF data, the Brics group will account for 32.1% of the world’s growth, compared to the G7’s 29.9%. The report suggests China will be the top contributor to global growth over the next five years, with its share set to be double that of the US. China’s share of global GDP expansion is expected to represent 22.6% of total world growth by 2028, while India will also pass the US and contribute 12.9% by that time.
- Japan will be home to finance ministers and central bank governors from the world’s wealthiest nations – the G7 – to discuss increasingly urgent issues that include the risk of more bank failures and the need for debt restructuring, as well as the threat of a US default. They will meet between Thursday and Saturday. This article sums up key items to watch out for during these talks.
- European Central Bank executive board member Isabel Schnabel has said that the central bank must continue to drive towards a 2% inflation target. The bank, which has slowed the pace of its unprecedented bout of rate hikes following a slowdown in its preferred inflation measure, is waiting to see whether its recent actions have resulted in the desired effect. With the Federal Reserve opening the door to a pause in its own period of monetary tightening, officials in Europe have underlined in recent days that they’re not done with interest rate hikes yet.
- Google showcased an updated core search product that embeds more AI in its answers at its annual development conference this week. The search engine will now offer an enhanced function called the Search Generative Experience. This new release is different from Bard, another AI writing product that Google introduced in March, and it is also distinct to Google answer bots that talk on smart speakers. In addition, Google will bring AI technology to Gmail with a “Help Me Write” option that will produce lengthy replies to emails in seconds, and a tool for photos called “Magic Editor” that will automatically doctor images.
- Twitter CEO Elon Musk will be appointing an unnamed female CEO, who will start in about six weeks. He will move to the role of executive chairman and CTO. This move could allay Tesla investors’ concerns, who have been increasingly worried about the time that Musk is devoting to turning around Twitter. Tesla shares jumped 2.4% on the news.
- Facebook and Instagram creators will now have a way to make money based on how many viewers their videos get as Meta seeks to boost the appeal of these platforms and take users away from rival TikTok. It is testing the new pay out model with short-form videos known as Reels. This is a shift from basing earnings just on advertisements served to viewers. Advertising accounts for 98% of Facebook’s revenue. The aim is to encourage creators to post more entertaining videos and encourage marketing spend due to the wider content on offer.
- Investment company Prosus is looking at exiting its emerging-markets financial technology company PayU, and is, according to sources, working with Bank of America as it determines whether there is interest in PayU’s business outside India. The unit, which operates in more than 50 countries across Asia, Latin America, Europe, and Africa, could be worth as much as $800 million.
- JD.com will kick off the Chinese tech reporting season this Thursday. It is expected to report flat revenue growth for the first quarter of its financial year. This would be the slowest pace on record, Bloomberg-compiled data shows. Next week, Alibaba Group Holding will likely report revenue that grew less than 3%, while Tencent Holdings’ sales may still lag the double-digit pace of the past, according to analyst estimates.
- As at Thursday’s close the S&P was 0.14% down for the week
Local News
- On Friday morning, the rand hit R19.50 to the dollar, its worst level ever, after breaching the R19 mark on Thursday, minutes after the US ambassador, Reuben Brigety, accused South Africa of providing munitions to Russia. South Africa has since denied this. The currency, a bellwether for emerging market risk, had been stuck in a range of between R18 and R18.50 for about a month and then started weakening on Tuesday, allegedly on leaked news pertaining to the Lady R. The currency has now lost 33% against the dollar since its peak in April 2022! (Our article at the time argued that at R14.50 /USD, the local currency appeared overvalued). Aggressive hikes in interest rates have also hurt the economy. While the Reserve Bank has insisted that this should help to tame inflation, the reality is that South African interest rates need to remain competitive to protect the rand and encourage foreign inflows.
- Many fear that the US will take economic action against South Africa, perhaps by scrapping the duty-free export benefits it receives thanks to the African Growth and Opportunity Act (AGOA) after Washington accused South Africa of materially aiding Russia war efforts. The failure of a recent diplomatic mission to resolve the growing impasse over South Africa’s seemingly pro-Russia stance could harm bilateral trade between the two countries worth about R400 billion, leaving government to go back to the drawing board to avoid disrupting the trade ties.
- At the same time, South Africa wasn’t invited to attend the G7 summit next week in Hiroshima, Japan. Japan’s prime minister Kishida Fumio chose to invite AU representatives in preference to President Cyril Ramaphosa.
- South African Reserve Bank governor Lesetja Kganyago has drawn a dire picture of the economy, which is suffering from self-inflicted wounds. He says, even as positive global developments — such as the reduction in global delivery lags and supply bottlenecks — contribute favourably to the inflation dynamics of some countries, they will not have a material impact on domestic inflation. “In fact, it is expected that our own domestic infrastructural bottlenecks will continue to exert upside pressure on the inflation outlook,” Kganyago said. “There is [also] recognition and growing evidence that the country’s ongoing energy supply challenges are impacting on prices as well.” Read more here.
- Two key economic sectors saw declines in output year-on-year. However, both manufacturing and mining production gained between February and March. Manufacturing production dropped 1.1% in March compared with a year ago due to declines from the petroleum and clothing sectors. Positive gains came from food and motor vehicles. Manufacturing production gained 4% month-on-month. Mining data showed that production was down 2.6% year-on-year over the same period, driven largely by declines in diamonds and platinum group metals. The largest positive contributors were gold and manganese ore. Month-on-month, the sector gained 6.5%.
- The world’s largest producer of platinum group metals, Sibanye-Stillwater, has bemoaned South Africa’s operating environment, stating that the atmosphere in Europe is increasingly more supportive than here, where the worsening energy crisis is hurting the mining industry. The miner also warned that a declining quality of public services as well as increases in organised criminal were serious issues, especially as stolen copper cables can compromise the safety of underground employees when the power goes out because of the theft.
- Transaction Capital reported a massive decline in profit for the six months to the end-March, which dropped 382% to a loss of R1.73 billion as the taxi financier and second-hand car dealer starts to restructure its SA Taxi business, with the hope that the business will be profitable again in its next financial year.
- South Africa’s largest medical aid scheme, Discovery, wants to launch a low-cost health insurance product this year, which will cost between R300 and R350. However, government regulator, the Council for Medical Schemes (CMS), is blocking low-cost medical aids as it is not providing permission for them to go ahead. The scheme would take some of the burden off the country’s deteriorating healthcare system. The Board of Healthcare Funders (BHF), which represents medical aids, argues that government’s resistance has been political, in a perverse bid to boost its plans for National Health Insurance.
- As at the time of writing, the rand had declined by 4.9% for the week while the ALSI was flat.
Sources: Dynasty, BusinessLIVE, UBS, Bloomberg, Daily Maverick, WSJ, BusinessTech, Analytics Consulting FX Solutions, Forexlive, Stats SA., News24, etc.
