Johannesburg - As the rand continues to hover around the R16 mark to the dollar, questions are being asked about what its real value is.
The local currency took a hit last December when President Jacob Zuma fired Finance Minister Nhlanhla Nene, dropping below R15 to the dollar.
It crashed through the R18 level in January and has failed to recover significantly since, falling out of bed again on Friday, dropping the most in almost three months amid concerns that the growing dispute between current Finance Minister Pravin Gordhan and his tax chief, Tom Moyane, is deepening a power struggle over control of the Treasury.
After Zuma axed Nene, he replaced him with relative unknown Des van Rooyen, and then fired him a few days later after the rand’s tumble, bringing Gordhan back into the position.
Andrew Flavell, wealth manager at AlphaWealth, dug into what the currency should actually be worth, saying an objective analysis is better than relying on dinner-time conversation and personal bias.
Flavell notes emerging markets have seen a five-year period of headwinds.
“In fact, there has been a perfect storm for emerging markets with commodity-backed economies.”
A Eurozone slowdown, Chinese gross domestic product contraction, plummeting commodity prices, government instability, foreign capital outflow and a rising interest rate environment have made it very hard to make money in emerging markets, says Flavell.
“The good news is South Africa is not alone. Our peers, including Russia, Zambia and Brazil, have all been under pressure. So while some may dub this the ‘Zuma Effect’, it really is a macro theme.”
Flavell notes, rather than using one economic theory, a handful can be looked at to deduce the value of the rand.
Based on an interest rate differential, the implied rate is R14.16, while the cash rate differential gives a rate of R14.51. An inflation rate differential gives a rate of 9.55, while the Economist’s Big Mac index pegs the currency at 5.68 to the dollar, he notes.
January 2016Implied USD/ZAR
Interest rate differential14.16
Cash rate differential14.51
Inflation rate differential9.55
Big Mac index5.68
Fair value given average10.975
Current spot16.13
Says Flavell: “At current levels we are priced in line with the Russian Rouble. Whether this is fair or not, really depends on one’s view of the GDP growth forecasts, the ability of the government to be fiscally prudent, the commodity cycle, the carry trade, amplitude of the interest rate cycle and foreign investment.”
Flavell points out that, since the rand became liquid as a trading commodity in 1971, it has depreciated on average by 7.26 percent a year per annum.
“This is an important figure given that the depreciation has not been very far from the inherent depreciation that inflation and cost of debt naturally introduce to the currency.
“These factors indicate that while it seems crazy that the rand is at 15.24, it can be explained.”
Flavell explains, given that the listed investable universe in South Africa is less than 0.03 percent of the global market capitalisation, one needs to consider offshore investing more from a geographic stand point as opposed to a currency call.
“Forecasting the rand over the short term is impossible. While now it is oversold from a trader’s perspective, it can stay oversold for a long time. Conversely big money managers globally can flick the ‘carry trade switch’ back on and the rand could easily move to fair value.”
Flavell argued that targeting jurisdictions and opportunities where you can achieve the best risk adjusted return irrespective of the rand still remains the best capital preservation strategy.
IOL