Wealth warning: fundamentals are starting to stack up for rand rally
By Ryk de Klerk
JOHANNESBURG - While the long-term bear market of the rand versus the euro is likely to continue, the major sell-off of the rand since February, due to the country’s precarious financial situation and the massive impact of the outbreak and spread of the corona virus, is likely to be reversed sooner than later.
From a technical analysis point of view, the euro is currently testing major support at R19.2 and a break on the downside could see the euro fall to about R17.5.
The rand could strengthen by nearly 9 percent from the close on Friday. That, in no uncertain terms, will catch South African fund managers off-guard if economists’ forecasts are anything to go by. According to the Beeld Consensus Survey for October, economists forecast an average of R19.39 a euro for the current quarter.
In my opinion, the fundamentals are beginning to stack up for a significant rally of the rand against the euro and other hard currencies and even emerging market currencies.
I firmly believe that President Cyril Ramaphosa’s Economic Reconstruction and Recovery Plan is feasible and that the plan will get a buy-in from global investors, despite persistent criticism by some local economists and money managers.
Also, investor sentiment has turned for the better as the fight against dirty players in the South African economy is already paying off as perpetrators are increasingly facing justice.
The global economic and investment cycles are increasingly turning in favour of emerging market economies, currencies and assets.
Although the initial stimuli to get the major economies out of the economic meltdown caused by the coronavirus lockdowns are wearing off and signs of a second wave of infections appearing, specifically in Europe, it is evident that the global economic recovery is on a sound footing.
China’s investment-led recovery continues and the US economic recovery is gaining momentum reflected in IHS Markit’s Flash US Composite PMI (purchasing managers’ index) number for October. The global economic recovery is set to gain further momentum as soon as the yet-to-be-agreed upon stimulus in the US gets under way. Market evidence suggests that global bond players and probably those who specialise in distressed bonds are already interested in South African bonds.
The yield gap between South Africa’s 10-year government bond and Brazil’s government bond has narrowed to 1.8percent from more than 3percent in the first week of July as a result of lower South African and Brazilian bond rates. At this stage South Africa’s 10-year government bond continues to offer the juiciest yield among emerging market bonds, given the respective sovereign credit ratings.
Perhaps the biggest pointer to imminent lower South African government bond rates is the fact that the FTSE/JSE Banks Index has outperformed the MSCI World Banks Index by more than 11percent in terms of dollars over the past week and by nearly 30percent since mid-August.
Finance Minister Tito Mboweni’s Medium-Term Budget Policy Statement is due on Thursday and he is facing an unenviable task to balance the books. I do not want to speculate on what he may or may not announce - I leave that to the economists. A few major surprises may lie ahead, though.
In my opinion, Mr Market knows something. The underlying fundamental factors and specifically the inflation-adjusted or real yield of more than 5percent offered by South Africa’s 10-year government bond are likely to lead to significant capital inflows - something that the country has not seen for a very long time.
Yes, this is a wealth warning - the rand could be one of the top performing currencies in the world over the next few quarters and offshore assets are likely to underperform in terms of the rand.
Domestic banks, domestic Reits and other domestic financial stocks where valuations are intricately linked to South African long-term bond yields are likely to benefit from lower bond yields driven by significant capital inflows.
Ryk de Klerk is analyst at large. Email [email protected] The views expressed are his own. You should consult your broker and/or investment adviser for advice. Past performance is no guarantee of future results.