08 June 2018

What we know

 

Having weakened last Friday in response to better than expected US Non-Farm Payroll data, the ZAR actually managed to start Monday on the front-foot in the 12.50’s.

Attention at the start of the week was focused predominantly on the increasing trade war tensions, which have now grown beyond China, to include Europe, Canada and Mexico, standing in opposition to US protective measures. Nervousness with regards to the impact this may have on global geo-politics and economies, would typically translate into a risk-off approach and consequent negative impact on Emerging Market currencies.

This week also saw an additional rate hikes from Turkey, together with India’s first hike (25bps) since 2014. Having already seen Argentina’s drastic hikes last month, these rate increases – an attempt to protect ailing economies and their currencies – will certainly add to Emerging Market nervousness. South Africa seems unlikely to be able to raise rates any time soon, which in turn could also reduce the ZAR’s attractiveness relative to its peers.

The reason the SARB’s hands may be tied was plain to see this week, as the shocking 2.2% decline in GDP (the worst decline since 2009) highlighted the challenge that lies ahead in turning the SA economy around. Although many economists were somewhat perturbed by the figure, we think the commentary hasn’t been quite as negative as we feel. With the market forecast for full-year GDP growth between 1.7% – 2.1%, we feel that this figure may prove to be too much for the remaining quarters to make up.

Despite the above, the ZAR showed signs of holding firm, managing to dip below the 12.70 mark early Thursday morning. Thereafter, however, we saw the most severe ZAR weakness for quite some time as the Rand sold-off, showing scant regard for any previous support that may have been expected to provide some comfort. We touched as high as 13.29, before covering slightly to 13.14 as at the time of writing.

A number of reasons, all plausible, could have contributed to the weakness:

1) a somewhat delayed reaction to the GDP number

2) margin calls for some who had taken a ZAR position to benefit from relatively higher local yields (the margin calls would force ZAR selling, which, in times of reduced liquidity could have a significant weaker impact)

3) those with emerging market concerns using the better ZAR liquidity (compared to other currencies) as a proxy in order to reduce their exposure

What others say

 

04 June 2018

RMB Global Markets Research and Sales – Trade concerns to take centre stage

“The US unemployment rate declined by 0.1ppt to an 18-year low of 3.8%. The US economy added 223K jobs in May, beating market expectations for a 190K outcome,while average hourly earnings rose by 2.7% – up from 2.6% in April. The higher-than-expected employment numbers point to a tightening labour market and economy. The growing growth differential between the US and peer countries will continue to support dollar strength; this does not bode well for the rand and other EM currencies.”

05 June 2018

Business Live – Rand weakens sharply on GDP numbers four times worse than expected

“SA’s economy shrank by 2.2% in the first quarter of 2018 compared with the final quarter of last year, far more than expected —with the surprisingly poor performance due to a plunge in the agricultural sector of 24.7%.”

06 June 2018

Reuters – Dollar’s reign likely to be a short one: Reuters poll

“The U.S.dollar’s dominance is forecast to fade soon, with any sudden change in expectations for the policies of other central banks posing the biggest risk, a Reuters poll of currency strategists showed.”

07 June 2018

Bloomberg – Italy Can Expect the Full Brexit Treatment

“Italy’s new prime minister Giuseppe Conte is eager totalk to the European Commission about running a higher deficit, hetold his country’s parliament this week. He’s about to find out that the restof the EU isn’t ready to listen.

Investec Treasuring Sales and Structuring – Morning Markets

“Today’s main data release comes in the form of the latest production stats. Manufacturing production contracted by 1.3% y/y in March,with the median growth figure for Q1 falling by 1.7% compared to 0.3% in Q4. Output growth in the sector has decelerated sharply since climbing to a multi-month high of 2.3% y/y in January, however, Bloomberg consensus forecasts an uptick in annual growth in April.

What we think

 

After a few relatively uneventful weeks, this week was anything but boring. The GDP figure was certainly enough to get our attention, even if other commentators seemed somewhat less perturbed. However, the real action, as outlined above, came in the past 24 hours.

Our view is that this weakness is overdone.

Last week we wrote: “…we are becoming a bit more concerned as to how many times we can test 12.70 without decisively breaking higher.  As such we have moved our near-term ZAR.USD range to 12.45 – 12.88.”

So while we were correct in calling for a weakening bias, even our worst case short-term range wasn’t enough to account for the severity of this sell-off. The 12.88 level was broken on Wednesday and, although the market pulled back to test it on Thursday it proved to be resistance to a further ZAR recovery.

The veracity of a move such as this always makes it more difficult to predict levels in the short-term and we would furthermore expect volatility to remain elevated. We may still see the market retest Friday’s highs at 13.28; however, our call is for 12.90 to be tested first.

Our near-term range for this week is thus 12.78-13.28.

 

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Have a great weekend!