Those of you who keep an eye on emerging markets will have noticed the South African rand underperforming its main trading pairs lately. This is after a ZAR rally that stalled back in July of this year.
ZAR rose against GBP, USD and EUR between June and July of this year. By July 30 it was trading at a rate of 17.15 to the pound sterling. Against USD it peaked on July 18 and 19, reaching a rate of 13.81 to the US dollar. Against EUR it peaked on July 25, at a rate of 15.42 to the euro.
While the rand’s volatility has increased against all of these pairs, it’s the GBP pound to rand pair that’s generating the most interest. This is because, of the three, the pound sterling to rand pair has been trading within a range between 16.11 and 19.3 since back in 2016 that it now looks close to breaking out of.
In mid-September of 2018 it briefly broke out of this range, reaching a high of 20.1 before dipping back. It then made another failed attempt in mid-October and has remained within that range ever since. Since the recent ZAR rally and subsequent dump, GBPUSD is trading at the top of the range and appears to be on its way to re-testing the former high.
GBPZAR re-tests the top of its trading range
So what happened?
There are a number of interrelated factors currently weighing down the rand. The catalyst back in late 2018 was the government revealing that it would be missing its budget deficit targets. This sent the rand lower because those very targets were there to help the country keep its one remaining investment-grade rating.
At the time, high VAT refunds and public wage settlements were blamed for the shortfall, with both expenditures being referred to as having come in “higher than expected”. More recently, it was reported that emerging market firm Renaissance Capital advised its clients that Moody’s, the last rating agency to extend an “investment-grade” rating to South Africa, is likely to downgrade this rating to junk in November.
The news caused a further sell-off in ZAR, causing GBPZAR to surge past August and September’s highs of 18.9 and within reach of March’s highs of 19.3. This puts the pair at the very top of the range.
It’s important to note that this new bout of rand weakness is occurring despite renewed interest in emerging markets. A loss of South Africa’s investment-grade status would be catastrophic to the country. It would likely lead to a huge outflow of capital and a mass exit from South African government bonds, which would weigh heavy on the currency.
Stories to watch
While markets await confirmation of a Moody’s downgrade next month, this is not the only possible headline that has rand holders concerned.
The government’s updated budget report, due at the end of this month could possibly cause further sell pressure for the rand. Also, be sure to keep abreast of any worsening of the country’s already dire situation regarding its outdated coal power energy grid, which has been showing severe signs of strain for a while.
Back in January, it was reported that Eskom, the chronically mismanaged state-owned firm responsible for South Africa’s electricity generation, was struggling with worker walkouts as CBZ, a key contractor, was experiencing “severe financial difficulties” and had left 400 workers unpaid for the month.
This is just the tip of the iceberg as far as Eskom’s woes are concerned. With performance problems and premature failures at its Medupi and Kusile plants, both of which came in late and catastrophically over budget, the company is barely able to keep up with the country’s growing energy requirements.
Earlier this month Eskom announced that it would be conducting nationwide “load-shedding” (essentially power cuts) following a failure at one of its plants. Add to this coal shortages (in a country with abundant sources of coal) and spiraling debts and you have quite a worrying situation as far as South Africa’s national energy is concerned.
This obviously has knock-on effects for the entire South-African economy, particularly the industrial sector, and is contributing to the country’s falling GDP, which in-turn worsens the countries budget situation.
It was recently announced by the country’s president, Cyril Ramaphosa that he would be moving to restructure Eskom into three entities. ZAR traders would do well to follow these developments closely.
It seems that the chances for more negative headlines coming out of South Africa are quite high. The global slowdown we’ve been seeing only makes what’s an already troublesome situation a lot worse.
There is definitely scope for sterling to strengthen even further against the rand, but be aware of the counter-narrative, as any positive developments regarding Eskom, or even the suggestion of privatizing the country’s energy grid could lead to a relief rally.
Disclaimer: This article is not investment advice or an investment recommendation and should not be considered as such. The information above is not an invitation to trade and it does not guarantee or predict future performance. The investor is solely responsible for the risk of their decisions. The analysis and commentary presented do not include any consideration of your personal investment objectives, financial circumstances or needs.