The rand is one of the world’s most volatile major currencies, at the mercy of both local political developments and international market movements. Understanding the factors that move the exchange rate between the rand and other major currencies as well as the longer-term trends; is the key to creating a financial plan that can weather the volatility.
Let’s start by considering how the international political and economic climate affects the value of the rand. Because the rand is one of the more liquid and heavily traded emerging market currencies, the South African currency is sensitive to a range of international factors beyond the control of the government.
For example, when the US Fed signals that it plans to hike interest rates, the rand will often drop in value against the dollar as investors withdraw their cash from emerging stock markets and bonds to put it into US Treasury bonds instead. Investors will often also use assets like US Treasury Bonds as a safe haven when they become risk-averse as a result of negative news elsewhere in the world.
In today’s unpredictable geopolitical and economic climate, there is no shortage of factors that make investors nervous. These range from ongoing woes in emerging markets such as Argentina and Turkey and a slowdown of growth in China to the prospect of a chaotic exit of the UK from the European Union, instability in the Middle East and the ratcheting up of the trade war rhetoric between China and the US.
Local factors dragging down the rand
As we can see from the volatility of other emerging market currencies in 2019, the rand would probably be taking some blows this year, no matter what our local political and economic conditions looked like. But there can be little doubt that local factors explain at least some of the 4.5% deterioration we have seen in the value of the rand in 2019 (at the time of writing).
Many would argue that South Africa is in a better place than it would be if Cyril Ramaphosa hadn’t ascended to the Presidency of the ANC and the Republic following the ANC Nasrec conference in 2017. However, South Africa’s economic fundamentals remain weak, and local businesses and international investors alike are impatient with the glacial pace of economic reform.
The poor GDP growth is one factor that explains a lack of investor enthusiasm for South African assets, in turn supressing the value of the rand. Moody’s expects South African GDP to grow by just 0.7% for 2019 – meaning that the country is growing more slowly than some developed markets yet has all the risks of an emerging market. It’s not particularly attractive for foreign direct investment or to foreign asset managers investing in global stock markets.
In the background, investors have many other reasons to be worried about South Africa. Market unfriendly debates about prescribed assets and land expropriation are still in play – the outcome of these discussions might be years away, contributing to continued uncertainty in the market.
The spectre of Moody’s downgrading South Africa’s sovereign credit rating to full junk status is still in the air, along with reluctance on government’s part to take serious (and politically unpopular) steps to address the inefficiencies and high levels of debt at state-owned enterprises.
Taken together, these factors seem to suggest that we are not likely to see an improvement in the rand’s fortunes any time soon. But it’s also wise to remember that the rand can be volatile in both directions – up and down. The rand tends to overcorrect in either direction in response to market sentiment.
The rand is becoming known as the ‘wild child of emerging currencies’, frequently showing wider weekly and daily swings in value against the dollar than even notoriously volatile emerging market currencies such as the Turkish lira or the Brazilian real. Even the most informed guess about where the rand will be at the end of 2020 is likely to be wrong, given how sensitive the currency is to both global and local influence.
But a historical view of the trends over the past 20 years is helpful. In 1999, the rand was trading at about R6,15 to the dollar; 20 years later the exchange rate is R14,96 to the dollar. This represents a compounded annual deterioration of around 4.5% a year in the value of the rand against the dollar. The structural nature of the South African economy – especially the inflation rate – makes it likely that this trend will continue into the future.
Thus, taking a long term view on a portfolio and positioning it for offshore exposure will help to protect an investor from currency volatility and the probable decline in the rand’s global purchasing power. It is wise to look at a diversified portfolio that maximises exposure to global growth while mitigating risk to manage the impact of the rand on an investor’s wealth.
Andrew Duvenage is the Managing Director at NFB Private Wealth Management.