The rand’s continued strength in the wake of South Africa’s two credit rating downgrades, and the maintenance of a negative outlook, is counterintuitive from a local perspective but to be expected from a global one.

Excitement has been building with the three consecutive announcements of Covid-19 vaccines that are recording successful results. The prevailing view is that from an economic perspective, countries may experience more pain in the short term, but that medium-term prospects are looking more favourable.

Meanwhile, lower-for-longer interest rates, the likely dissemination of these vaccines next year and possible further fiscal stimulus is expected to be a boon for risk-on assets like emerging market currencies.

The South African rand, fortunately, has been swept up in this tide of positive global sentiment, maintaining its firmer R15 to R15.50 a dollar range after trading at its highest close of R19.08 in the middle of the pandemic in April 2020.

BNP Paribas economist Jeff Schultz confirms where the currency is getting its strength: “Right now the rand is taking most of its cue from global sentiment.” 

He adds that the expectation of a successful vaccine should help lessen the longevity and extent of lockdowns in countries going through their second and third waves. 

The next steps in the development of vaccines are shown below, with FDA approval of candidates expected in early to mid-December 2020.

Other tailwinds for the domestic currency, says Schultz, include an “extremely supportive global financial channel of ample US dollar liquidity and increased cross border lending”. 

Also, support is expected to come from asymmetric policy responses by policymakers who are likely to look through positive surprises in the data, while maintaining accommodative stances to safeguard economic recoveries. 

He expects these factors to provide support for high beta liquid emerging market currencies, of which the rand is one of the most liquid and also likely to be well supported into 2021.

For Sanlam Investments chief economist Arthur Kamp, the US Federal Reserve’s signal in its September 2020 FOMC statement – that it intends to achieve inflation “moderately above 2% for some time so that inflation averages 2% over time and longer-term inflation expectations remain well-anchored at 2%” – indicated its intent to maintain an extraordinarily loose monetary policy stance for an extended period. 

He notes: “That has been helpful for emerging markets and emerging market currencies have strengthened as a group.”

Also, according to Kamp, a vaccine has created hope that debilitating second and third waves of Covid-19 may be better contained, and that ongoing economic recovery is a real prospect. 

From a US perspective, Kamp says that although it’s too early to tell precisely how US economic policy is likely to change under a Joe Biden presidency, we will hopefully see some easing off in the drive towards trade protectionism, which would benefit international trade and emerging markets too.

Kamp points out that, after selling off aggressively to April 2020, the rand was markedly undervalued at a time when these globally supportive factors emerged. 

Domestically, the rand could also experience a few additional tailwinds in the weeks ahead, one of which will be the much anticipated third-quarter GDP growth performance.

Kamp says the South African economy appears set to record a markedly better-than-expected bounce in real GDP in the third quarter – “possibly in the region of 60% seasonally adjusted and annualised”. 

While a sharp decline in GDP is still likely in 2020, he says, the third quarter release is something to look forward to. 

Schultz is expecting GDP to come in an even higher 65% versus the 50% consensus. 

Also positive is his expectation that the current account will return to a healthy surplus of between 4% and 5% of GDP in the third quarter. 

Record-high terms of trade should have pushed the trade account into a record surplus of 9% of GDP in the same period, he adds. 

“Of course, playing into the latter is the recovery in Chinese demand which has spurred strong price growth in precious and industrial metals, which continues to help the local export sector.”

But as history has shown, the rand can run hot for longer than you think – before it no longer does. 

The two rand crises in 1998 and 2001, during which the currency tanked 28% and 26% respectively, are keen reminders of the notorious unpredictability of our currency and how far and how fast it can sell off.

Fast forward almost two decades and there’s no denying the severity of the fiscal challenges that South Africa confronts during the years ahead. 

Barring visible and decisive action towards fiscal consolidation, it is quite feasible that the country could end up with single B ratings and even higher than already high government debt repayment obligations.

Kamp comments that there is risk in South African government bonds, as illustrated by the Moody’s and Fitch downgrades. But, he adds, markets have priced in a risk premium. 

“So, there’s risk and we can’t predict the future, but investors have been earning a relatively high return.” 

Shultz also pinpoints severe fiscal challenges and weak growth prospects next year as the primary risks facing the currency. 

On the global front, he considers the biggest risk to lie in the logistical challenges of distributing a vaccine, as does Kamp. 

Schultz warns that issues getting the virus to where it is needed could put a dampener on sentiment and growth and recovery expectations in 2021. 

“In the absence of a supportive global environment for risk, the rand stands to be one of the bigger losers, as we saw in the first half of this year.”

In the wake of its recent rally, Old Mutual Multi Managers investment strategist Izak Odendaal asks the question: “So is the rand a devil or an angel?”  

He points out what an important shock absorber it has been for SA – a role it is certainly playing right now.

Says Odendaal: “In times of stress, as we saw earlier this year, the rand falls, boosting export earnings and global investment returns. 

“It does make imports more expensive, but in recent years retailers have tended to not fully pass on price increases.”

The greater evil, however, is, as Odendaal notes, volatility because it makes planning ahead so difficult. It is an unwelcome characteristic that is even more of a concern when we are already surrounded by so much unprecedented – and far-reaching – uncertainty. BM/DM