DOWN­GRADE ALL PRICED IN? THINK AGAIN

While the per­cep­tion is that mar­kets have priced in a sov­er­eign down­grade, the re­al­ity is that South Africa might still pay a hefty price for los­ing its in­vest­ment-grade sta­tus.

Finweek English Edition - - FRONT PAGE - edi­to­rial@fin­week.co.za By Mariam Isa Mariam Isa is a free­lance jour­nal­ist who came to SA in 2000 as chief fi­nan­cial correspondent for Reuters news agency af­ter work­ing in the Mid­dle East, the UK and Swe­den, cov­er­ing top­ics rang­ing from war to oil, as wel

south Africa is still tee­ter­ing on the brink of los­ing its in­vest­ment-grade credit rat­ing for the first time in 17 years, as eco­nomic growth fal­ters, in­vest­ment con­tin­ues to de­cline and busi­ness con­fi­dence re­mains mired in the dol­drums. And de­spite wide­spread perceptions that a down­grade to junk sta­tus is al­ready priced in by do­mes­tic fi­nan­cial mar­kets, many an­a­lysts warn there will be a sig­nif­i­cant im­pact on the value of do­mes­tic shares, bonds, and the rand.

There will also be painful fall­out for the busi­ness com­mu­nity. “Any com­pany which has links to a global part­ner will be af­fected be­cause peo­ple will lose con­fi­dence in our coun­try and will take fi­nance out,” said Gil­lian Saun­ders, the head of ad­vi­sory ser­vices for Grant Thorn­ton South Africa.

“Money com­ing into the coun­try will be con­sid­ered ex­tremely high risk and be­come more ex­pen­sive. Peo­ple are hold­ing off on de­ci­sions and this would make them even more un­likely to in­vest cash here – they will look at mov­ing funds and listings off­shore,” she added.

Saun­ders was speak­ing af­ter Grant Thorn­ton re­leased its In­ter­na­tional Busi­ness Re­port for the fourth quar­ter of 2016, which showed that two thirds of South African busi­ness ex­ec­u­tives said their op­er­a­tions and busi­ness de­ci­sions have been af­fected by the coun­try’s ‘tur­bu­lent econ­omy’ and un­cer­tainty about its fu­ture di­rec­tion.

Nearly half were putting off in­vest­ment de­ci­sions, while nearly a third were con­sid­er­ing in­vest­ing off­shore, and 23% were weigh­ing up whether to sell their busi­nesses.

Fi­nan­cial mar­kets may over-re­act

RMB credit an­a­lyst Elena Ilkova said that given the way down­grades have evolved his­tor­i­cally in other coun­tries, it was pos­si­ble that lo­cal mar­kets would over­re­act to a rat­ing down­grade in the short term.

“All as­set classes are likely to re­act ini­tially, al­though the rand is much more af­fected by global events and sen­ti­ment. The back­ground to such an event would also have to be taken into con­sid­er­a­tion, in terms of both po­lit­i­cal and eco­nomic de­vel­op­ments – lo­cal and global,” she added.

The first big hur­dle looms in June when both Stan­dard & Poor’s (S&P) and Fitch will re­assess their rat­ings for South Africa, which they have both placed on the low­est rung of the in­vest­ment grade lad­der, to­gether with a neg­a­tive out­look, which means the next move is likely to be down­wards.

Moody’s In­vestors Ser­vice will an­nounce the out­come of a sched­uled re­view early next month, but its de­ci­sion is not as big a con­cern as it cur­rently has placed SA two notches above junk sta­tus.

But the omens are not good.

On 14 March S&P’s sov­er­eign an­a­lyst Gard­ner Rusike high­lighted the threats to the Trea­sury’s plans to halt ris­ing lev­els of gov­ern­ment debt and bring bud­get deficits back to be­low 3% of GDP, an im­por­tant bench­mark.

Growth may not re­cover

One big risk is that SA’s pace of eco­nomic growth will not quicken in line with ex­pec­ta­tions, which looks pos­si­ble af­ter fig­ures from Statis­tics SA ear­lier this month showed that growth amounted to just 0.3% in 2016 – be­low ex­pec­ta­tions and its slow­est since the re­ces­sion in 2009.

If eco­nomic out­put does not ex­pand by more than 1% this year, tax rev­enues will fall well short of tar­gets for the sec­ond year in a row, mak­ing it im­pos­si­ble for the gov­ern­ment to achieve its debt sta­bil­i­sa­tion goals.

An­other is­sue is that eco­nomic ex­pan­sion is not keep­ing pace with pop­u­la­tion growth, which means that per capita in­come will con­tinue to fall, keep­ing the ma­jor­ity of South Africans trapped in poverty and fu­elling so­cial in­sta­bil­ity.

Rusike said that to boost growth the gov­ern­ment needed to fol­low through on planned re­forms to ease labour ten­sions, re­solve pol­icy un­cer­tainty, and im­prove gov­er­nance at cash-strapped state-owned en­ter­prises (SOEs), which are weigh­ing heav­ily on of­fi­cial fi­nances.

Po­lit­i­cal un­cer­tainty is also a red light on the radar screens of in­vestors and rat­ing agen­cies this year, ahead of a pol­icy con­fer­ence of the ANC in June and an elec­tive con­fer­ence to choose a new leader in De­cem­ber.

“If we see a lot of in­creas­ing po­lit­i­cal ten­sions, in-fight­ing in state in­sti­tu­tions and over po­lit­i­cal lead­er­ship which could de­rail the gov­ern­ment’s plans […] that could im­pact on our fore­casts for growth,” Rusike said.

But his big­gest con­cern was around any un­ex­pected spike in gov­ern­ment’s ex­po­sure to the li­a­bil­i­ties of SOEs, which is al­ready set to climb to R308.3bn in the fi­nan­cial year 2017/18 from R255.8bn in 2016/17. Gov­ern­ment guar­an­tees will rise to R477.7bn, which is equiv­a­lent to 11.5% of GDP.

“It is a big is­sue for us that con­tin­gent li­a­bil­i­ties need to be con­tained so that they don’t im­pact neg­a­tively on the cred­it­wor­thi­ness of the sov­er­eign. The point is that there are pres­sures on the rat­ing from con­tin­gent li­a­bil­i­ties,” Rusike said.

Elena Ilkova Credit an­a­lyst at RMB Gard­ner Rusike Sov­er­eign an­a­lyst at Stan­dard & Poor’s

Gil­lian Saun­ders Head of ad­vi­sory ser­vices at Grant Thorn­ton South Africa

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