Is there hope for the rand?
SCENARIO: WHAT 2020 CAN HOLD FOR IT
Absa forecasts it will be at R16.40 to the greenback by year-end.
Farmers’ expertise lie in the production of agricultural commodities, but the exchange rate is critical to farmers’ profitability. SA has one of the most volatile exchange rates in the world, for a complicated variety of reasons, which adds to the risk faced by agricultural producers in South Africa’s risky environmental situation, with unpredictable rainfall.
The rand has weakened by about 28% against the US dollar this year, hitting a peak of R19.35 per dollar at the start of April, before rallying to R18.45 to the greenback. This rand weakness has come on the back of heightened global risk aversion associated with the Covid-19 pandemic, as well as substantial outflows from the SA bond and equity markets, with bond outflows due in part to SA’s sovereign credit rating downgrades from both Moody’s and Fitch and SA’s exclusion from the World Government Bond Index (WGBI) at the end of April.
However, we expect the rand to recover in the latter half of the year for the following reasons, assuming that SA is able to get on top of the Covid-19 pandemic and reboot its economy after the lockdown.
A number of local asset managers are above their prudential offshore investment allowances as a result of this year’s rand weakness and a likely sharper sell-off of domestic markets compared to international markets, and their consequent need to repatriate some of their offshore investments over the coming months.
We believe that from a purchasing power parity perspective, the trade-weighted rand is currently 17% undervalued, while our peer model (which calculates the implied fair value of the rand based on other high-yielding and commodity-based currencies) suggests that the rand should currently be trading at R16.98 to the dollar.
We expect the current account deficit to narrow significantly this year due to improvements in South Africa’s terms-oftrade improvements (essentially the price of its exports versus that of its imports), reduced dividend and interest payments abroad, and import compression due to the weak economy. The slump in the oil price as well as strong precious metal prices underpin sharply better terms of trade over the last year, while aggressive net sales of South African bonds and equities in recent quarters ought to lower coupon and dividend commitments to offshore investors. Absa now forecasts a current account surplus in the first quarter – the first since 2003, and a deficit of just 0.9% for 2020 as a whole. A smaller current account deficit reduces the need for a more competitive exchange rate.
Expect the rand to recover in the latter half
We believe the South African Reserve Bank is unlikely to cut policy rates to the extent that is currently been priced into the market, which together with a reduction in global volatility levels should enhance the rand’s carry trade appeal.
Given the above reasons Absa forecasts the rand to be R18.00 to the greenback by the end of June and at R16.40 by year-end.
Michael Keenan, Peter Worthington & Wessel Lemmer, Absa Research and Agribusiness.