Moody’s downgrade of SA bonds bursts hopes of rally ahead of listing

LARGE numbers of foreigners fled South Africa’s bond market on Friday, despite its looming inclusion on Citi’s World Government Bond index (WGBI). The downgrading of government bonds, by Moody’s Investors Service on Thursday, took the steam out of a long anticipated market rally ahead of South Africa’s formal addition to the WGBI as from yesterday.

The rating agency cut South Africa’s credit rating one notch from A3 to Baa1, a move which outweighed the country’s new status as one of only five emerging markets on the 23 country index.

Friday’s bond data showed “surprisingly low” net purchases worth R151 million by non-residents, according to Leon Myburgh, a strategist at Citi. This in a month when net purchases were worth almost R9 billion. “Existing investors decided to use the WGBI entry as a profit opportunity. Initial indications are that the selling by existing investors was very large indeed.”

He noted a significant increase in bond trading activity on Friday. “Total trading volumes jumped to R72.7bn, which is the third-largest daily trading volume in history. This turnover is 2.3 times higher than the average for the last two months.

“Non-resident turnover was also exceptionally high at R23bn, 2.8 times higher than the average turnover for the last two months.”

Inclusion in the index will attract tracker funds which must replicate the index, with a weighting of South Africa.

Citi said in April that the inflows related to South Africa’s inclusion could amount to between $5bn (R42bn) and $7.5bn over a period.

Myburgh suggested last week that more than $2bn in additional offshore money could flow into 12 South African government bonds on Friday.

Yesterday he warned against reaching any firm conclusion based on one day’s data. “Many trades were booked very late on Friday and we need to monitor

0.45 percent for the data for the next few days before we can make [or] draw final conclusions.”

Mark le Roux, the head of fixed income at Coronation Fund Managers, said bond yields rose yesterday. “The bellwether R186 government bond climbed from 7.41 percent at Friday’s close to 7.55 percent late yesterday.”

He attributed this largely to a continued sell-off after the Moody’s downgrade.

Bruce Donald, an analyst at Standard Bank, said: “Bad news over the past couple of days has possibly led some to reassess their views on the rand outside of WGBI considerations.”

He suggested this factor could introduce a bit “more two-way traffic than might otherwise have been the case”.

Donald is “much more bearish on the rand than consensus”. He predicted the currency would be R8.75 to the dollar by the end of the first quarter of next year. “This is premised in part on US dollar strength and persistent softness in commodity prices, but… also on rising domestic specific risks.”

The rand weakened from R8.23 to the dollar last Thursday to R8.30 at Friday’s close. It was bid at R8.3207 at 5pm yesterday.

Donald identified Moody’s downgrade announcement on Thursday afternoon and “awful preliminary trade numbers for August on Friday” as reasons for rand weakness.

The trade deficit almost doubled from R6.7bn in July to R12.2bn in August.

“The rand was also hit by a bout of dollar strength on Friday afternoon,” Donald said.