SA plunges deeper into junk
New low with S&P downgrade
SOUTH Africa begins this week on a new low, with potentially billions of rands in capital beginning to flow out of the country as investors react to the credit ratings downgrade on Black Friday.
S&P Global Ratings downgraded South Africa’s local currency rating to junk and cut the long-term foreign currency rating further into sub-investment grade. Also on Friday, Moody’s Investors Service placed South Africa on review for downgrade.
S&P said the downgrade reflected a further deterioration in South Africa’s economic outlook and its public finances. Among the factors hurting South Africa was that its growth was among the weakest of emerging market sovereigns, at the less than zero per capita that it now is.
But S & P said it could raise the ratings if economic growth or fiscal outcomes strengthened.
The ratings action could trigger a sell-off in government bonds by institutional investors from mostly developed countries. This in turn could lead to domestic inflationary pressures as the rand is expected to be hammered over the next few days. Shortly after the rating was released, the rand weakened to R14.15/$ from R13.88/$.
Some investors, who are mandated to invest in emerging markets, can only hold investmentgrade stock and with the downgrade of South Africa’s local currency rating by S & P, the government’s debt rating is now twothirds of the way into junk.
The downgrade by just S&P means South Africa drops out of the Barclays Global Aggregate Index. It is significant but has fewer implications than an exclusion from the Citi World Government Bond Index, which would have happened if Moody’s had also junked South Africa’s local currency rating.
But economists expect Moody’s, now the only one of the three international ratings agencies that has South Africa’s foreign currency and local currency rating on investment grade – although just one notch above junk – to downgrade early next year.
Fitch held its junk ratings for South Africa steady on Thursday, cautioning that the ratings were weighed down by low growth, large government debt, deteriorating governance and risks from ballooning debt at stateowned enterprises.
The Treasury said this week: “A ‘junk status’ rating has implications for the economy, state debt costs, state-owned companies and the ordinary man on the street. Since April 2017, when Fitch downgraded the country to ‘junk status’, the country has seen a recession, borrowing costs have increased, and revenue has underperformed.”
Economists are as yet unable to predict the extent of the fallout from the latest downgrade.
Citibank’s South Africa economist, Gina Schoeman, said exclusion from the WGBI, which is dominated by bonds issued by the US, Japan, the UK and other European governments and where South Africa has a weighting of 0.44%, would have seen estimated outflow ranging from $6-billion to $10-billion (about R80-billion to R140-billion). Exclusion from this index, which is made up of only investmentgrade debt from more than 20 sovereigns, is at the end of the calendar month after a rating action.
“Even if a WGBI exit is not triggered, the probability of an exit doesn’t disappear, it merely shifts to the next review in 2018,” Schoeman said.
But ratings agencies could adjust the outlook from negative to stable in June if the outcome of the ANC’s conference next month leads to an improved macroeconomic outlook.
Schoeman said rand reaction was highly debatable given multiple assumptions to be made, but a full junk rating means government debt would be deemed “less creditworthy and thus representative of a fundamentally weaker economy, currency and riskier investment destination”.
In the run-up to D-day on Friday, bond yields and the currency had begun to reflect this. Inflation- bonds jumped to the highest level in almost two years by Wednesday, which increased government debt.
Genesis Wealth CEO Wikus Marais said the downgrade had been priced in by bond buyers after Finance Minister Malusi Gigaba’s sombre medium-term budget policy statement, in which he highlighted the burgeoning debt burden and weaker tax revenue but gave scant detail on how the state would reduce its spending.
Bond yields were in the upper levels above 9%. Marais said many international passive fund managers mandated to track investment-grade bonds would have to withdraw and this volume would keep bond yields higher for longer “than where they would have stayed otherwise”.
But further impact would be limited,” Marais said. “I would be very surprised if it moved by 50 basis points.” — DDC