Rand likely to weaken on expectations for rating cuts

South Africa’s rand is forecast to be 7% weaker in 12 months on expectations credit agencies will cut the local-currency debt rating to “junk” status, ejecting it from crucial bond indexes, a Reuters poll found.

The rand touched its strongest level in two-and-a-half months at 12.73 per dollar on Wednesday as rising tensions between North Korea and United States lifted gold prices. But it is expected to weaken to 13.62 against the dollar by the end of next August.

So far in 2017, the currency of Africa’s most industrialised economy has weathered the storm of downgrades to junk status, largely due to a weaker dollar and a slower pace of policy tightening by major central banks.

 

Rand one-year performance

 

South Africa’s sovereign debt was cut to sub-investment by Fitch and S&P in April after President Jacob Zuma fired Finance Minister Pravin Gordhan. In June, Moody’s cut its rating to one notch above junk with a negative outlook.

Fitch downgraded both foreign and local currency debt to sub-investment grade in April. Just one more rating downgrade would get it ejected from Barclays Global Aggregate Index and Citi’s World Government Bond Index.

“We expect that S&P Global Ratings will downgrade South Africa’s local currency debt to sub-investment grade; most probably by mid-year 2018,” Elize Kruger, at NKC African Economists. “Subsequent capital outflows will hurt the currency.”

However, Kruger said agencies would give current Finance Minister Malusi Gigaba a chance to implement reforms to the sickly economy before deciding.

South African debt has already been dropped from the JPMorgan Emerging Market Bond Index and exclusion from other major indexes would have a big shock, especially if sentiment for emerging markets deteriorated.

A relatively tame inflation outlook means the Reserve Bank may cut interest rates again this month and if not will do so in November, a separate Reuters poll found, but the highly volatile rand can easily change the inflation outlook.

Read: Rate cut likely in November; possibility of September

Growth is expected to average just 0.6% this year and 1.2% next year.

The currency will be tested in the next three months as the African National Congress is due to pick a successor for Zuma at its December Leadership conference.

Strategists said the type of leadership that emerges will set the tone for policy, a critical litmus test for further rating reviews. 

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