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Two sides to the coin: The positives and the negatives influencing the rand

Published

2017

Fri

11

Aug

By Adrian Cloete, Portfolio Manager at PSG Wealth Cape Town/Paarl
 
During uncertain economic times, we all tend to wonder what could happen next, where will the rand be, for example, relative to the USD ($) by the end of the year? As the rand is a very liquid currency driven by many macro-economic factors, it can be a somewhat futile exercise to try to predict its short-term direction. Every negative possibility has a counteracting positive possibility, proving just how difficult these types of predictions are. For example;
 
Negative influence
Positive influence
If SA loses both (S&P and Moody’s) remaining local currency investment grade sovereign credit, this could cause disinvestment by bond investors who can only hold investment grade bonds
If SA maintains both its remaining local currency investment grade sovereign credit and the rating agencies change their current negative outlook back to neutral, this would likely lead to a stronger rand
If market participants start to anticipate monetary tightening by developed markets like USA and Europe, then they might become risk adverse and sell emerging market assets/currencies (including the rand)
If market participants start to anticipate a delay/postponement of monetary tightening by developed markets, they might become inclined to take on risk and buy emerging market assets/currencies (including the rand)
If commodity prices start weakening again and this affects our terms of trade negatively, this might also cause rand weakness (if the oil price falls in isolation though, then this is positive as SA is an oil importer)
If commodity prices start increasing again and this affects our terms of trade positively, this might also cause the rand to strengthen (if the oil price rises in isolation though then this is negative as SA is an oil importer)
If investors perceive risks are increasing in South Africa as an investment destination, this might also cause rand weakness
If investors perceive risks are reducing in South Africa as an investment destination, this might also cause the rand to strengthen
As the rand is usually inversely correlated to the USD ($), a weaker Euro (€) would most likely cause the rand to also weaken relative to the USD ($)
Equally, a stronger Euro (€) would most likely cause the rand to strengthen relative to the USD ($)
A strong USD ($) against other major and emerging market currencies would also likely cause a weaker rand
A weak USD ($) against other major and emerging market currencies would also likely cause a stronger rand
Any event that causes investors to fear a global economic downturn or other threat to the global economy, or weaker commodity prices would likely lead to risk aversion and a weaker rand against a stronger USD ($)
Any event that causes investors to become optimistic about the global economy and higher commodity prices would likely lead to less risk aversion and a stronger rand against a weaker USD ($)
 
Investors really would do better to rather focus on analysing companies to identify shares that are attractive relative to their intrinsic values.
 
In the long-term, the value of the rand relative to the USD ($) is driven by purchasing power parity (PPP) or the inflation differentials. The rand exchange rate can deviate significantly from its PPP level for extended periods of time and the PPP just indicates a long-term general direction for currencies’ “fair values” against each other. Another problem with using PPP as a measure to see where a currency pair should theoretically trade, is how to decide at which date you start the analysis.
 
The current level of the rand relative to the USD ($) might be pricing in a lot of possible macro scenarios to some extent already.
 
The other element that is important is whether the currency you are measuring the rand against - so in this case, the USD ($) - is strong or weak at the moment of measuring. For example, the rand is currently relatively strong against the pound sterling, but that is partly because of a weak pound sterling due to Brexit. This too could change.
 
Taking a long-term view on company fundamental factors and focusing on where shares trade relative to their intrinsic values is a better approach to investing than trying to predict how the rand is going to trade on a short-term basis.
 
Source: Claire Densham Communications
 
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