MPC keeps rates steady on stable data and rand improves as investors shun ruble
Malcolm Charles,portfolio manager at Investec Asset Management, says the South African Reserve Bank has retained its credibility as inflation targeters, and with risks to the upside they stand ready to act.
Unlike January's MPC meeting, the market was not caught on the back foot by today's announcement. As was widely expected, the South African Reserve Bank (SARB) keptrates on hold.
Governor Gill Marcus has been at pains to point out that any future hikes would be data dependent. Given that economic data has stabilised since January, there really was no reason for her to hike now. Indeed, portfolio flows have reversed following the all-time record outflows of R26 billion recorded in the bond market in January.
The outflows stabilised in February and this month - particularly over the last two weeks -interest in the SA bond and currency markets has returned.
This doesn't necessarily signal that South Africa's fundamentals have dramatically improved, but rat her, that we are turning out to be the best of a bad lot. Ironically, the conflict in Crimea has benefited South Africa's currency. The biggest theme at play towards the end of last year was to position portfolios for a global recovery. With the oil price on the rise and Russia an oil exporter, it was a simple decision to overweight Russia on fundamentals in emerging market portfolios. South Africa, in contrast, is the world largest platinum producer, but the crippling strike has left our platinum ocked underground since the middle of January.
On a pure trade basis, many currency and bond funds therefore chose to overweight their exposure to the oil exporter and underweight their exposure to the platinum producer, a trade which weighed heavily on our currency and bond market.With the realisation that the Crimean conflict could escalate into a real war, the oil/platinum trade suddenly lost importance, and the ruble underperformed the rand by almost 10% as investors scrambled to neutralise their positions.
What they came to understand was that despite the ongoing platinum strike, South Africa still has a functioning democracy, very credible monetary policy, good fiscal discipline and a strong banking system. As a result, we saw about R10 billion returning to South Africa in the last week on an absolute basis and relative to other emerging markets. In our view, the rand was completely oversold at R11.30 to the dollar. We believe near - term fair value for the rand is closer to R10.50, not far from where it is now trading. Nonetheless, as we all know, the rand remains one of the most volatile currencies in the world, so we expect it to trade in a range around 50c either side of fair value for the foreseeable future.
With regards to monetary policy, there is no doubt that the SARB has retained its credibility as inflation targeters, and they continue to acknowledge that with risks to the upside they stand ready to act. Should the situation deteriorate, we have no doubt that they will do the right thing and hike again.We expect a further 50 - 75 basis points of hikes this year. Given our anticipation of a very muted hiking cycle, we therefore don't foresee any real shocks to the bond market in 2014.
Last year, bonds barely produced a positive return, but in our view this is because they repriced in anticipation of the rate hikes. The bond market has priced in a further 150 basis points in rate hikes (higher than our forecast of 50 -75 basis points), and with that in place, we believe the 8.5% yie ldon a ten-year bond is attractive. Government bonds are therefore likely to produce a decent real return for 2014. We are now entering our third year of negative real returns from cash, with very little prospect that this will improve. Even though the yields on government bonds are reasonably attractive, corporate bonds provide an extra 175 basis points. With yields between 10 -11%, corporate debt offers close on double the return on cash, so we are overweight corporate exposure in our fixed income portfolios.
The lesson we have learnt since 2008 is that corporations borrow money to make profits (and so to pay back debt), while many governments borrow money to get re-elected,choosing to spend money on short-term activities that gain votes rather than long-term infrastructure programmes that foster growth. As long as you have a rigorous credit process, you should feel very comfortable lending to good-quality South African companies that are well managed and have sound balance sheets.
Notes to Editors
About Investec Asset Management
Investec Asset Management is an independently managed subsidiary of Investec Group.
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*As at end September 2013
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