Vodka for Nuts Clouds Prospects for Bonds: South Africa Credit

Vodka for Nuts Clouds Prospects for Bonds
The rand has dropped 5.3 percent against the dollar in the past three months. Photographer: Chris Ratcliffe/Bloomberg

South Africa’s decision to replace nuts and lentils with vodka and cheese in the consumer price index is damping chances of slower inflation and a recovery for the world’s worst-performing bond market.

The new measure will also leave out vienna sausages, add tablet computers and give a heavier weighting to electricity and fuel. Those changes may cause inflation to remain near the top of, or exceed, the central bank’s 3 percent to 6 percent inflation target, Leon Myburgh, a Citigroup Inc. rates strategist, said by phone from Johannesburg yesterday.

The worst labor unrest since the fall of apartheid, two credit-rating downgrades and a weaker rand have left investors in South African government bonds with losses of 5 percent in dollar terms this quarter, the most among 26 sovereign indexes compiled by the European Federation of Financial Analysts Societies and Bloomberg. Polish debt has earned 1.5 percent this quarter and Hungarian bonds returned 2.7 percent.

“The current trend is likely to be well in breach of the target,” Myburgh said. “This certainly has to take the edge off anyone who was thinking of possible rate cuts because inflation is quite a bit higher than we thought.”

The inflation rate would have been 6 percent in September using the rebased data and new weightings for the consumer-price index, Myburgh said. Inflation quickened more than forecast to 5.5 percent that month from 5 percent in August, Pretoria-based Statistics South Africa said on Oct. 24.

Gasoline Gains

While the weightings for food and transport costs in the urban-area index will drop, those for electricity and fuel increase, the data agency said yesterday. The changes, and the rebasing to 2012 from 2008 prices, come into effect in January, it said. The higher weighting for gasoline in the new index will have the biggest effect on inflation, Myburgh said. The index was last adjusted in 2009.

Eskom Holdings SOC Ltd., the state-owned electricity company, is seeking to raise prices by an average 16 percent annually for five years, it said Oct. 22. The cost of gasoline has climbed 14 percent this year, according to Department of Energy data.

Inflation will probably be 20 basis points higher in the first half of next year because of the changes, Peter Attard Montalto, a London-based economist at Nomura Inc., said in a note yesterday. September’s inflation rate would have been half a percentage point higher, according to Johannesburg-based Absa Capital.

Inflation Risks

The Reserve Bank held the benchmark repurchase rate at 5 percent on Sept. 20 after a surprise rate cut on July 19 to stimulate the economy. Gross domestic product will expand 2.6 percent this year, slower than the 3.1 percent last year, the Reserve Bank said then.

Forward-rate agreements starting in four months, used to speculate on interest rates, rose 3 basis points, or 0.03 percentage point, to 4.95 percent yesterday, indicating that traders are paring rate cut bets. Rand bonds due in September 2015 erased gains after the data was released. The yields on the debt were little changed at 5.47 percent, after dropping as much as 3 basis points before the changes were announced.

Reserve Bank Governor Gill Marcus said in a Bloomberg TV interview on Oct. 31 that investors shouldn’t assume the central bank will automatically cut interest rates as she weighs inflation risks against weaker economic growth. Rising food and fuel prices and a weaker rand remain the biggest threats to the price outlook, she said.

The rand has dropped 5.7 percent against the dollar in the past three months, the worst performer of 16 major currencies tracked by Bloomberg. It weakened 0.3 percent to 8.6549 a dollar at 2:50 p.m. in Johannesburg.

Stable Rates

The yield gap between fixed-rate bonds due in five years and similar-maturity floating-rate debt, known as the breakeven rate, has risen 35 basis points since Sept. 26, the day before Moody’s Investors Service cut the nation’s credit rating one level to Baa1, to 5.64 percentage points yesterday, indicating investors are betting inflation will accelerate.

The new balance of goods and services in the inflation basket will help curb price gains, Busiwe Radebe, an economist at Nedbank Group Ltd, said by phone yesterday.

“In the short term, it may have the effect of containing inflation,” Radebe said by phone from Johannesburg. “Rates will stay stable.”

Sticky Inflation

The cost of protecting South African debt against non-payment for five years using credit-default swaps rose 19 basis points to 149 since mining strikes started on Aug. 10, indicating deteriorating risk perceptions, according to data compiled by Bloomberg. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent if the government fails to adhere to its debt agreements.

The new weightings will reduce the effect of the rand’s volatility on prices, damping the deceleration in inflation if the rand recovers, Ilke van Zyl, an economist at Absa Capital in Johannesburg, said by phone yesterday.

“It might be more difficult to get those positive periods where we see the inflation rate fall by a wide enough margin to give the monetary policy committee space to move,” she said. “You will probably see a stickier inflation rate going forward.”

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