Investors Clamoring for South African Linkers Risk Missing Boat

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Investors looking to index-linked bonds to protect them against inflation fueled by the rand’s decline may have missed the boat.

Inflation-linked debt returned 1.9 percent since the beginning of July as the rand slumped to a 13-year low, beating the 1.4 percent return on fixed-rate debt and 0.5 percent for stocks, according to Bank of America Merrill Lynch indexes and data compiled by Bloomberg. With yields on linkers now at the lowest since May, and oil back near $50 a barrel, the time to buy has passed, according to Gryphon Asset Management Ltd.

South Africa’s central bank forecasts inflation will breach the 6 percent upper limit of its target range in the first quarter of next year, fueled by rand weakness driving up the cost of imported goods. That may be too pessimistic given the 22 percent slump in the price of crude oil, South Africa’s biggest import, this quarter, said Abri du Plessis, a money manager at Cape Town-based Gryphon.

“I’m not a huge fan of linkers right now, especially after the run they’ve had,” Du Plessis, who recommends buying dollars and other cash investments rather than stocks or bonds, said by phone on Aug. 7. “South African debt generally is too optimistically priced.”

Demand Falls

Demand fell at an auction of linkers, as the securities are known, on Aug. 7, with investors bidding for 2.7 times the 650 million ($51 million) on offer. That compares with a bid-offer ratio of 3.1 at the previous auction on July 31, which was the highest this year.

The consumer inflation rate in Africa’s most-industrialized economy climbed for a fourth month in June to 4.7 percent. The measure will peak at 6.9 percent in 2015, with the rand the major risk, the South African Reserve Bank forecast on July 23 when it raised its policy rate for the first time in a year, to 6 percent from 5.75 percent.

The yield difference between five-year inflation-linked bonds and similar-maturity fixed-rate debt, a measure of investor expectations of average inflation known as the break-even rate, has eased 20 basis points to 6.5 percentage points from a one-year high on June 17.

The government projects the economy will grow 2 percent this year, after expanding 1.5 percent in 2014, the slowest pace since the 2009 recession.

‘Huge Effect’

“I’m more bullish on inflation than my peers,” Du Plessis said. The oil-price drop “is going to have a huge effect” in subduing price increases, he said.

Yields on benchmark inflation-linked securities due January 2025 were little changed at 1.56 percent by 3:08 p.m. in Johannesburg on Tuesday after falling 27 basis points since June 10. The rand weakened 0.6 percent to 12.7254 per dollar, bringing its decline this quarter to 4.4 percent.

“Real yields are too low,” Rashaad Tayob, who helps manage about $5.9 billion as a portfolio manager at Abax Investments in Cape Town, said by phone, referring to the return index-linked bonds offer above the inflation rate and adding that he didn’t buy linkers during July. “When it goes up toward a fair-value level of around 2.3 percent to 2.5 percent, that’s the time you want to be buying them.”

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