Rand's Wild Ride Shows Cost of Being a Currency Everyone Tradesby
South African currency is proxy for emerging-market peers
Volatility higher than Brazil's real as political risk rises
It took just a hint of strife at South Africa’s National Treasury to send the rand tumbling 3.5 percent in a day -- and one statement from the president’s office to bring it right back again three days later.
Already afflicted by its status as a proxy for other emerging markets’ woes, now South Africa has to contend with a domestic crisis. Together these drivers have seen the rand overtake the Brazilian real as the most volatile major currency, which is deterring foreign investment. Outflows from stock and bond markets reached 37.8 billion rand ($2.4 billion) since the beginning of November, wiping out the 34.5 billion rand of inflows in the previous 10 months.
“That’s the thing about the rand, it will be used to hedge global investors’ positions in terms of risk aversion,” Ion de Vleeschauwer, chief currency dealer at Bidvest Bank Ltd., said by phone from Johannesburg. “You can enter the hedge quite quickly and you can exit it quite quickly because there is enough liquidity in the market. It’s not for the faint-hearted, this currency.”
The rand’s gyrations underline the perils of maintaining a free-floating exchange rate on a continent where so many countries have restricted trading. That means South Africa’s currency is often traded where it’s not possible to deal in Nigerian, Ghanaian or Kenyan assets, and makes it more susceptible to losses amid the turmoil stalking global markets.
The South African currency has plunged 25 percent in the past year, weighed down by a slump in commodity prices, slowing growth and the prospect of U.S. rate increases. Now it’s also victim to investor concerns about who holds the purse strings after President Jacob Zuma fired his finance minister in December. The rand declined 0.7 percent to 15.6592 per dollar by 5:30 p.m. in Johannesburg.
As well as being the most volatile currency among 16 peers tracked by Bloomberg this year, traders expect the out-sized price swings to continue. Implied three-month volatility overtook the real on Feb. 26 after climbing 310 basis points to 19.15 since the beginning of December. That was when Zuma appointed an unknown lawmaker to replace the respected Nhlanhla Nene at the finance ministry, only to change his mind under pressure from business leaders and his own party and reinstate Pravin Gordhan, who was finance minister from 2009 to 2014, to the post.
The rand fell the most in four years on Feb. 26 after Business Day reported Gordhan had threatened to resign over a dispute with his tax chief, a Zuma ally. It recovered most of that loss on Feb. 29 when the president issued a statement backing the finance minister, reassuring investors, at least for now.
“Global risk aversion is still expected to dominate rand trends this year,” Mohammed Nalla, head of strategic research at Nedbank Group Ltd. in Johannesburg, said in a report on March 1. “But both local and foreign investors are responding far more aggressively to adverse local political developments since December.”
South Africa’s central bank doesn’t intervene in the market or use interest rates to support the rand, unlike its counterparts in Nigeria and Ghana, which have raised borrowing costs and restricted trading to stabilize their currencies -- at the price of stifling growth in economies already hard-hit by a slump in oil prices.
The rand is the 18th most-traded currency, with a 1.1 percent share of daily market turnover, according to a 2013 report by the Bank for International Settlements. That makes it the most-traded African currency and comparable with the Brazilian real and the Indian rupee.
While the immediate cost to South Africa of maintaining a floating currency has been higher inflation, in the long run it should support exports and curb imports, stimulating the economy. Growth is set to slow to 0.9 percent this year, from 1.3 percent in 2015, according to government forecasts. Signs of that are already emerging, with export growth estimated at 9.5 percent last year, according to the National Treasury.
The rand’s problem is it carries a political premium. It has weakened 7 percent since Dec. 9, when Zuma fired Nene, while the JPMorgan Emerging Market Currency Index has lost 0.1 percent. That may drive inflation even higher, eroding the competitive advantage that a depreciating currency brings, the Treasury said in the budget review presented to lawmakers on Feb. 24.
Given the high trading volumes and relatively low foreign reserves, the Reserve Bank has little option but to let the currency float, according to William Jackson, an emerging-market economist at Capital Economics Ltd. in London.
“It can be painful in the short term but I think over the medium term it’s a more efficient solution,” he said.