Rand – worst performing emerging market currency

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By Kevin Lings

Unlike the 2001/2002 SA currency crisis, when the reasons behind the Rand weakness were difficult to ascertain, the cause of the current Rand currency crisis is clearly rooted in the global financial market turmoil and subsequent increase in global risk aversion. The increase in risk aversion is reflected in SA’s sovereign risk spread crashing to a massive 683bps over the equivalent US bond, which is the weakest on record (see chart attached). This compares with a low of 50bps during 2007 and a 2007 year-end level of 164bps.

The fact that SA has been systematically running a very large current account deficit (in excess of 7% of GDP), which has been mostly funded through portfolio inflows, has obviously exacerbated the weakening. During the first 22 days of October, foreigner’s have sold a net R22.6bn of SA equities, which is the largest monthly sell-off by foreigner’s every recorded in SA. In the year to date, foreigner’s have sold a net R43.7bn of SA equities. This is very substantial, and in sharp contrast to previous years. In 2007 as a whole foreigner’s bought a net R64.16bn of SA equities and a net R220bn over the period 2004 to 2007.

The dramatic acceleration of foreign equity sales (and some bond sales) has clearly weakened the Rand. In the year-to-date, the Rand has weakened by 31.7% on a trade-weighted basis and by 41.1% against the Dollar. This makes the Rand the worst performing emerging market currency this year (see chart attached).

Given the massive foreign selling of SA equities (and bonds), it is no surprise that the SA stock market has been under enormous pressure. In the year-to-date, the SA equity market has lost around 30% of its value in Rand terms and a massive 58% in Dollar terms.

This sell-off (across all assets classes and markets) is simply overdone. This is especially the case when one considers SA’s strong fiscal position (budget surplus, very low government debt, low debt servicing cost, and extremely low risk of default), and the significant improvement in our external vulnerability ratio (healthy exports, very low foreign debt, and a significant increase in our foreign exchange reserves). In addition, SA’s banking sector is also in relatively good shape considering it is mostly domestically owned, well capitalized and well managed, with relatively low levels of bad debt levels; albeit on the rise. The corporate sector also remains profitable and under-leveraged.

Source: Kevin Lings, Stanlib, October 23, 2008.


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