Rand gains 5% against dollar, but rally may be ‘blinding traders’ to risks

The rand 'has gained 5% against the dollar this month, the most out of more than 140 currencies tracked by Bloomberg', writes Colleen Goko.

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15 Feb 2021, 1:26 pm

The rand has gained 5% against the US dollar, with Bloomberg reporting the gain as 'the most out of more than 140 currencies' tracked by the Manhattan-based media company. However, the performance of the rand may be blinding traders to what lies ahead. Issues like government debt and state-owned companies (such as SAA and Eskom) are major drawbacks for those wanting to invest in SA. As Tito Mboweni prepares to present the national budget to the country next week, investors across the world will have their eyes fixed on the finance minister. 'Mboweni will have to convince investors he has a credible plan to support an economy that contracted the most in nine decades last year', says Bloomberg. – Jarryd Neves

By Colleen Goko

(Bloomberg) – The rand's world-beating rally may be blinding traders to risks ahead. The South African currency has gained 5% against the dollar this month, the most out of more than 140 currencies tracked by Bloomberg. It's riding the wave of a global risk-on trade spurred on by a weaker dollar, prospects of U.S. stimulus and the global hunt for yield. Vaccine rollouts across the world have also helped to improve the outlook for the global economy, boosting the prices of metals and other commodities.

Against this backdrop, traders have looked past South Africa's fiscal challenges. They'll be reminded of them when Finance Minister Tito Mboweni presents his annual budget to lawmakers on Feb. 24."While South Africa is one of the worst-performing economies in the emerging-market space from a macro standpoint, the market seems to like the rand," said Cristian Maggio, head of emerging-market strategy at TD Securities in London. "Either the hunt for yield is a blinding factor, or the rand is set for some sharp repricing."

Mboweni will have to convince investors he has a credible plan to support an economy that contracted the most in nine decades last year, while also curbing growth in government debt, which Moody's Investors Service says will rise to more than 100% of gross domestic product over the next two years by Moody's Investors Service. The market also wants clarity on plans for debt-ridden state-owned companies such as Eskom.

The median estimate of analysts in a Bloomberg survey predicts the rand averaging 15.25 per dollar in the first quarter. Instead, it's strengthened below a long-term trend line at 14.65, and technical indicators suggest that the rally still has legs, according to Warrick Butler, the Johannesburg-based head of foreign-exchange trading at Standard Bank.

"Flows continue to support the rand via a strong export-led economy and international short-term investments into the bond market," Butler said in a note to clients. "It is very hard to see a different picture emerging."

Bearish bets on the currency are declining, with the premium on options to sell the currency over those to buy it in the next month falling to its lowest level since mid-December. Implied volatility over the same window has also dropped to a two-month low, suggesting options traders see price swings moderating.

The rand's status as an emerging-market proxy also saw it gain 14% in the fourth quarter, outperforming peers. But while the currency tends to outperform during risk-on bouts, it also tends to fall further when the mood changes, said Piotr Matys, a London-based emerging-market strategist at Rabobank. And that should be a warning for traders getting in on the rally.

"Apart from capital outflows, weak economic fundamentals become a major burden for the rand, which causes substantial losses often to excessive levels," Matys said. "As long as the rand remains one of the most liquid emerging-market currencies and the Reserve Bank refrains from intervening and allows it to trade freely, the vicious cycle of spectacular rallies followed by substantial corrections is likely to continue."

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