Where is the rand headed?

After declining by 28,5% against the US dollar, 24,3% against the euro and 0,6% against a very weak British pound, the rand has surprised many market experts through its resilience this year. For the year up to 31 July 2009 the rand has recovered by 22,6% against the US dollar, 18,7% against the euro and 5,9% against the British pound.

According to Dr Prieur du Plessis, Plexus group chairman, the rand’s strength cannot be ascribed to dollar weakness, as the dollar was flat against the euro (losing only 0,5%) and stronger against the yen (gaining 4,4%). The dollar showed weakness only against the pound (losing 13,1%), which was perhaps to be expected after the pound’s dismal 2008.

Consensus opinion is that the rand’s strength cannot be maintained. Economists polled in the latest Econometrix Ecobulletin predict weakness towards the end of this year, with an average rate of R8,57 against the dollar, R12,43 against the euro and R13,18 against the pound. Du Plessis warns investors who are making investment decisions solely on a weak rand to be wary.

“Many of the factors that resulted in the rand’s big losses towards the end of last year are abating or have disappeared,” says Du Plessis. He believes the main factor driving the rand’s strength is the recovery in commodity prices since February 2009.

“Although there have been times when the rand and commodity prices have moved out of kilter, such as the first half of 2008 when commodity prices continued rising and the rand lost value, there is a strong correlation between commodity prices and rand value,” says Du Plessis.

Foreigners, who were big sellers of South African financial assets during the latter half of 2008, have now turned net buyers, albeit small. This is positive for the rand. South Africa’s trade balance has turned from a deficit to a surplus in the past two months. “Although this is on the back of lower imports due to the recession, it has a positive effect on the rand,” says Du Plessis.

Furthermore, although South Africa’s inflation rate is considerably higher than that of most First World countries, which is a negative factor for any currency, inflation and interest rates are coming down and are possibly close to a bottom. While South African fixed-interest assets are perhaps not as attractive to foreign investors as they were a year ago, and inflows into our bond market have decreased, foreigners are still net buyers because of inflows into South African equities.

Political and economic stability also affect the value of the currency. “South Africa’s successful election indicates the country’s will and ability to build on its previous economic stability. However, unions' current aggressive proposals on nationalisation to save jobs create negative sentiment. Hard-line wage negotiations, which are the order of the day, also deter international companies, and could result in inflation spiralling up again. This will not have an immediate negative effect, so it should not weaken the rand, but it won't strengthen the currency either,” says Du Plessis.

"The FIFA World Cup Soccer tournament is less than a year away, yet is not having an immediate positive effect on the rand. However, Gill Markus's appointment as Tito Mboweni's successor and South Africa’s improved debt rating by Moody's are undoubtedly very positive for the rand, as the currency has reacted by strengthening."

Although the rand may weaken on the back of volatility in commodity markets during the second half of the year, Du Plessis believes the rand is likely to remain relatively stable over the next year or two. “There could even be further strength next year as global growth improves and commodity prices rise further,” says Du Plessis.

“I believe rand movement will play a smaller role in investment returns in future. Investors should thus rather focus on the fundamental return potential of the various offshore investment asset classes and geographic regions.”