Is South Africa being “PICT” on ?
BRICs, Biits and PIGS*, it seems that the best way to advance your career as an economist is to invent a catchy acronym – coining the term “BRICs” in 2001 certainly did wonders for Jim O’Neal at Goldman Sachs. Now, courtesy of the investment bank BNP Paribas, we have the “PICTS” - Peru, India, Columbia, Turkey and South Africa. Last week we commented that South Africans underappreciate how important external factors are for local stock markets and the rand in particular. This week, BNP has identified South Africa as one of the five countries most likely to suffer from a US interest rate rise.
This is not the first time that changes in US policy have been bad for SA. After the global financial crisis, record low interest rates and quantitative easing in the US inflated bond prices and meant that investors looked further afield to achieve their required returns. Emerging markets and South Africa in particular benefitted from massive foreign portfolio inflows. The problem was that this wave of money hid underlying structural problems and took away the pressure to correct them. In 2013, Morgan Stanley included South Africa, Brazil, India, Indonesia and Turkey in a group call the “Fragile Five” because of their high inflation, large current account deficits, challenging capital flow prospects and weak growth. Morgan Stanley correctly identified that these countries were vulnerable to the withdrawal of the US’s $85bn per month quantitative easing program. In August 2013, when Morgan Stanley first published their report, the rand traded at 9.84 to the dollar, today it trades at 12.28, a 20% deterioration.
In their recent analysis, BNP ranked 16 large emerging market countries on 20 macroeconomic variables. The PICTS came out the worst and according to BNP are the most vulnerable to further tightening of US monetary policy. Does this mean further rand weakness? A US rates rise should come as no surprise to the market as Federal Reserve Chairwoman, Janet Yellen, has stated explicitly that she expects it to happen this year. The author of BNP’s report however thinks that investors are “wildly complacent” if they think that a rates rise is already priced in. He therefore predicts abrupt moves in currencies and interest rates in weak emerging markets.
If a rate rise is not priced in, expect dollar strength, capital outflows from emerging markets and further currency depreciation. The pressure on Africa will be made worse by slowing growth in China and falling commodity prices. South Africa’s vulnerability to these external factors is largely self-inflicted. The country needs to be much more proactive in addressing the structural impediments to growth – particularly underinvestment in infrastructure such as Eskom.
Although we think that clients should be aware of the risk of further deterioration in the rand, we remain positive on Africa. At a micro level we continue to see excellent business opportunities and believe that a rand weakness represents a good opportunity for foreign investors to get involved in the country.
*BRICs = Brazil, Russia, India, China / BIITS = Brazil, India, Indonesia, Turkey, South Africa / PIGS = Portugal, Ireland, Greece, Spain