The rand is notoriously volatile and can diverge sharply from a long-term trend in bouts of strength and weakness.
A strong rand is typically associated with:
- Ample global liquidity
- Strong global growth
- Surging commodity prices
- Benign politics
- Emerging market inflows, typically accompanied by outperformance of emerging market assets over their developed markets counterparts.
A weak rand is typically associated with a reverse of the above.
The factors supporting the case for rand strength at present are:
- Strong commodity prices
- A more synchronised improvement in global GDP
- A US Federal Reserve that, whilst in a tightening cycle, may be more willing to retain a relatively cautious attitude towards rate tightening.
The following are some considerations which would prevent a rampant bull market in the rand from current levels:
- Strong commodity prices proving unsustainable.
- Rates in the US rising far enough to divert investor capital to developed markets from emerging markets and high-yielding currencies such as the rand.
- The longer-term structural picture in SA remaining poor (this will be the case until such time as the government demonstrates a commitment to curbing corruption, reigning in the government wage bill and generally putting in policies that will result in private sector investment).
- Rating agencies keeping SA on negative watch, thereby not ruling out a downgrade of SA’s sovereign debt rating this year.
- Further damaging political actions.
In summary: The rand has strengthened materially and there is some risk it overshoots in the short term (6 months) on the basis of improving global fundamentals and firm commodity prices.
However, the market does not appear to be pricing in much of the way of political risk and longer-term institutional degradation taking place in SA. Consequently, the balance of risks to the upside and downside for the currency are fairly evenly tilted at this stage.
Source: Anchor Capital