/ 28 January 2016

Massive foreign sell-off jolts SA

The Reserve Bank’s forex and gold reserves are up compared with a month earlier.
Refilwe Leso (Delwyn Verasamy/M&G)

Foreign investors pulled R12.8-billion out of the country in just one week this year. This was foreign capital invested in JSE-listed equities and South African government bonds.

It was withdrawn between January 18 and 22 this year, according to weekly reports prepared by the JSE, and is the largest of its kind since the 2008 global economic crisis and the fourth highest in South African history.

The capital outflows comprise R6.8-billion invested in equity and R6-billion in bonds.

A further outflow of R16-billion in equities and bonds occurred in November and December last year.

The cause is market turmoil exacerbated by President Jacob Zuma’s catastrophic decision to fire then finance minister Nhlanhla Nene and the subsequent fall of the rand.

A report released on Monday this week by Barclays Emerging Market Research highlighted this sell-off of bonds and equity.

The report, by economists Mike Keenan and Ndzutha Mngqibisa, says the capital outflows and South Africa’s large external funding requirements help to explain why the rand has already weakened by 6% this month.

“Last week’s renewed foreign selling was consistent with broad emerging market trends, given that local currency emerging market bonds also sold off aggressively after some respite around the turn of the year,” the Barclays report says.

Sanlam Investment Management’s economist Arthur Kamp says the market is telling the government that it needs to run a smaller current account with stringent fiscal policy.

He says there are two issues at play. The first is that the global financial position has tightened, which means capital to emerging markets is constrained. The second is a South Africa-specific issue – the country has a large trade deficit.n

Kamp believes that recovery will depend on the policy response of the government and the South African Reserve Bank; it has to raise interest rates, and the market would want to see a credible fiscal stance in next month’s national budget.

“A repeat of last year’s mini-budget will not be good enough. We need to be more stringent than that,” says Kamp.

To balance the current account payments, the country relies on foreign inflows into its equity and bonds markets. If these dry up, it can cause a balance of payment crisis, which would mean the government would have to find this money elsewhere, such as through loans.

If the money can’t be found, imports would have to be cut back, which would cause the economy to slow down.

Nedbank’s chief economist, Dennis Dykes, says the selling off of South African bonds and equities should be seen in the context of a world where there is “very little at all for investors”, particularly in emerging markets.

He says the thought of South Africa rushing off to the International Monetary Fund to get money is unlikely, but not inconceivable.

Dykes says a crisis of that nature would have to be triggered by an adverse policy decision by the government. What is more likely is the price of the rand and South African equities and bonds would eventually stabilise, investors would see value in them again and the outflow would start to reverse.

He adds that South Africa has been feeling the economic pain for 12 months, although it can probably be traced back as far as 2012.

“We have had very little respite,” says Dykes.

Meanwhile, there is no evidence that South Africa has been running down forex reserves in the face of the outflows. Bart Stemmet, of NKC African Economics, wrote in early January that the Reserve Bank had reported that the value of its gold and foreign exchange reserves held at the end of December rose by 1.4% month on month to $45.787-billion. The market had expected the reserves to slide by $456-million.

Stemmet says the reserves were down 6.8% year on year, but the Reserve Bank has enough reserves to cover five months, “which is sufficient to ward off any payment problems”.

The short-term outlook for the gold price and the dollar would put further pressure on the value of Reserve Bank’s holdings, according to Stemmet.

The Institute of Race Relations’s chief economist, Ian Cruickshanks, says if the sell-off of local equity and bonds continues, there could be dire consequences for South Africa’s trade deficit and balance of payments.

But he cautions that the sell-off may just be a “knee-jerk reaction” and that it takes time to spot a trend.

“There definitely is a drying up of foreign purchases of South African equities and bonds,” he says. “It’s going to have an impact, but I’m not sure it will develop into a crisis.”

Cruickshanks says foreign investors may see that South African bonds offer a much better return than, say, United States bonds, but the investor will also be looking at the strength of the local currency. A weakening rand would have a negative effect on the returns on South African bonds. “The foreign investor is looking at what return they will actually get.”

Cruickshanks says the weak rand is a major threat to the South African economy, because it doesn’t have the power to take on the speculators.

“We will get blown out of the water. We can’t take on the market,” he says. “We can only make the rand look more attractive by putting up interest rates.”

South Africa imports more goods than it exports and therefore runs a trade deficit, with the country paying out more money to its trading partners that it receives. Cruickshanks says borrowing money to solve a balance of payments crisis will be “putting off the day of reckoning”. “We can’t do that indefinitely.”