SA FX: It’s all about the U.S Dollar, rand converges to our target levels

Executive Summary

·        The U.S Dollar has made a dramatic comeback, strengthening to a four-month high. This was marked by the first two-week period of outflows from emerging markets since 2016. As a result, the performance high beta carry-trade currencies (like the rand and other emerging market currencies) have come under pressure, explaining the sudden weakness in the rand.

·        There are a number for factors behind the recent buoyancy in the US Dollar: 1) rising inflation expectations and supporting the prospect of higher interest rates from the Federal Reserve; 2) recoupling of interest rates between U.S and development peers; and 3) financial market participants take profit on stretched carry-trade positions amid concerns around slowing global growth and escalating trade tensions.

·        As a result of the stronger U.S Dollar, tighter global financial conditions have eroded into the gains of the rand and as a result, the rand is now above our 2Q18 forecast of 12.40 at R12.65, which we only envisaged to materialize in between 2Q18 and 3Q18. This is further evidence supporting our view that the rand is very sensitive to changes in the global environment via the carry-trade mechanism (see page two for more).

·        The U.S Dollar is a barometer of the changing global liquidity environment. A stronger U.S Dollar is a reflection of tighter global financial conditions which we believe does not bode well for risk assets like the rand, whereas a weaker U.S Dollar is a reflection of easier global financial conditions and bodes well for risk assets like the rand.

·        With no clear bullish local events on the horizon, we believe that the rand will continue to trade in-line with the international environment which will be dictated by the U.S Dollar. Should the U.S Dollar continue on its path stronger, we leave the likelihood open that the rand will move closer to our R12.80 target, which we only expected to materialize in the second half of 2018.

·        Short-term, we recommend keeping an eye on support at R12.43 and resistance at R12.68 (see our latest Technical Strategy note: “The US Dollar breaks out” of 3 April 2018 for a more detailed technical view on the currency).

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By | 2021-06-08T07:41:37+02:00 May 8th, 2018|Markets and Research|0 Comments

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