德银-新兴市场-外汇市场-ZAR战争：基本面反击-20180207-12页_609kb

Summary of "EM FX: ZAR Wars: Fundamentals strike back"

Core Content

This report presents a bullish outlook on the South African rand (ZAR), emphasizing that the recent rally following the ANC election is just the beginning of a more sustained appreciation driven by fundamental improvements. The analysis highlights several key areas that support this view: economic growth, disinflation, real interest rates, and trade balance improvements. The report also outlines a strategic approach to positioning in ZAR, considering both the upside potential and the risks associated with the recent sharp appreciation.

Main Views and Key Points

1. ZAR Rally Phases

• The ZAR rally has two phases:
  • Phase 1: A sharp appreciation following the ANC election in mid-December, driven by improved investor sentiment and Cyril Ramaphosa's election as ANC President.
  • Phase 2: A more gradual but sustained appreciation based on fundamental improvements.
• The first phase is likely complete, but the second phase remains positive and has room for further appreciation.

2. Growth Greenshoots

• Business confidence and investment activity are expected to improve as political risk recedes.
• GDP growth may surprise to the upside, as expectations are very low (IMF forecasts 0.9% for 2018).
• Leading indicators (e.g., SARB’s business cycle indicator, PMI) suggest an upward trend in economic activity.
• Hard data (e.g., retail and motor vehicle sales) is improving, supporting the aggregate growth beat index.

3. Disinflationary Trends

• Both headline and core CPI have declined significantly, approaching the 3-6% target range.
• Food inflation has dropped sharply, and inflation expectations remain well-anchored.
• Unit labour costs (ULC) have slowed, with SARB noting that ULC accounts for 80% of CPI.
• The stronger ZAR and lower-than-forecast ULC may lead to downside surprises in inflation relative to SARB's forecasts.

4. High Real Rates

• Disinflation and prudent monetary policy have contributed to high real rates.
• Real rates are currently at the highest since 2011, making ZAR more attractive compared to other EM currencies.
• ZAR offers the highest real rates among EM currencies, after RUB and BRL.

5. Improved Trade Balance and Current Account

• The trade balance has turned from a deep deficit to a record surplus due to rapid export growth.
• The current account deficit is at 5-year lows, indicating external balance improvement.
• The current account-based FEER model suggests ZAR is undervalued, implying potential for further appreciation.

6. Valuation Assessment

• ZAR has appreciated 11% since early December, but this is not considered stretched.
• It is now at fair value on DBeer and PPP, having previously been deeply undervalued.
• Historical data shows much larger TWI swings in both directions, indicating room for further appreciation.

7. Strategic Positioning

• The report recommends taking profit on the spot position and reverting to long-dated, limited loss downside options in USDZAR.
• A 9m 11.15 USDZAR digital put is suggested, indicatively priced at 16%.
• The use of options is preferred due to carry and skew being elevated, and to lock in profits from the recent rally.

Key Information

• Political risk is gradually improving, which supports the fundamental-driven appreciation of ZAR.
• Current account and trade balance improvements are key drivers of the second phase of the ZAR rally.
• Real rates remain high, providing currency support and attractive yields.
• Valuation is not a concern, as ZAR is not overbought and has room for further positive surprises.
• Risks include potential ratings downgrade (Moody's review on 23rd March) and reserve accumulation by the SARB, which could pressure the currency if political risk remains unresolved.

Conclusion

The report concludes that ZAR is well-positioned for further appreciation due to improving fundamentals, including growth, disinflation, and current account improvement. While the recent rally is strong, the authors suggest hedging strategies to manage short-term volatility and political uncertainty, while maintaining a long-term bullish stance. The ZAR is undervalued on the FEER model, and the real rates remain high, supporting the currency's medium-term outlook.