South Africa’s rand is poised for recovery after hitting the bottom

Despite slumping to a record low in April, the currency is poised for a rebound as emerging markets recover from the effects of Covid-19

The rand’s tentative recovery from a record low of 19.35 per dollar is encouraging options traders to prune bets on further losses. Bloomberg

Just when you thought things couldn’t get any worse for South Africa’s rand … they probably won’t.

The currency slumped to a record low against the dollar in April, roiled by a slew of bad news: an ever-widening fiscal gap and soaring government debt; credit-rating downgrades leaving the country deep in junk territory; expulsion from a major bond index tracked by trillions of dollars of funds; and the implosion of the economy amid a strict coronavirus lockdown.

But there are signs the bad news is priced in, and the rand may be poised for a rebound as emerging markets recover from the devastation of the coronavirus pandemic.

The rand’s tentative recovery from a record low of 19.35 per dollar is encouraging options traders to prune bets on further losses. Implied volatility, which measures expected swings based on the price of options to buy and sell the rand, fell below actual volatility at the end of March, suggesting traders expected fluctuations to start moderating. That spread has continued to widen and is now the biggest in almost 11 years.

Investors in the futures market are becoming more bullish. Traders now hold a net long-rand position, meaning contracts betting on rand gains against the dollar outweigh wagers on declines, Commodity Futures Trading Commission data show. That’s a turnaround from late March and early April, when net shorts were at the highest level in more than a year.

The rand’s slump has pushed a technical indicator known as the relative strength index above the oversold level. The South African currency’s monthly RSI has moved above 70, a level that suggests to some traders that the sell-off has gone too far and the rand may be poised for a rebound. The last time the monthly RSI was above 70 was in March 2016, when it preceded a 10 per cent gain in the ensuing 12 months.

The relentless sell-off of South African government bonds – 60 billion rand ($3.2bn) of outflows this year – has started to ease. A key risk – the country’s exclusion from the FTSE World Government Bond Index – came and went at the end of April. That means investors eyeing South Africa’s relatively high yields don’t have to worry about a sudden surge in outflows. The 30-day moving average of daily outflows has dropped to 588 million rand, from as high as 2.3bn rand in April.

Meanwhile, the rand posted a second straight week of gains last week for the first time this year. And after being one of the worst emerging-market currencies in the first four months of the year, it is one of the top performers in May. With risk appetite returning as countries around the world ease lockdown restrictions and Federal Reserve policy measures weaken the dollar, and with little on the local front to spook investors, that may just be the start of a trend.

“The rand will follow the course of the world’s financial markets,” said Warrick Butler, a Johannesburg-based trader at Standard Bank Group, which sees the rand appreciating to 16.50 per dollar by year-end. “Domestic issues are no longer a major concern, unless of course we get an outlier situation.”

The South African currency gained 0.5 per cent to 18.2631 per dollar by 8:36am on Monday in Johannesburg, bringing its advance this month to 1.4 per cent.