Rand Vulnerable to China Headwinds and US Rate Hike

The uncertainty that comes along with the Fed timing the first rate hike couple with China headwinds still poses some risk to the downside for the Rand exchange rates. China has been of considerable importance not just for the South Africa’s economy, but to the global economy as a whole as well and we have seen this as every other major Central Banks are adjusting their monetary policy in accordance with the events from China. Even the South African Reserve Bank has been forced to pull back from their “ambition” plans to continue the hiking cycle and we can see a strong pattern here among all Central Banks as everyone who attempted to hike the rates in the end was forced to cut back the rates at previous levels as the economic outlook has worsened.

Amongst those market theme that are concerned about the financial stability, the health of the global markets going forward is global growth. China is definitely one of the touching points of global growth. When it comes into the concepts of whether Fed is going to hike rates or whether the ECB or BOJ will be motivated to expand upon their monetary policy, it becomes very important to the global growth.

Figure 1. World GDP

Figure 1. World GDP

The weak links or the risk theme that threatens global growth includes, among other the Emerging Market economies which are far more exposed and risky. Despite a strong rebound in the Emerging Markets capital markets, we haven’t seen a significant change in the fundamental themes, quite the opposite as we don’t have many fundamentals that have improved all that much. What we have seen instead is a shift in positive sentiment that there is going to be some stability in this market despite negative headwinds.

This is precisely the reasons why South Africa Rand remains vulnerable because China as a major export destination for South Africa goods, has stalled at 7% growth rate and on top of that, China has shifted towards an economy that is focusing on domestic consumption-led growth rather than international trade. The Rand is more than just an EM currency it’s also a commodity currency and the sentiment towards commodity market remains largely negative.

Figure 2. USD/ZAR vs. Bloomber Commodity Index

Figure 2. USD/ZAR vs. Bloomber Commodity Index

Commodities are the next thing we have to keep a close eye on because currency like the Rand, which is dependent on the commodity exports and it will rise and fall depending on how this commodity prices performs. We can also see that the commodity is very important for the consumer and the producers, but it seems that it is taking on a more of a role of representing the supply side so if commodity are lower, it seems to be perceived as a risk which in turn will put more downside pressure on the commodity currencies like the Rand.

While some of the weakness in the SA Rand may be caused by the global risk sentiment, the domestic developments and the internal affairs are adding fuel and most likely will keep SA Rand under pressure. The student protest on-going in South Africa is adding to that uncertainty and ultimately what it does, it’s sending the wrong message to investors who want predictable and stable economic environment and South Africa as an Emerging Market is dependent and desperately in need of this foreign capital.