Holdyourhorses

• Global: Markets cool as eight-day rally in Chinese stocks comes to a halt
• SA: Factory output decimated in April as level 5 lockdown bites
• Rand: Consolidation as risk sentiment wavers
• Local rates: Markets de-risking ahead of the weekend

What to watch today 

• JN PPI
• US PPI
• CH Money Supply M2
• CH Foreign Direct Investment 

Economics and markets

• Chinese stocks soften overnight as two state-backed funds trim their holdings of megacap shares.
• Aggravated by geopolitical tensions, markets are expected to simmer today after bubbling over earlier this week.
• This spells trouble for EM currencies, which have advanced 0.6% in aggregate this week per the MSCI’s measure.
• Moody’s most recent credit opinion of SA speaks to the heightened growth and fiscal risks characterising the country.
• SA’s economic conundrum is made worse by the possibility of load-shedding.
• USD/ZAR opens at 16.83; EUR/ZAR at 18.99; GBP/ZAR at 21.22 and CNY/ZAR at 2.40

That sherbety aftertaste that we referred to yesterday is still lingering. As the sweetness of the past week dissolves, investors purge themselves of excess risk. Chinese stocks, which have led the global exuberance, softened overnight as two state-backed funds trimmed their holdings of megacap shares – a possible sign of concern by Beijing over a potential re-enactment of the 2015-16 stock market turbulence. The arrest of the eight-day rally in Shanghai choked Asian equities, following on from the 0.5% slide in US stock futures in Thursday’s session after the sunbelt reported a record number of deaths. 

Market distress over rising covid-19 cases has been relatively hushed this week with anxiety expressed through specific assets such as the Australian dollar. In the absence of an offsetting influence like positive real economic data (of which we expect none today due to the emptiness of the data calendar), covid-19 concerns have risen to the surface. Aggravated by geopolitical tensions, markets are expected to simmer today after bubbling over earlier this week. With US officials expected to announce as early as today further tariffs on France in retaliation over taxes imposed on US technology giants, moves will probably be erratic across the board.  

This spells trouble for EM currencies, which have advanced 0.6% in aggregate this week per the MSCI’s measure of EM FX performance. The rand is already struggling, treading water at 16.91 against the greenback, roughly 0.04% weaker than its opening level. One-month implied USD/ZAR volatility has increased a tad relative to the previous session, aligned to the weakening in the spot level. We begin to contemplate USD/ZAR17.00 if the US dollar remains firm, though the unit lacks impetus for large moves in either direction which should result in a narrower trading range, provided that local news is overlooked. 

The spectacular 50% year-on-year drop in SA factory output in April was more severe than consensus forecasts. Yet the narrowing of activity is unsurprising under level 5 of the lockdown. Subsequent readings should improve as operations are restored, though business confidence in future economic conditions, which is inextricably linked to the rate at which covid-19 is spreading, suggests a modest uptick in 2H20. SA’s economic conundrum is made worse by the possibility of load-shedding, as certain generating units experience unplanned shutdowns. The prospect is chilling ahead of one of the coldest weekends of the year. 

The icy mood is mimicked in Moody’s most recent credit opinion of SA, which speaks to the heightened growth and fiscal risks characterising the country. The messaging is consistent with the narrative that underpinned its downgrade of the sovereign in 1Q20. While the negative outlook incorporates the agency’s dour forecasts, a realisation of the NT’s passive scenario could justify further downward ratings action. The risk isn’t apparent just yet in market activity as investors maintain interest in local debt securities. Still, if the situation continues to deteriorate per the NT’s worst-case scenario, then the premium demanded to hold SA risk will naturally increase, complicating the sovereign’s already stressed funding plan (refer to the local rates section). 

Nema Ramkhelawan-Bhana

 

Local rates

After a brutal start to the week for SAGBs, the yield curve managed to pare back some losses yesterday, with the curve bull flattening. The bulk of the non-comp options were exercised, with R186s and R2030s well in the money, while R1.7bn of R2048s, which were at the money at the time, got taken up. Given the lack of major data out this week, bonds have been tracking the currency and the general risk-on theme in the markets. 

Overnight, risk sentiment has halted somewhat as market participants de-risk ahead of the weekend. We should see this filter through to the SAGB market today with yields expected to trade a touch weaker. 

The National Treasury will come to market today looking to issue R2bn of inflation-linked bonds spread across the I2025s, I2038s and I2050s. Optimistically, we expect that the auction will see sufficient bidding interest, although the average clearing yields of these auctions might be optimistic. The I2025 has seen breakeven inflation levels widen levels widen to 3.33% which, albeit low, is still high in comparison to near-dated inflation expectations. The I2038s and I2050s are approaching 5%, which although still comparatively more expensive than the nominal bonds, is nevertheless attractive to the long-term buy and hold investor. Our expectations are that the auction will be fully allocated, however, clearing above current mark-to-market levels. 

If the inflation auction isn't fully allocated again, we might see this filter through to the nominal market as witnessed last week, as investors doubt the National Treasury's ability to fully fund its needs as auctions continue to fail. 

Michelle Wohlberg