News on the twin deficits today

FX

Today will see the release of preliminary trade numbers by SARS and National Treasury’s Statement of Revenue and Expenditure for July. The most important from a currency market perspective, to our minds, are the trade numbers. In June, the preliminary trade balance narrowed significantly to -ZAR0.2 billion, from an upwardly revised -ZAR7.4 billion (-ZAR6.6 billion previously) in May. Consensus pins the trade deficit for July widening out to -ZAR4.0 billion. SBGS economist Kim Silberman puts the result slightly wide of the consensus view at -ZAR5.2 billion. The trade deficit does generally worsen in July, largely as a result of a fairly reliable seasonal uptick in imports. Exports usually improve modestly in July, but this is typically outweighed by the push in imports. Exports increased by ZAR2.9 billion (3.7% m/m) in June, driven primarily by a strong rebound in vehicles and transport equipment (ZAR2.6 billion increase, 42% m/m), as vehicle production at the Mercedes Benz factory ramped up following retooling impacts through the preceding few months. We could see further increases in this category in July as the ramp-up continues. Mineral product exports fell sharply in June (-ZAR3.4 billion, -17% m/m) to well below the norm for this category. A rebound here could lend further support to exports in July. A decline in imports also contributed significantly to the improvement in the overall trade balance in June, declining ZAR4.4 billion (-5% m/m). There is potential for upside in precious metals exports, given that the PGM strike was resolved at the end of June, although a move among the mines to full production will likely take up to four months. In addition, given restructuring plans, which includes shaft closures, production is unlikely to reach pre-strike levels even once output ‘normalisation’ is complete. Precious metals exports increased by ZAR1.0 billion (10% m/m) in June. The main driver here was a marked decline in the imports of mineral products, which fell -ZAR6.0 billion, (-27% m/m) to ZAR16.5 billion. This is well below the average of the past 12 months, posing a potential risk that we could see a sharp pick up here in July. While there is some ambiguity in trade number impacts for the exchange rate via the monetary policy channel, we expect that anxieties regarding the size and bias of the current account deficit, and associated misgivings as to whether the rand is competitively priced, would dominate any currency market reaction.

Preliminary financing figures for July 2014, published earlier in the month by National Treasury, suggest that the budget balance could reflect a deficit of around -ZAR65.1 billion for the month. This would compare unfavourably with a deficit of -ZAR58.5 billion in July 2013. Consensus puts the outcome at –ZAR62.0 billion. Fiscal performance is key to any assessment of SA’s creditworthiness, and thus to prospects for SA’s sovereign debt ratings. Moody’s only last week downgraded SA’s major banks, and still has its sovereign debt on negative outlook. Fitch also has SA’s sovereign debt on negative outlook. The outlook assigned by S&P is meanwhile at neutral; while the agency’s long-term local currency rating of SA’s sovereign debt is in line with those of the other two at BBB+, its rating of SA’s long-term foreign currency sovereign debt sits below those of the other two agencies, and just one notch away from sub-investment grade at BBB-.

Local PPI numbers for July were released yesterday. Producer inflation came in at 8.0% y/y, slightly lower than June’s 8.1% y/y, but higher than the consensus prediction of 7.9% y/y. Producer inflation in the food products, beverages and tobacco category remained as one of the major contributors to the headline rate, growing 7.9% y/y (contributing 2.9 pps). However, food product inflation decelerated to 8.5% y/y in July from 9.6% y/y in June. Other notable contributors to the headline figure were coke, petroleum, chemical, rubber and plastic products (9,3% y/y, 1.6 pps), metals, machinery, equipment and computing equipment (9.5% y/y, 1.4 pps) and transport equipment (8.0% y/y, 0.8 of a pp). While above the consensus result, it is worth noting that the July outcome represents that third month in a row that y/y PPI inflation has decline, thus still pointing to mild easing of pipeline pressures with respect to CPI inflation. This represents good news in terms of monetary policy prospects and is thus rand negative.

Numbers for credit extension to the private sector (PSCE) and M3 for July were released by the SARB this morning. PSCE growth lifted to 9.8% y/y from a downwardly revised 8.6% in June (prior estimate: 8.7%), exceeding consensus expectations for a more moderate acceleration to 9.2%. The pick-up in the y/y growth rate was entirely due to an acceleration in growth of lending to corporates to 16.3% from 13.5%, due - in turn - mainly to a push from general loans and advances and some help from base effects. Growth of lending to households slipped further to 4.1% y/y in July from 4.3% in June. Growth of general loans and advances, one of the proxies for unsecured lending, slipped to an almost flat 0.2% y/y from 1.9%. While a higher than expected overall PSCE result could be viewed as interest rate negative, there is some ambiguity here in the continued deceleration in lending to households, which in real terms is contracting.

On the international front, Survey data in the US has been developing pretty nicely recently and the market expects this to continue today with the Chicago PMI survey. The consensus call is for a rise to 56.5 from 52.6 in July. However, we should remember that the Chicago PMI slumped a huge 10-points in July to 52.6, and hence the market is really looking for no more than a rebound towards the lofty 60-plus levels that were seen the whole way through Q2. Steve thinks that the market is being a bit conservative on its Chicago guesstimate and, if the data does come through a bit above consensus, it could weigh on treasuries and help the dollar. On the other side of the coin, if the Chicago number falls again, it would be a pretty negative sign, perhaps suggesting that the slump in July was not a flash in the pan. The second estimate of US GDP growth for Q2:14, published yesterday, showed the economy growing by an annualised 4.2% q/q - a faster pace than that seen in Q1:14 (4.0%) and above the consensus prediction of 3.9%.

Euro zone CPI data will be the most significant release this morning. The consensus call is for the annual CPI inflation rate to fall to 0.3% from 0.4%, but core prices are seen stable at 0.8%. Steve Barrow, our G10 FIC strategist, notes that the skew on the 38-person Bloomberg survey is to the high side for the headline CPI data, with 10 anticipating a number above 0.3% and just 3 expecting 0.2%. From what we can tell, the national country inflation data that we have seen already, which includes Germany, Spain and Belgium seems consistent with the consensus call, but there are clearly some big countries whose numbers we don’t know yet, such as Italy (which is also released at 10:00 BST today) and France. Sub-consensus data might stir speculation of policy easing from the ECB next week but, at the moment at least, Steve is sceptical that the Bank will do much more ahead of the first targeted long term repo (TLTRO) next month.

Eurozone M3 data, released yesterday, came in a bit above consensus, rising 1.8% y/y in July and 1.5% in three-monthly terms. However, the breakdown remained poor, with bank lending to the private sector falling again in the month, by EUR20 billion. Stripping out sales and securitisation, the drop in private sector credit extension was an unusually large EUR21 billion. By way of comparison, this figure fell EUR4 billion in June and EUR9 billion in May. The ECB still has targeted long-term repos to come to try to lift lending, however as Steve Barrow (our G10 FIC Strategist) points out, yesterday’s weak lending data underscores the battle which lies ahead for the ECB.

Yesterday’s Eurozone economic sentiment survey was much softer than expected, falling to 100.6 in August from 102.1 in July. The consensus was for a milder dip to 101.5. However, Steve Barrow notes that it was not too surprising that the data was soft after other poor readings on sentiment such as the recent ZEW survey. As expected, much of the weakness was concentrated in Germany, although Italy was very weak too. The Eurozone reading is once again at the lows reach earlier this year, which does not bode well for H2:14 growth.

The rand weakened against the US dollar yesterday, closing at USDZAR10.65, compared with Wednesday’s close of USDZAR10.61. The rand depreciated into a mixed performance from the dollar against the major crosses and a mixed to stronger performance from commodity currencies, but was consistent with a moderate decline in global risk appetite and thus a weaker performance from most EM currencies. The dollar weakened against the pound and the yen, while strengthening against the euro. The rand depreciated against all of the major crosses, with the biggest move seen against the yen (-0.5%). The ZAR was the only commodity currency among those we monitor that depreciated yesterday. All but one of the EM currencies we monitor depreciated on the day; the exception was the BRL. The rand was the third-worst performing EM currency (beating only the HUF and the RUB). The rand traded between a low of USDZAR10.6034 and a high of USDZAR10.6868. Support from where the rand opened this morning sits at 10.5800, 10.5200 and 10.4200. Resistance levels sit at 10.6900, 10.7700, 10.8500 and 10.9100.

Turning to commodity prices, gold and platinum rose by 0.6% and 0.4%, respectively. Copper and Brent meanwhile fell by 1.4% and 0.3%, respectively. The ALSI fell by 0.9% and the EM MSCI fell by 0.6% on the day. The EMBI spread widened by 6 bps and SAs 5yr CDS spread widened by 2 bps. The CBOE VIX index, a volatility proxy for global risk appetite/aversion, rose by 2.3%.

Non-residents were meaningful net buyers of local equities (ZAR754 million) but were mild net sellers of local bonds (-ZAR119 million). This followed two consecutive days of aggressive buying of local bonds. Selling of bonds was seen in the 1-3 (-ZAR523 million) and 3-7 (-ZAR126 million) year buckets. Buying was meanwhile seen in the 12+ (ZAR524 million) and 7-12 (ZAR6 million) year segments. Bond yields rose by between 4 bps (R208) and 7 bps (R203) into a bear curve flattening, but only partially reversing aggressive bull curve steepening on Wednesday. The 3x6, the 6x9 and the 12x15 FRAs rose by 4 bps, 8 bps and 13 bps, respectively.

FI

Today has the twin deficit data coming out, with trade and budget balance for July released at 2pm SA time. Consensus forecast for the trade balance is –ZAR4.0bn, from the prior –ZAR0.2bn. Consensus for the budget balance is –ZAR62.00bn, from the prior +ZAR27.66bn. We expect the market to trade fairly rangebound and quietly going into the afternoon data. However, further news out of Eastern Europe and the Russia/Ukraine story could increase volatility and put pressure on EM assets.

The long-awaited offshore sovereign Sukuk deal appears to be moving closer, with the announcement that the sovereign would be conducting a roadshow “in Europe, the Middle East and Asia starting on Sept.8”. A USD transaction may follow the roadshow, “subject to market conditions”.

At today’s government ILB auction, NT is planning to raise up to ZAR800m across the I2025, I2038 and R212. Market participants were eligible to take up 100% of their allocations in the R2032 and the R2044 at yesterday’s non-competitive bond auction, while buyers in the R2048 were only eligible to take up a 50% allocation. This saw a 100% take up in the R2044, which raised an additional ZAR600m, while the R2032 raised an additional ZAR930m representing 93% of the funds raised on Tuesday, while 46% was raised in the R2048 (ZAR346m). The R2032 will no longer be eligible for the increased 100% non-comp, but will revert to the start 50% from 2 September.

Turnover on Thursday was a fairly decent ZAR26.6bn in nominal SAGBs, led by the R186 accounting for 26% of turnover and no other bond accounting for more than 10% of turnover. Back-end bonds past the R186 were 40% of turnover, while bonds in front of the R186 accounted for 34% of turnover. Bonds reversed some of Wednesday’s massive rally, weakening by 2.5 – 8.0 bps and the curve undergoing a bear curve flattening. The benchmark R186 weakened by 5 bps, to move back above 8.00%. FRAs shifted higher, with particular weakness in longer-dated FRAs. However, 1x4s are still only pricing in 6 bps above 3m Jibar, assigning little probability to the SARB hiking at September’s upcoming MPC meeting. The 3x6, covering December’s MPC meeting as well, is only pricing in 16 bps of cumulative hikes over the two meetings.

Non-residents were marginal net sellers of nominal SAGBs yesterday for a total of -ZAR119m; however, both large inflows and outflows occurred across the individual bonds comprising the curve. The largest outflow was recorded in the R186 (-ZAR1.12bn) in the 12+ year segment, which was offset by notable inflows recorded in the R2032 (+ZAR735m), R2044 (+ZAR416m), R2048 (+ZAR326m) and R2030 (+ZAR265m). Selling was prominent at the front-half of the curve; foreigners sold -ZAR513m in the R157 in the 1-3 year segment, and -ZAR277m in the R207 and -ZAR259m in the R204, both in the 3-7 year segment. This was partially offset by foreign buying in the R203 (+ZAR281m) and R208 (+ZAR129m).

The US Treasury curve bull flattened further yesterday; at the short-end, the yield on the 2yr UST fell by 0.39 of a bp to 0.51%, while the yield on the 5yr note remained unchanged on the day, at a yield of 1.64%. The yield on the 10yr note fell by 1.06 bps to 2.36%. At the longer-end, the yield on the 30yr note fell by 1.04 bps, to 3.10%.

EM FI markets weakened on balance yesterday. The average 5yr local currency yield increased by 6.67 bps and the average 10yr yield increased by 5.12 bps. This was largely due to the significant selloff in Russia’s FI market, which recorded a 44.55 bps increase in its 5yr yield and a 38.96 bps increase in its 10yr yield. Hungary’s FI market also weakened yesterday, with both the 5yr and 10yr yields increasing by 12.00 bps each. SA’s FI market weakened overall, with the 5yr and 10yr yields increasing by 4.70 bps and 6.00 bps respectively. In contrast, FI markets in Mexico, Indonesia and Thailand strengthened on the day; the movements stronger were marginal in comparison to the selloff.

All EM currencies depreciated on average, with the Russian ruble leading the moves weaker, depreciating by a significant 1.54%. The Hungarian forint depreciated by 0.87% and the Polish zloty depreciated by 0.64%. The rand depreciated by a relatively more marginal 0.36%, while the Turkish lira weakened by 0.19%. Other EM currencies to depreciate, were the Indonesian rupiah (0.16%), Indian rupee (0.11%) and the Thai bhat (0.09%), while the Mexican peso ended the day unchanged.