The Daily - Moody's and Fitch: post-election comments

FI

The local FI and currency markets rallied yesterday. Non-resident purchases of nominal SAGBs was significant yesterday, as a total of +ZAR3.04bn was purchased on a net basis, particularly across the benchmark R186 bond, the R207 and yesterday’s auction bonds. However, yesterday’s auction received less support compared with recent past offerings. As mentioned above, with Moody’s holding its annual SA credit conference today, we expect some commentary from this event to hit the wires. However, we believe Moody’s will at least wait until after the South African cabinet is announced in two weeks’ time, before making any formal rating comment.

Moody’s rates the sovereign at Baa1/Baa1 (LT FC/LC), equivalent to a BBB+ rating. S&P rates SA’s long-term foreign currency at BBB/A- (long-term foreign currency/local currency), while Fitch rates the sovereign at BBB/BBB+ (LT FC/LC). There is less than a month to go before South Africa’s sovereign debt ratings are reviewed by both S&P and Fitch on 13 June. This is according to rating calendars that have been released by the two agencies under EU regulations. Moody’s has not released a calendar schedule for SA, as their South African analysts are not EU-based. Moody’s can thus issue a formal comment on South Africa at any time. We believe that S&P’s A- long-term local currency rating remains the rating most at risk from a downgrade. S&P has previously stated that over time, they wish to close the two notch difference between the local and foreign currency ratings. However, as we saw with their downgrade of Brazil, both ratings can still be downgraded, keeping the two-notch differential.

This week, Fitch and Moody’s both issued comments on the outcome of the local elections, which was held on 7 May 2014.

Fitch said that “without stronger growth, faster job creation and a narrowing of the fiscal and current account deficits, which continue to push public and external debt ratios up”, the agency expects SA’s creditworthiness to gradually deteriorate. As a result, the agency maintains that a key element of its assessments of the sovereign going forward relies on “the South African authorities’ ability to sustainably increase economic growth via structural reform”. Fitch also noted the importance of the composition of the cabinet, particularly concerning the experience of the members in both “their field and a track record in government or the private sector”. The agency will also monitor the pace of implementation of the Medium-Term Strategic Framework, which operationalises the National Development Plan. Fitch notes that the “modest” decline in ANC votes shows a significant continuation of support for the ruling party notwithstanding “a high-level corruption scandal and increasingly violent protests against poor service delivery and rising unemployment”. The agency also mentioned its uncertainty around policy shift, after the newly formed Economic Freedom Fighters (EFF) political party won support in the election.

Moody’s noted that “the decisive majority win came despite a slumping economy, high unemployment and energy shortages, not to mention numerous scandals for both the ANC and President Jacob Zuma”. However, it also said that the 2014 election was SA’s most competitive yet. Moody’s felt the results of the election assured SA’s macroeconomic policy continuity, which it notes as being a credit positive for the sovereign rating. Moody’s is of the view that the ANC’s marginal loss in support is likely to effect “a definitive official response to widespread popular frustration with the weak economic performance of the last few years, persistently high unemployment and increased public corruption”. In addition, the ANC’s win despite the recent criticism of the President, potentially means that the new administration can reiterate “commitment to the National Development Plan (NDP) while simultaneously promising more active intervention to deal with the unemployment dilemma”.

NT’s nominal SAGB auction of the longer maturity-mix R2030, R2037 and R2048 yesterday, received bids totalling ZAR6.04bn, for an auction bid/cover ratio of 2.6x. This compares with ZAR9.53bn in bids received at last week’s offering (bid/cover: 4.1x). Pricing action was mixed, but overall weaker as the R2048 and the R2030 cleared stronger compared with market levels at the time, while the R2037 cleared significantly weaker. The R2048 and the R2030 received similar interest, with 37% of bids going to the R2048 and 36% of bids going to the R2030. The remaining 27% was allocated in favour of the R2037. The number of participants declined from last week’s auction; the total participation was recorded at 118 bids from 140 bids at last week’s offering, representing an average of 39 bids placed per bond. This compares with last week’s 47 bids/bond (which was also a record for this year). Auction pricing was mixed. The R2048 cleared competitively compared with market, pricing at 8.885%, 3.50 bps below the market. The R2030 priced at 8.645%, 0.50 of a bp below the market. The R2037 priced poorly, at a yield of 8.91%, 8.50 bps higher than the market at the time.

SAGB turnover was recorded at ZAR23.05bn yesterday, after falling significantly on Monday, to ZAR8.63bn, from last Friday’s ZAR33.12bn and last Thursday’s ZAR48.78bn. ZAR22.96bn of yesterday’s volumes was in nominal SAGBs, with ZAR7.25bn of this turnover in the R186.

The local FI market rallied on the back of strong foreign demand, along with the currency yesterday. SAGB yields fell by between 2.00 bps and 10.00 bps across the curve, with the largest declines in yields seen in bonds comprising the short- to mid-segments of the curve. The yield on the R157 fell by 5.00 bps to end the day at 6.53% and the R186 fell by 7.00 bps, to 8.08%. The R203 and the R204 fell by the largest increments (10.00 bps each), ending the day at yields of 7.22% and 7.43% respectively. The yield on the R2037 fell by the smallest increment (2.00 bps) to 8.84% and the R2048 fell by 5.00 bps to 8.89%. The front-end of the curve flattened, with the spread on the R186/R157 compressing by 2.00 bps to 155.50 bps. The mid- and long-ends of the curve steepened on the day; the spread on the R213/R186 widened by 3.00 bps to 55.00 bps and the R2048/R186 spread widened by 2.00 bps to 81.00 bps. SA’s CDS spread improved yesterday, to 169.50 bps from 172.17 bps on Monday.

Non-residents were significant net buyers of nominal SAGBs yesterday. A total of +ZAR3.04bn was purchased, with interest concentrated in the 12+ year (+ZAR2.32bn) and 3-7 year (+ZAR1.61bn) maturity categories, while net selling was reported in the 7-12 year (-ZAR725m) and 1-3 year (-ZAR154m) categories. In the 12+ year segment, notable purchases were recorded in the R186 (+ZAR1.08bn), R2037 (+ZAR584m), R2048 (+ZAR458m) and R2030 (+ZAR249m), with the latter three bonds having been auctioned yesterday. In the 3-7 year segment, foreign buying was recorded in the R207 (+ZAR1.18bn) and R208 (+ZAR426m). The R2023 in the 7-12 year bucket recorded net selling of -ZAR725m, and the R157 in the 1-3 year category recorded net selling of -ZAR154m.

FX

US retail sales for April, released yesterday, fell short of expectations. The headline figure grew a paltry 0.1% m/m (Bloomberg consensus: 0.4% m/m), and a significant drop from the post severe winter weather rebound of 1.5% m/m growth seen in March (upwardly revised from 1.1% m/m). Retail sales, excluding autos, was flat. According to Capital Economics it appears as though the revisions to preceding months could mean that Q1:14 growth might be a bit stronger than the disappointing first estimate, published a few weeks ago, of 0.1% q/q. However, these April numbers might imply a more muted Q2:14 rebound than many might be anticipating. Bloomberg consensus pegs Q2:14 growth in the US at 3.3% q/q. Import price data also undershot expectations. The headline figure fell by 0.3% y/y in April, while analysts had been expecting a 0.3% y/y increase. Non-petroleum import prices fell 0.3% y/y ending the trend which had seen y/y changes having risen consistently each month from -1.3% in October last year to -0.1% in March (the March figure was revised down from +0.1% y/y). Yellen has specifically mentioned falling non-petroleum import prices as among those “factors that seem likely to prove transitory” which has been responsible for softness in overall inflation. As such, yesterday’s numbers bring into question this view, although this is only one number and could just represent a temporary dip. We maintain that relative to labour market indicators the greater risk with respect to data surprises that could potentially alter the Fed’s policy normalisation path sits in inflation indicators/drivers. Consequently, we could keep a close watch on US price data. Today, US PPI numbers will be published. Analysts expect the y/y change to push up to 1.7% y/y in April from 1.4% in March. Such an upward drift would be broadly consistent with the Fed’s 2.0% target for consumer inflation, notes Capital Economics.

Mining production contracted 4.7% y/y (5.5% m/m) in March, better than analyst expectations of -6.2% y/y (Bloomberg consensus), although worse than February’s fall of 4.5% y/y (revised from -4.8% y/y). Kim Silberman (SBGS Economist) notes that PGM production saw its drag on mining production exacerbate in March, contracting 44.3% y/y and subtracting 10.1 ppts from the sector's y/y growth rate. PGM subtracted 7.6 ppts in February. Strike activity continues and output is set to contract in Q2:14. An estimated 297,000 oz of production was lost in April (in 2013, total production of platinum, palladium and rhodium was estimated at 6.9 million oz). Growth in gold output continued to subtract from y/y mining output in March (for a third consecutive month), subtracting 0.5 ppts on the back of a 2.9% y/y contraction. A strong rebound was recorded in coal, which grew 6.8% y/y after contracting 3.9% y/y in February, adding 1.5 ppts to y/y mining output in March. Favourable base effects were supportive of growth, with coal output having contracted 6.1% m/m in March 2013 – its sharpest contraction of the year. Iron ore production remained resilient in March, growing 9.0% y/y from 9.1% y/y in February. Iron ore output was likely the beneficiary of improved production from Khumba Iron Ore's Sishen mine as well as a continued strong performance from its Kolomela mine. Kim calculates that Q1:14 saw mining output contract 6.8% q/q and -1.8% y/y, led by contractions in PGM and diamond output. Mining is likely to subtract 1.2 ppts from Q1:14 q/q GDP growth. Q1:14 GDP estimates will be published later this month (27 May). The currency market consequences on mining output results should be interpreted mainly via what they signal regarding the current account balance, and also via their economic growth and interest rate consequences. On a net basis, weak mining out numbers should be read as rand negative.

Today retail sales data will be published – also for March and consequently closing out monthly numbers used as input for Q1:14 GDP estimates. Consensus views show retail sales growth steady at 2.2% y/y. This is perhaps somewhat surprising, given the low base established by a 1.5% m/m (sa) contraction in sales in March last year. Kim expects to see these base effects being tempered by the erosion of consumer purchasing power stemming from higher inflation and slower growth in household credit. Kim puts the result at -1.3% m/m (sa). The median view for the m/m (sa) change in March 2014 meanwhile sits at -0.8%. The discrepancy arises because the sample of respondents is considerably smaller in the case of the m/m forecast. Retail sales contracted by 0.2% m/m (sa) in February 2014, pulling the y/y change down to 2.2% from 6.4% in January. YTD, the underperformance of cyclical consumer goods versus more defensive categories such as food and clothing, continues to play out, and is keeping with our macroeconomic outlook of a slowdown in cyclical GDP, notes Kim. Slower sales growth was broad-based in February. Retailers of non-durable goods saw y/y growth of their sales slow; general dealer sales grew by 1.1% against 6.6% in January, and food, beverages and tobacco sales contracted by 3.8% in February after expanding by 4.6% in January. These combined to add only 0.1 pps to overall y/y retail sales growth, after having added 3.1 pps in January. Clothing and footwear retailer sales grew by a robust 10.4% in February 2014, contributing 2.0 pps to overall growth of retail sales. Sales of furniture and appliances remained on the back-foot in February, contracting by 2.5% after shrinking by 3.4% in January. Durable goods retailers continue to bear the brunt of poor consumer confidence. Currency market consequences of these numbers should be judged via what they signal regarding domestic household demand and what this means both for the current account and local interest rates. There is thus some ambiguity regarding what weakness in retail sales could mean for the rand, but we are inclined to think that the interest rate dimension would be of greater importance in any exchange rate response. Whereas arguably random events that are seen to temporarily knock exports – such as strikes, which are rand and thus potentially inflation negative – might not serve as a clear reason to tighten monetary policy, stubbornness in certain categories of imports that can be linked to consumer demand are another matter, posing what could be viewed as an endogenous risk to domestic inflation.

The rand strengthened against the dollar yesterday after two consecutive days of weakness, closing at USDZAR10.31, compared with Monday’s close of USDZAR10.36. This occurred despite a stronger performance from the dollar against the major crosses and a mostly weak performance from the commodity currencies we monitor for purposes of this report. Rand appreciation occurred in tandem with a mostly stronger performance from the EM currencies we track. The dollar strengthened against the euro, the pound and the yen, with the biggest move seen against the euro (0.4%). The rand strengthened against all of the major crosses, with the biggest move seen against the euro (0.9%). Two of the five commodity currencies we track – namely the ZAR and the NZD – strengthened on the day. Five of the nine EM currencies we track – the RUB, the INR, the TRY, the ZAR and the MXN – strengthened. The rand was the best- performing commodity currency and the fourth-best performing EM currency (beaten only by the TRY, the INR and the RUB). The rand traded between a low of USDZAR10.2728 and a high of USDZAR10.3760. Support from where the rand opened this morning sits at 10.2800, 10.2200, 10.1800 and 10.0200. Resistance levels sit at 10.3400, 10.4000, 10.5200 and 10.6800

Turning to commodity prices, platinum and Brent rose by 1.2% and 0.8% respectively. Copper and gold meanwhile fell by 0.5% and 0.2%, respectively. The ALSI fell by 0.1%, while the EM MSCI rose by 0.7%. The EMBI spread widened by 3 bps, while the SA’s five-year CDS spread compressed by 3 bps. The CBOE VIX index, a volatility proxy for global risk appetite/aversion, fell by 0.8%.

Non-residents were mild net buyers of local equities (ZAR80 million) and were very aggressive net buyers of local bonds (ZAR3 045 million). Buying of bonds was seen in the 12+ (ZAR2 317 million) and 3-7 (ZAR1 607 million) year buckets. Selling was meanwhile seen in the 7-12 (-ZAR725 million) and 1-3 (-ZAR154 million) year segments. Bond yields fell by between 3 bps (R214) and 10 bps (R203). 3-month Jibar rose for the third consecutive day, by approximately 1 bp from 5.792% to 5.800%. The 3x6, 6x9 and 12x15 FRAs all rose by 3 bps.

In local labour news, according to Mining Weekly Online, the Chamber of Mines of SA said yesterday that they “condemned the brutal murder” of the two mine-workers in Rustenburg. The Chamber restated that safety of all workers was a priority saying that the right to work was as important as the right to strike. They also conveyed their condolences to the families of the murdered miners. The strike that began on 23 January by AMCU members, continues.

Latest SA publications

Credit & Securitisation Monthly: Spotlight on credit spreads by Robyn MacLennan and Steffen Kriel (9 May 2014)

Fixed Income Weekly: Taking a view on FRAs by Asher Lipson and Kuvasha Naidoo (25 April 2014)

FX Weekly: ZAR risk more symmetrical near term by Bruce Donald, Marc Ground and Varushka Singh (17 April 2014)