FOMC: slightly more hawkish than anticipated

FX

As widely expected, the FOMC decided to end its asset purchases program (QE3), announcing this at the conclusion of its two-day meeting yesterday. Markets appeared to take the FOMC statement as having tilted slightly to the hawkish side, with risky assets losing some ground upon the release. This was despite maintaining the phrase “a considerable time” in relation to when the Fed anticipated the first hike in rates might occur. A slightly more hawkish stance from the Fed is understandable, as the economy improves and it consequently moves towards policy normalisation. Notably, the underutilisation in the labour market was no longer described as “significant”, but was rather seen as “gradually diminishing”. The Committee put paid to any concerns that a fall in oil prices had significantly changed its view on inflation, noting that while “inflation in the near term will likely be held down by lower energy prices and other factors”, it still assessed “the likelihood of inflation running persistently below 2 percent [as having] diminished somewhat since early this year”. The Committee noted that “market-based measures of inflation compensation have declined”, but added that “survey-based measures of longer-term inflation expectations have remained stable”. Given recent Fed rhetoric, markets had perhaps expected the statement to mention the Committee’s concerns over recent market volatility and weakness in the Eurozone and China, and the possible negative feedback this might have on the US economy. This was not mentioned at all, with the US economic activity merely described as expanding at a “moderate pace”. There was one dissent, although this time from the dovish Minneapolis Fed President Kockerlakota. He felt that a persistently sluggish outlook on inflation and the recent drop in market-based measures of inflation expectations, warranted a stronger commitment to maintain the current target range for the fed funds rate until the one-to-two-year inflation outlook moved back to 2%. He also felt that the Fed should continue the asset purchasing program at the current level of USD15 billion. At the previous meeting it was two hawks that dissented. This change might be read as a dovish shift in the overall Committee, although there is some ambiguity here. As Capital Economics points out, the fact that we moved from a situation where the hawks felt it necessary to dissent to one where the doves now feel compelled to dissent, could also indicate that the consensus views of Committee have now shifted into a more hawkish direction.

Today is a busy one in terms of local data releases. These include unemployment numbers in Stats SA’s QLFS survey results for Q3:14 (the release was delayed from Tuesday), PPI inflation results and National Treasury’s (NT’s) Statement of Revenue and Expenditure.

The consensus forecast for the unemployment figure for Q3:14 sits at 25.6%, slightly up on the 25.5% registered in Q2:14. The Q2:14 reading represented the highest level seen since Q3:12. Weak growth of employment has been concentrated in the private sector; this contrasts with strong growth of employment in the public sector. The consensus forecast appears to be reasonable. Weak employment growth is consistent with an environment characterised by fragile business confidence, and consequently sub-optimal levels of private sector fixed investment spending. It appears unlikely to turn soon, given decelerating consumer demand, which will likely be amplified by the withdrawal of monetary policy accommodation and now also withdrawal of fiscal policy accommodation. While a more competitive exchange rate might offer some help, investment spending is also unlikely to turn before a more meaningful and broad-based turn in global demand and commodity prices comes into play. The willingness of firms to grow their workforce is also likely being constrained by persistent and in some cases protracted work stoppages and elevated wage settlements. Given that an election-related Q2:14 rise in government employment registered in the QES survey (published last month) did not register in the QLFS unemployment reading for that quarter, an unwind of this should not be expected in Q3:14 QLFS result. Elevated unemployment numbers are ZAR-negative owing to their creditworthiness and interest-rate effects.

Consensus foresees a deceleration in y/y PPI inflation to 6.9% in September from 7.2% in August. The call for a deceleration is likely to a large extent premised on signals of subsiding food and fuel price pressures, driven in turn by sliding dollar prices in international markets for these commodities in the months leading up to the September survey. The PPI measure offers a read on pressures in the domestic consumer price pipeline, thereby serving as a leading indicator of CPI inflation. Perhaps counter-intuitively, lower inflation results could be viewed as rand-negative, insofar as they would reduce pressure on the SARB to raise interest rates and could increase the bank’s implicit tolerance for currency weakness.

Preliminary financing figures for September, released earlier in the month, offer guidance regarding performance of the fiscal balance in September, which will be revealed in NT’s Statement of Revenue and Expenditure. Much of any potential excitement in – and thus possible market impact of – the numbers is taken out by last week’s MTBPS, given that National Treasury would already have had transparency on fiscal performance in September when finalising its estimates, and the market is most interested in whether fiscal performance is in line with official estimates. Simply observing the difference between the change in government’s cash balances between end-August and end-September against proceeds from debt issues and net extraordinary receipts, the deficit appears likely to come in at around -ZAR15.4 billion. This compares unfavourably both with the consensus forecast of -ZAR11.1 billion and with the September 2013 deficit of -ZAR10.4 billion. However, it is worth noting that guidance from preliminary financing figures is not always accurate, with discrepancies linked to the timing of transfers/payments. In August 2014, the deficit came in significantly wide of the shortfall suggested by preliminary indications. It is possible that some of this could unwind in September 2014 numbers.

The rand weakened against the US dollar yesterday, closing at USDZAR10.95, compared with Tuesday’s close of USDZAR10.85. Rand depreciation against the greenback occurred into a strong performance from the dollar more generally, on the back of a slightly more hawkish than anticipated tone in the FOMC statement. This depreciation of the local currency also occurred alongside a weak performance from all of the commodity currencies and almost all of the EM currencies we monitor for purposes of this report. The dollar strengthened against all of the major crosses, with the biggest move seen against the euro (-0.8%). The rand weakened against all of the major crosses, with the biggest move seen against the dollar (0.9%). All commodity currencies we monitor were weaker on the day, with the rand taking up the middle position. All but one of the EM currencies we monitor for the purposes of this report, depreciated on the day. The exception was the IDR, which appreciated. The rand was the second-worst performing currency in the EM category (beating only the HUF). The rand traded between a low of USDZAR10.8274 and a high of USDZAR10.9671 intraday. Support from where the rand opened this morning sits at 10.8550, 10.8000 and 10.7500. Resistance levels sit at 10.9500, 11.0100, 11.1650, 11.2450 and 11.3100.

Commodity prices were mixed on the day. Brent and copper rose by 1.3% and 0.3% respectively. Gold and platinum meanwhile fell by 1.3% and 0.4% respectively. The developed market MSCI rose by 0.1%, the EM MSCI rose by 1.2% and the ALSI rose by 1.3%. The EMBI spread compressed by 6 bps and SA’s 5yr CDS spread compressed by 1 bp. The CBOE VIX index, a volatility based proxy for global risk appetite/aversion, rose by 5.3%.

Non-residents were meaningful net buyers of local equities (ZAR905 million) but were moderate net sellers of local bonds (-ZAR636 million) on the day. Selling of bonds occurred in the 12+ (-ZAR1 583 million) and 1-3 (-ZAR24 million) year buckets. Buying was seen in the 7-12 (ZAR612 million) and 3-7 (ZAR360 million) year segments. Bond yields, however, fell on the day by between 2 bps (R208, R186 and R214) and 3 bps (R203). The 3x6 and 6x9 FRAs both rose by 1 bp and 12x15 FRA rose by 2 bps.

FI

In yesterday’s morning comment, we said that “The markets do appear to be pricing in a dovish FOMC statement”. The markets were disappointed, with a more hawkish sounding FOMC statement sending USDZAR 12c higher in short time. Bonds are opening weaker this morning and we expect a weaker trend throughout the day. The Reserve Bank Governor, Gill Marcus, will be talking at 9am SA time on “South Africa’s inflation targeting experience”.

Pre-FOMC, turnover was a good ZAR23.8bn in the local market. 31.4% of turnover came from the R186, 16.9% from the R208 and 14.0% from the R204. The curve strengthened by 2.0 – 3.5 bps, led by the -3.5 bp move in the R204. The benchmark R186 moved 2 bps lower. Front-end spreads steepened, while belly and back-end spreads flattened slightly. FRAs ticked marginally higher locally, while the sovereign CDS strengthened by 2 bps. The US Treasury curve came under pressure after the FOMC statement. All yields, apart from the 30yr, increased. The 30yr UST declined by 1.83 bps to 3.05%. The 2yr UST rose by the largest increment of 8.74 bps to a yield of 0.48% and the yield on the 5yr UST rose by 6.90 bps to 1.58%. The 10yr UST rose by 2.14 bps to a yield of 2.32%.

Non-residents were net sellers of nominal SAGBs yesterday for a total of -ZAR636m. Foreign selling was concentrated in the 12+ year segment (-ZAR1.58bn), with marginal net selling also recorded in the 1-3 year segment. In the 12+ year segment, notable net selling was recorded in the R186 (-ZAR1.53bn), R2037 (-ZAR271m) and R209 (-ZAR163m); this was partially offset by net buying in the R2030 (+ZAR346m). The R2023 in the 7-12 year segment recorded net foreign buying of +ZAR612m. The 3-7 year segment recorded net buying of +ZAR360m due to net buying in the R204 (+ZAR451m) and R207 (+ZAR144m); this was partially offset by net selling in the R208 of -ZAR235m.

EM FI markets sold off yesterday. 5yr local currency sovereign yields rose by 0.81 of bp on average and 10yr yields rose by 3.45 bps on average. SA’s 5yr yield outperformed its EM peers, with the yield declining by 1.30 bps. This was behind stronger moves recorded in Hungary (-5.00 bps) and Poland (-2.90 bps). In contrast, Russia (+11.09 bps), Mexico (+2.80 bps) and Thailand (+1.80 bp) recorded the three worst moves yesterday. SA’s 10yr note fell by 1.00 bp, outperforming the EM average move. This was behind stronger moves in Hungary (-5.00 bps) and Poland (-3.10 bps). In this longer-dated space, the worst three moves were recorded in Brazil (+23.80 bps), Russia (+8.35bps) and Thailand (+3.20 bps).

EM currencies depreciated yesterday. The exception was the Indonesian rupiah, which appreciated by 0.71%. In contrast, the moves weaker were led by the Hungarian forint, which depreciated by 1.12%. The Polish zloty depreciated by 0.98%, followed by the SA rand (0.94%) and Russian ruble (0.92%). Other currencies to depreciate were the Turkish lira (0.41%), Mexican peso (0.41%) and Thai baht (0.25%), while the Indian rupee (0.04%) and the Brazilian real (0.04%) depreciated by more marginal amounts.

At its central bank meeting yesterday, Brazil’s central bank hiked its target Selic rate by 25 bps to 11.25%. However, Bloomberg consensus forecasts were penciling in an unchanged Selic rate of 11.00%.

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