SA manufacturing in the spotlight

• USTs are on the back foot again, with the 10-year nominal yield still eyeing the 200day MA – a key level of resistance, especially for momentum traders.

• The latest move in bond yields doesn’t seem to be driven by rising inflation expectations, with the 10-year breakeven inflation, according to the US bond market, actually declining from just below 2% to the current level of 1.88%.

• Rising nominal yields in the US should keep longer-dated bonds in South Africa on the back foot.

• The rand continues to be generally well behaved despite pressure on bonds. The USDZAR continues to trade within the 11.90 to 12.15 channel. Overall, we would look for the USDZAR to find support on approach of the 11.90 – 11.80 band. In light of the pressure on bonds, we would approach the rand from the short side.

• Greece has made its scheduled payment of €750m, which was due today, to the IMF.

• Stats SA will release manufacturing data for March today at 13h00. Manufacturing production growth, while failing to swing back into positive territory, beat expectations in February.

• We expect manufacturing output to have contracted by 1.3% y/y in March.

International developments

USTs are on the back foot again, with the 10-year nominal yield still flirting with the 200day MA – a key level of resistance, especially for momentum traders. Yesterday, the 10-year UST yield broke above the 200day MA again, currently at 2.1839%, and is now trading at 2.29%, close to its highest level this year. Back in May 2013, after the 10-year bond yield broke above the 200 day MA, the bond yield moved from 1.75% to a high of 3.0% in Sep 2013, before starting a decline again.

The latest move in bond yields doesn’t seem to be driven by rising inflation expectations, with the 10-year breakeven inflation, according to the US bond market, actually declining from just below 2% to the current level of 1.88%. US 5y5y inflation swap, which provides a market indication of where the market sees inflation in 5 years’ time, for the next 5 years, has also declined marginally since the start of May from around 2.33% to 2.25%. Instead, the move – especially yesterday’s move, seems to be driven by a rise in implied real interest rates, as per the 10-year inflation-linked bond yield. Rising real interest rates would also mean tighter monetary conditions in general and possibly an improved perception of the growth outlook in the US.

While German bonds are also under pressure again since yesterday, the difference between US and German bond yield moves is that German yield does indeed seem to be driven (at least partly) by rising inflation expectations. The EU 5y5y inflation swap has moved from a low of 1.62% at the end of April to the current 1.78%.

Rising nominal yields in the US should keep longer-dated bonds in South Africa on the back foot. Strategically, we are bearish on SAGBs on a 12-18 month view, and the moves in the USTs support this view. Tactically, we believe that there may be an opportunity for the curve may move lower from current levels (after the recent sell-off) into July. However, we would not look for this move to happen until there are clear signs that US bond yields will move lower again. Technically, it appears as if US bond yields may move higher first.

The rand continues to be generally well behaved despite the pressure on bonds.The USDZAR continues to trade within the 11.90 to 12.15 channel. Overall, we would look for the USDZAR to find support on approach of the 11.90 – 11.80 band. In light of the pressure on bonds, we would approach the rand from the short side.

Greece has made its scheduled payment of €750m, which was due today, to the IMF. Negotiations continue between Greece and its debtors to unlock more debt relief funds from especially the IMF. Greece needs to repay another €1.5bn to the IMF in June. So, while a crunch for the Greece government has been averted, pressure will remain in place. The market continues to take the Greece developments in its stride and, although we continue to believe that it will be difficult for the rand to strengthen substantially with the Greece developments in the background, we also view the market’s views on US monetary policy as the dominant international driver of the rand currently.

Brent crude oil has settled around the USD65/bbl and it appears as if the technical correction higher has run its course. The Brent crude front-month contract touched USD69/bbl last week. Lower oil prices are of course positive for South Africa’s trade balance – especially if the rand remains range-bound.

Local developments

Stats SA will release manufacturing data for March today at 13h00. Manufacturing production growth, while failing to swing back into positive territory, beat expectations in February.

According to Bloomberg consensus expectations, manufacturing output growth was expected to come in at -1.4% y/y in February from -2.3% y/y in January. Manufacturing production growth came in at -0.5% y/y in February from a downwardly revised -2.4% y/y (previously -2.3% y/y). Manufacturing seasonally picks up in February from low volumes in January – the January 2015 print was further impeded by electricity supply shortages – as factories begin to come back on stream after the holidays. February 2015 saw a strong pick-up from January, as reflected in the non-seasonal month-on-month growth rate of 10.31%; this is larger than the corresponding growth rate in 2014 (8.2% m/m) as manufacturers were likely trying to compensate for the increased days of load-shedding in January compared with February.

Despite improved growth in February, the latest PMI prints are still indicative of a constrained manufacturing sector. Recall, February’s PMI print slipped to 47.6 pts from 54.2 pts in January. In March, the index picked up only slightly to 47.9 pts, before slipping again in April to 45.4 pts. Noteworthy, business activity and demand as suggested by the PMI components remains subdued, which does not bode favourably for the sector. Bloomberg consensus has pencilled in an improvement in manufacturing output to 1.0% y/y in March. This is in contrast to our economist, Kim Silberman, who expects manufacturing output to have contracted by 1.3% y/y in March. Kim expects that load-shedding by Eskom will have had a negative impact on the March output numbers.

Markets

The rand weakened on Monday, closing at 12.08, compared to Friday’s close of 11.92. The rand’s depreciation against the greenback occurred in line with dollar strength against most of the major currencies; the dollar posted gains against the euro (-0.4%) and the yen (0.3%), but weakened against the pound (0.9%). The rand weakened against all of the major crosses: the pound (2.2%), the yen (-1.1%) and the euro (0.9%). The rand put in the second-worst performance amongst the commodity currencies we monitor for purposes of this report, only ahead of the NZD, and put in the third-worst performance amongst the EM currencies, only ahead of the MXN and BRL. The rand traded between a low of USDZAR11.9011 and a high of USDZAR12.0929.

Commodity prices were down on Monday. Platinum was down on the day by 1.3%, while gold and copper were both down by 0.4% on Monday. The price of Brent closed 0.7% lower, at $64.91/bbl. The developed world MSCI was down by 0.3% and the MSCI EM was up by 0.1% on the day. The ALSI was up by 0.7% on the day. Non-residents were net buyer of equities (ZAR372 million) on the day. The EMBI spread narrowed by 7 bps and SA’s 5yr CDS narrowed by 1 bp. The CBOE VIX Index, a volatility-based proxy for global risk appetite/aversion, increased by 7.7%.

Latest SA publications

SA Macroeconomics: SA deindustrialisation continues: SA deficit revised to 3.5% amidst global bond market volatility by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (11 May 2015)

SA FIC Weekly: The exchange rate pass-through; what you need to know by Walter de Wet and Shireen Darmalingam (11 May 2015)

Credit & Securitisation Monthly: Focus on: SA Municipal Sector by Robyn MacLennan Steffen Kriel (8 May 2015)

SA Macroeconomics: SA’s trade deficit to narrow: Global data continues to drive local and EM assets by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (27 April 2015)

Credit & Securitisation Weekly: Eskom’s acting CEO comments by Steffen Kriel (24 April 2015)

SA Macroeconomics: CPI surprises to the downside: Food inflation slowed to 5.9% y/y, and core to 5.7% y/y by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (22 April 2015)

SA Macroeconomics: March CPI to rise to 4.1% y/y: EM assets receive mixed signals from US & Chinese data by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (20 April 2015)

Credit & Securitisation Weekly: Escalating municipal electricity debt by Steffen Kriel (17 April 2015)

SA FX Weekly: ZAR: less undervalued and still vulnerable against the dollar by Marc Ground and Shireen Darmalingam (16 April 2015)

SA Macroeconomics: Feb retail sales 4.2% y/y, up from 1.9% y/y in Jan: General dealers grow 4.8% y/y by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (15 April 2015)

SA Macroeconomics: Risk on as global monetary policy remains accommodative: SA consumption expected to outpace production in February by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (13 April 2015)