South Africa’s rand is heading for its biggest weekly slump since the pandemic as global markets come to terms with the prospect of the most aggressive Federal Reserve tightening cycle in recent history.
There may be worse to come, with the cost of hedging against further declines climbing after comments by Fed Chair Jerome Powell raised the prospect of three consecutive half-point US interest-rate hikes, which would be the sharpest tightening since 1982. The rand is the worst performer this week among 24 developing-nation peers.
Three-month implied volatility, a gauge of options traders’ expectations of price swings, has jumped 135 basis points in the past two days to the highest in a month. The premium on options to sell the rand over those to buy them, known as the 25 Delta risk reversal, climbed to the highest level in five weeks on Friday.
The rand tumbled as much as 1.9% on Friday in a fifth straight day of declines, hitting its weakest intraday level since 31 Jnauary. It traded 1% weaker at R15.53 per dollar by 10h 40 in Johannesburg, bringing its losses this week to 5.8%, the most since the five days through 3 April 2020.
Powell’s comments fueled “expectations that the tightening could be frontloaded,” said Sébastien Barbé, head of EM strategy at Credit Agricole. “This tends to keep EMFX on a defensive footing for now.”
Yields on short-end government bonds soared and the curve flattened on expectations South Africa’s central bank will have to match the Fed’s steep tightening path. The yield on benchmark 2026 securities jumped 10 basis points to 8.29%. Money markets are pricing in about 42 basis points of rate hikes at the next policy meeting in May, and as much as 186 basis points by year-end.
While signs of a resurgence in the pandemic, worries about the cost of repairing flood damage and ongoing power blackouts may have played a role in the rand’s battering, the reality is that the market got caught long-rand after the currency’s outperformance in the first quarter. The rand gained 9% in the three months through March on the back of soaring commodity prices that bolstered the country’s terms of trade.
“Rand bulls have been badly caught out this week,” said Robert Hoodles, a London-based analyst at InTouch Capital. “The market once again misjudged the market positioning and liquidity available in spot rand. Depending on South Africa as a commodity producer and the more positive trend in the balance of payments for rand support has proved a trap.”
The rand also came under “significant selling pressure” after Barclays Plc sold a $687 million stake in local lender Absa Group Ltd., fueling demand for dollars, Nedbank analysts including Reezwana Sumad wrote in a note.