To the extent that anyone offshore actually noticed SA political developments last week the reaction must be regarded as benign. The extra yield provided by SA government US dollar denominated (Yankee) bonds over the yield on similarly dated US Treasuries declined last week, leaving the SA Sovereign risk premium close to its historic lows and its lows of the past 12 months.
The rand had a good week, gaining about 2% on a trade weighted basis, which has left rand still well ahead of its year ago value. These credit ratings and exchange rate trends will be very helpful in restraining SA inflation and welcome to the Reserve Bank struggling to avoid having to raise interest rates.
The news on the exchange rate was well received in the bond market. The difference between the yield in rands on long dated RSA bonds and the long dated US Treasury Bonds (which may be regarded as the SA risk premium) also narrowed last week by about 20bps to about 5.20%. This yield gap has remained within the five to six per cent range over the past 12 months. It may be regarded as representing the rate at which the rand is expected to depreciate against the US dollar over the long run.
If the rand loses an average 5.2% a year over the next 10 years, investors in RSA and US Treasury Bonds will have broken even. If the purchasing power of the US dollar and the rand is thought to determine exchange rates in the long run, then this yield gap will also represent the difference between expected inflation in the two currency areas. The bond market offers explicit compensation for bearing inflation risk. Long dated RSA bond holders are receiving an extra 6.3% for holding vanilla bonds rather than their inflation linked alternative. This yield gap has remained persistently at this high level over the years though it declined by 15bp last week.
In the US the inflation compensation is currently 2.35%, indicating that inflation in SA is expected to average about 4% higher in SA than the US over the longer term.
The significant electoral swing recorded at the nationwide municipal elections to the DA was enough to encourage the opposition but was not enough to cause anything like panic in the ranks of the ANC. The true democratic credentials of the ANC will perhaps only be fully tested when it is in danger of losing power. This still seems a long way off and maybe for the market place and its state of mind this is just as well.
To view the graphs and tables referred to in the article, see Daily Ideas in todays Daily View: Daily View 23 May: SA markets: Did anyone offshore notice the SA elections?