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Investment climate and policy in SA is going in the wrong direction

Concern the deadliest mine violence since the end of apartheid will deter investors.

South Africa’s corporate borrowing costs are climbing on concern the deadliest mine violence since the end of apartheid will deter investors just as some mining companies prepare to sell bonds.

The premium investors demand to hold South African dollar bonds instead of U.S. Treasuries rose nine basis points on Aug. 17 to 174 basis points, the biggest jump among emerging markets as measured by JPMorgan Chase & Co. The cost of protecting the debt against non-payment using credit default swaps increased to the highest since July 25, signaling a deterioration in risk perception, according to data compiled by Bloomberg.

Clashes in South Africa’s North West province are sending corporate bond yields higher as renewed concern that inflation is accelerating drove rates on government debt to their highest in a month. Police shot dead 34 striking workers and injured 78 other at Lonmin Plc’s Marikana platinum mining on Aug. 16 after six days of fighting between rival labor unions that had already claimed the lives of 10 people, including two police officers.

“South Africa is at risk of drifting towards lower credit quality,” Kieran Curtis, who helps oversee $4.5 billion in emerging-market debt including South African bonds at Aviva Investors Ltd. in London, said by phone on Aug. 17. “The more evidence you see of acute social issues like this, obviously it’s not good for that process.”

Live Ammunition

Violence erupted after police used tear gas and live ammunition to disperse thousands of workers gathered on a hilltop near Lonmin’s operations about 100 kilometers (62 miles) west of the capital, Pretoria. Police say they acted in self defense after coming under attack from the workers armed with spears, machetes and pistols. Clashes between rival labor unions had already claimed 10 lives, including two police officers.

Yields on benchmark government bonds due March 2021 climbed six basis points, or 0.06 percentage points, to 6.97 percent on Aug. 17, the highest since July 13. The rand weakened 1.2 percent to 8.317 per dollar, the worst drop among 16 major currencies and extending a 15 percent 12-month slump.

Fitch Ratings, Standard & Poor’s and Moody’s Investors Service have cut their outlook on South African credit to negative from stable since November last year on concern that increased pressure from the ruling party’s labor union allies will boost government spending and widen the deficit. Fighting between unionists at an Impala Platinum Holdings Ltd. mining complex earlier this year led to four fatalities and the closure of the world’s biggest platinum mine for six weeks.

‘More Difficult’

“This type of event will make it more difficult for South Africa to attract foreign investment,” Carmen Alternkirch, a London-based sovereign analyst at Fitch said by phone Aug. 17.

Northam Platinum Ltd. said this month it plans to sell 2 billion rand ($247 million) of bonds and Aquarius Platinum Ltd. said it will consider more funding if it goes ahead with an acquisition. Lonmin said last month it’s examining increasing borrowing, while a unit of Impala Platinum, the world’s second- largest producer, said it may require more money.

The yield on Aquarius Platinum’s $300 million bonds due December 2015 has gained 14.7 percentage points this year to 23.5 percent as it shut most of its mines, posted a record annual loss and fired contract workers who then rioted at one of its operations, killing three people. Average rates of dollar bonds from metals and mining companies in emerging markets have dropped 128 basis points to 5.55 percent, according to JPMorgan.

Output Drops

South Africa’s mining production may slow in the third quarter as the labor unrest at Lonmin cuts production, Thabi Leoka, an analyst at Standard Bank Group Ltd. in Johannesburg, wrote in an Aug. 17 research note. Output, which has declined seven out of the past 10 years amid delays with licenses, jumped the most in 13 months in June, boosted by the first increase in platinum production in a year, according to Statistics South Africa data.

Mining accounts for 8.8 percent of South Africa’s gross domestic product and generates jobs for about 1 million of the nation’s 51 million people, according to the South African Chamber of Mines.

South Africa is struggling to cut a 25 percent unemployment rate and income disparities that rank among the highest in the world 18 years after the end of apartheid.

The government will probably lower its economic growth forecast in coming months because of a slowdown in the global economy, Finance Minister Pravin Gordhan said on Aug. 16. The economy will expand 2.7 percent this year from 3.1 percent in 2011, Gordhan said in February.

Rising Protests

Protests for better living conditions are rising as cities and towns struggle to meet the demand for housing, power and water supplies, with reports of 81 demonstrations last year, compared with two in 2006, according to the Johannesburg-based South African Institute of Race Relations.

“The underlying reasons for the clash — an ailing mining sector, high unemployment, skewed income distribution, and lack of service delivery — will eventually weigh on the sustainability of foreign inflows into the domestic bond market,” Theuns de Wet, head of fixed-income research at Rand Merchant Bank in Johannesburg, said in e-mailed comments.

Foreign investors were net sellers of 665 million rand of South African bonds yesterday, according to the JSE Ltd., which runs the country’s bond exchange. Foreigners have sold 3.1 billion rand of South African bonds in the past two weeks, reversing an inflow of 68.3 billion for the year to Aug. 3, according to data compiled by Bloomberg.

‘Negative Impact’

Inflows into the bond market, driven in part by Citigroup Inc.’s decision to include the nation’s government debt in its World Government Bond Index, pushed yields to record lows and helped support the rand. Credit default swaps over five years jumped 12 basis points to 147 on Aug. 17 after falling as low as 122 basis points on Aug. 7. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent if the government fails to repay its debt.

“Any threat to capital preservation from deteriorating economic data, or signs of political or labor-sector instability, could swiftly reverse recent foreign portfolio inflows,” Ian Cruickshanks, head of treasury strategic research at Johannesburg-based Nedbank Group Ltd., wrote in an Aug. 17 report. “This scenario would have an immediate negative impact on the rand exchange rate.”

‘Wrong Direction’

The one-month implied volatility of the rand against the dollar rose 22 basis points on Aug. 17 to 16 percent, the most in two weeks, according to Bloomberg’s calculations based on prices of contracts to buy or sell the rand. Rising implied volatility indicates that traders see wider price swings in the currency in coming weeks.

The ruling African National Congress is weighing proposals to give the state a bigger role in the economy after a three- year debate about nationalizing the nation’s mines. The Johannesburg-based party has also bowed to pressure from its labor union allies to scrap plans for youth wage subsidies to encourage companies to hire.

“There have been warnings for some time that the overall investment climate and policy in South Africa is going in the wrong direction,” Claude Baissac, the Johannesburg-based founder of country-risk consultants Eunomix said in an Aug. 17 phone interview from Gaborone, Botswana. “This simply confirms it in a catastrophic way.”

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