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SA’s possible slide to ‘junk’ welcomed by yield-hungry investors

Fund managers to lap up bonds if yields rise.

JOHANNESBURG – While South Africa’s policymakers fear a possible downgrade of the country’s debt rating next week could derail reforms, some fund managers see it as a buying opportunity.

Africa’s most industrialised nation has been edging towards losing its investment-grade status due to weak growth, large deficits and political scandals surrounding President Jacob Zuma, including changing two finance ministers in December.

Standard and Poor’s and Fitch deliver their decisions on the sovereign rating next week.

Policymakers fear a downgrade to “junk” status could trigger a mass exodus of investments and higher borrowing costs. But higher bond yields, typical after a downgrade, will be welcomed by some investors in a year when equities have flatlined and interest rates in developed markets hover near zero. 

Fitch and S&P’s both rate South Africa debt at BBB-, one notch above speculative grade.

Seen by numerous analysts as the most likely to push South Africa to “junk” status, S&P said earlier in May that the weak economy posed an immediate risk to the rating. S&P is due to publish its review on June 3.

“I think bonds at 9% offer a very decent yield considering that inflation in the medium to long term is expected at 6 to 7%. It means you’d get a good 2 to 3% real return on bonds,” said investment specialist at Investec Asset Management Louis Niemand.

“If it were to go back to ‘Nene-gate’ levels it would be a screaming buy,” said head of market and economic research at Investment Solutions Lesiba Mothata.

Mothata was referring to the sharp sell-off in December that followed Zuma’s shock sacking of Nhlanhla Nene as finance minister, when bond yields soared to 10.6%, their highest level since the 2008 global financial crisis.

Mothata said 90% of South Africa’s R2.2 trillion ($141 billion) debt was in local currency and rated as investment grade.

Analysts said only a political upheaval could push the rand denominated debt into junk territory.

“Things would have to deteriorate quite a bit in terms of South Africa’s institutional makeup, central bank independence, fiscal policy and economic growth. And at this stage that seems very unlikely,” said investment analyst at Old Mutual Wealth Izak Odendaal.

South Africa’s local elections on August 3 will be the sternest political test that the ruling African National Congress has faced since coming to power in 1994, analysts say.

Unemployment hit its highest level on record in the first quarter, while the economy is expected to grow by less than 1% this year, clouding efforts by Finance Minister Pravin Gordhan to fight off a credit downgrade.

“The downgrade to subinvestmmet will likely trip another 200 000 jobs within the formal economy,” chief economist at Standard Bank Goolam Ballim said.

($1 = R15.6026)


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Another funny Investec view that methinks is missing the point again, as reported in Fin 24 today:

”The country has a relatively small pool of dollar bonds, compared with rand-denominated debt, and a large domestic money management business with the capacity to invest in the assets, Du Toit said in an interview on Wednesday at the World Economic Forum on Africa in Kigali, Rwanda’s capital”

There would be a several ways that investors would be impacted by a downgrade, despite the view that management business will have a large domestic money market to invest in, as :

• current bond investors would experience losses
• investors in the equity markets will receive lower returns
• disposable income of the locals will be eroded by higher inflation and taxes
• SA Government bonds would rise as investors would demand higher interest rates to compensate for higher risk/reward levels , hence the Governments cost of borrowing will rise
• there will therefore be a fall in capital values
• higher borrowing costs would force the government to raise more revenue via higher taxes thereby taxpayers could end up with much lower disposable income to save and invest
• The Global markets will immediately be excluded from global government bond indices and current and potential investors would be excluded from investing in South African non-invest grade assets (like most large offshore pension funds), which would pressure yield to rise
• this reduced foreign demand for SA bonds will result in money to leave SA which would result in further rand weakness and eventually impacting inflation and investors returns
• Corporate balance sheets ( and state-owned enterprises) of private companies will be effected by the increase in cost of borrowing , impacting negatively on profits, investor dividends and returns on equity investments
• Fewer corporate bond issues in a much smaller market would result in fewer high-yielding investment options for local asset managers
• although SA only reached investment grade in the late 1990’s a wall of money fell into South Africa (especially under Mandela’s guard) , and SA also became the top emerging market destination for a plethora of offshore investors
• junk status will result in gloom and doom for the ones that ”can least affor

I’m battling to find ANY good news in this story – all I can find is more bad news for sa taxpayers

End of comments.





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