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African bonds have been resilient

March 16, 2022by Nicholas Kabaso
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Local Market Commentary

  • To avert potential food shortages arising from the Ukraine war President of the African Development Bank Akinwumi Adesina said the bank is raising funds to help 40mn African farmers utilize climate-resilient technologies and increase their output of heat-tolerant wheat varieties and other crops. According to Adesina, wheat imports account for about 90% of Africa’s $4bn trade with Russia and nearly half of the continent’s $4.5bn trade with Ukraine. Adesina further said that “if there was ever a time that we needed to really drastically raise food production in Africa, for Africa’s food security and to mitigate the impact of this food crisis arising from this war, it is now.” The risks are particularly acute in Africa, where Adesina says roughly 283mn were already going hungry before the onset of the war. The bank aims to increase the production of wheat, rice, soya beans, and other crops to feed about 200mn people. Adesina is also planning a meeting of the continent’s finance and agriculture ministers to discuss how best to finance it.
  • Fears of a Chinese slowdown as a result of COVID-19 shutdowns is driving the demand side of the equation in terms of base metals at the moment. That said, we have seen some consolidation with a mild bid tone noted across some counters. The 3m LME benchmark for aluminium is currently trading 0.2% higher on the day at $3284.00/tonne while copper is currently 0.46% higher on the day at $9950.00/tonne heading into the EU open.
  • Once again, African bonds have been significantly more resilient to the shift in paradigm from major central banks. While emerging market bonds have lost more than 12% since September, African bonds have provided a return of almost 2% over the comparable period. This is partly due to the fact that African bonds, for the most part, are relatively sheltered to fast money as investors generally hold these bonds through to maturity.
  • Looking ahead, we remain of the view that African bonds will continue to outperform emerging market bonds, especially if the Fed is more hawkish than what the market had anticipated. That said, tighter global monetary policy conditions will undoubtedly have an impact on the more fiscally vulnerable countries, particularly those that need to fund themselves in the international Eurobond market.
  • Globally, the focus shifts from the war in Ukraine to the FOMC interest rate decision today. It is widely expected that the FOMC will kick off its rate hiking cycle this evening as policymakers look to reign in decade-high inflation. In line with consensus expectations, we expect the FOMC to hike rates by 25bps this evening. It is worth noting that some analysts are betting on a bolder 50bps rate hike.
  • Moreover, notwithstanding the inflation pressures relating to supply concerns over Russia’s invasion of Ukraine, we expect the dot plot, the Fed’s projections for interest rates, to signal a less aggressive path for rates for the year than the seven rate hikes the market has priced in amid mounting growing concerns. That said, we anticipate that Fed Chair will continue to sound a hawkish tone in a bid to cool inflation expectations.
  • Much of the focus is expected to rest on how the FOMC interprets the current macroeconomic conditions and the impact of the Ukraine crisis on the US’s economy and its inflation outlook, which could have a significant impact on the path for interest rates in the US. We expect that policymakers will remain highly sensitive to incoming data and remain fluid in its forward guidance given all the uncertainty pertaining to the war in Ukraine and its impact on global energy and food supply.
  • Two key events are unfolding that will have consequences for currencies across the globe. Negotiations between Russia and Ukraine have turned more realistic, raising hopes of an end to the war and this evening’s FOMC announcement. Both are significant enough to keep investors from adopting any clear-cut directional positions. Commodity currencies will be concerned with a deeper retreat in commodity prices, while D.M. currencies will be slightly more focused on whether monetary policy disparity between the U.S. and its major trading partners is re-established. E.M. currencies will be eying an improvement in risk appetite, although that will need to be weighed against a commodity price slide.

Rand and International FX Commentary

  • Equity markets are a sea of green this morning, making for a pleasant change as it implies a general reduction in risk aversion. Commodity prices also appear to be reversing quickly now and are well off their recent highs alongside the oil price, which is some 30% off its recent highs. For the ZAR, that means that terms of trade have also reversed lower, which is not as encouraging, although it comes when overall risk appetite is recovering to support emerging markets more broadly. Uncharacteristically, the ZAR, therefore, gets to continue trading in its recent tight range, reflecting very little in the way of directional momentum. For the most part, it has avoided the financial market volatility witnessed recently, and the inflation impact in SA will therefore be limited. If inflation even breaks above the 6% upper limit of the target range, it will not be by much.
  • Speaking of inflation, the Fed’s decision on interest rates in the US will take centre stage today. Investors will focus on whether the Fed prioritises growth over inflation or the other way around. If the war and the consequences thereof have not deterred FOMC members from hiking, then the guidance will be appropriately hawkish, and the USD will likely recover. If, however, the Fed continues to describe Russia’s war on Ukraine as a game-changer and mentions the need to hike rates gradually, then the outlook for the USD might be quite different.
  • Concerning the war in Ukraine, investors have latched on to the news that Ukraine may be prepared to compromise its NATO membership in a bid to encourage Russia to end the war. This is the first sign of progress in achieving a lasting settlement that will allow Ukraine to recover and ease geopolitical tensions more broadly. It is also a sign that Russia will respect Ukraine’s sovereignty and not occupy or implement regime change. If an agreement on the Donbas can be achieved, Russia might well retreat quickly and geopolitical tensions moderate. 
  • For SA, what will then be important is whether commodity prices remain elevated after the war or not. Given the disruptions to mining operations and energy supplies, it is possible that they do, at a time when risk appetite has recovered. That could allow for a cocktail to encourage foreigners back into EMs, especially SA. It could prove to be a catalyst for another appreciative surge in the ZAR. However, should commodity prices retreat quickly to levels below those seen before the war, the ZAR will lose its terms of trade advantage. Focus will therefore remain on a combination of the FOMC decision by the Fed and the ongoing negotiations between Russia and Ukraine.

Nicholas Kabaso

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