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Local Market Commentary
- As widely anticipated, the Bank of Zambia kept its policy rate unchanged yesterday, with inflation seen as decelerating faster than earlier expected. Specifically, policymakers kept the policy rate at 8.5%, with the underlying rationale being the expectation that over the fore-cast horizon, inflation is projected to decelerate faster and edge closer to the target range than was envisioned in the May 2021 MPC meeting. Underlying the decline in inflation is mostly the favorable outlook for the exchange rate and improved prospects for fiscal con-solidation. Policymakers also noted that they were also mindful of subdued economic activity and existing vulnerabilities in arriving at the decision.
- Inflation in Zambia over the next eight quarters is forecast to decelerate faster than expected, although it will remain above the 6-8% tar-get range. Inflation is now estimated to average 22.6%, 15.5%, and 11.9% in 2021, 2022, and the first half of 2023, respectively. Regarding the outlook, policymakers indicated that some of the previously dominant risks, such as the depreciation of the Kwacha, had subsided. This follows a recent world-beating rally that has seen the Kwacha become Africa’s best-forming currency against the USD up by 32.28% on a YTD basis. Prospects of securing an IMF deal earlier than expected and receipts of SDRs from the IMF have in part supported the local unit. The appreciation trend of the Kwacha and improved prospects for fiscal consolidation are therefore seen as contributing to lower in-flation expectations. However, the potential increase in domestic energy prices and Covid-19 related supply disruptions are seen as pos-ing upside risks.
- It is worth noting that policymakers indicated that they remain committed to adjusting the policy rate upwards should the disinflationary process be slower than expected. However, should the Kwacha continue to firm driving inflation lower and significant progress is made on the debt front, we are of the view that policymakers could maintain their current policy stance for the foreseeable future.
- The BoZ also reported yesteray that gross international reserves rose to $1.4bn, equivalent to 2.6 months of import cover, at the end of June 2021 from $1.2bn (2.1 months of import cover ) at the end of March 2021. At the end of August 2021, international reserves rose fur-ther to about $2.9bn (5.4 months of import cover) following the IMF SDR937.5mn allocation ($1.33bn) and market purchases. The central bank net purchases amounted to $152.4mn in July and August. Improving reserve levels should provide further support to the Zambian Kwacha
- Zambia remained in the fiscal spotlight yesterday as the country’s Eurobonds suffered their worst day of trade in more than two months on Wednesday after newly elected President Hakainde Hichilema said public debt is higher than the previous government’s official fig-ures. Zambia’s 2024 Eurobond yield closed the session 59bps higher at 18.58% on Wednesday.
- While Zambian Eurobonds came under significant selling pressure yesterday, the broader bias remains decisively bullish and the best per-forming African bonds by a long shot in recent weeks. The 2024 Eurobond yield has shed more than 700bps since August 11 on the back of the landslide victory of President Hichilema, who has vowed to sort out the country’s fiscal problems.
- As mentioned in yesterday’s note, debt transparency will be paramount in securing a deal with the International Monetary Fund, as well as in restructuring talks with creditors. Recall that Zambia became Africa’s first COVID-era sovereign to default last year. Looking forward, we remain bullish on the outlook for Zambian bonds. However, this is contingent on the government striking a deal with the IMF.
- Until a deal with the IMF is secured, we expect a significant fiscal premium to remain baked in. Despite the unprecedented fall in Zambian Eurobond yields in recent days, Zambian hard currency bond yields continue to trade well above their peers, reflecting the precarious fis-cal position that the country finds itself in.
- In the US, it will be another busy data day today with further insight into labour market dynamics coming from the weekly jobless claims that will be viewed in the context of yesterday’s disappointing ADP data. Although the data improved, it missed expectations through Au-gust and investors will be hoping for some improved data today or the USD could take another beating as investors push out expectations for the taper. Durable goods orders will take a back seat today given that it is the final reading, but revised unit labour cost data will hold some interest as offering further insight into the labour market.
- For now, the USD remains on the defensive and the slide was assisted by the ADP data which came in softer than expectations. The focus now shifts to the remaining data this week for insight into whether the Fed might stall its taper. Investors are still convinced that the taper will start before the end of the year. However, there are indications from Fed members that the central bank will be in no hurry to mod-erate its asset purchases without clear indications that the economy was on a sustainable recovery path.
Rand and International FX Commentary
- The ZAR extended its current run of gains alongside other higher-beta currencies as the USD remained pressured by expectations for looser-for-longer Fed policy. All eyes fell on US private employment data yesterday, which showed labour market dynamics softened more than expected in August. Specifically, ADP employment figures showed the private sector added 374k jobs during August, well be-low surveyed expectations of 625k. The US Fed has persistently stated its aims for an inclusive recovery and full reemployment. Thus, weaker jobs reports feed the view that the Fed will continue to ride out the storm with quantitative easing at full throttle, ultimately benefiting emerging markets.
- Aided by domestic data as well, the ZAR added a further 0.70% gain against the USD to close at the 14.4000/$-handle. In terms of the data, factory mood rebounded in August as the Absa manufacturing PMI surged to 57.9 from 43.5 in July. This was the largest monthly increase on record as manufacturing activity recovered following the riots and civil unrest in July, and was the strongest reading since the record high in October 2020. While a positive development for the manufacturing sector, overall production will still take a hit in the third quarter, and there are already signs of longer-term damage to the economy and economic confidence from July’s unrest. Namely, the employ-ment sub-index fell, remaining below the 50-neutral mark, while the gauge tracking expectations for future business conditions also de-teriorated as respondents became less optimistic over the economic recovery amid rising cost pressures.
- As for demand-side conditions, August also showed an improvement in that respect as NAAMSA vehicle sales accelerated from 1.7% y/y in July to 24.6% y/y. With SA’s accommodative monetary policy stance and record low interest rates, coupled with normalising economic activity that has seen households’ income streams return, vehicle sales have picked up. With credit conditions remaining accommodative and will likely do so for some time still, SA’s demand dynamics should stay on the uptrend towards pre-pandemic levels. However, there are still numerous risks to the recovery while the overall growth outlook going forward remains comparatively subdued.
- As for the currency, only with sustained evidence that economic conditions are improving should we see the ZAR trade with less sensitivi-ty to global market sentiment. Until that time, the local unit will remain at the mercy of broader risk appetite, while the uneven nature of the global recovery through the coronavirus pandemic presents considerable risks. Over to current market dynamics, global equity mar-kets have come under pressure during the Asian trading session this morning, with economic slowdown risks being the major concern at present, while European and US equity index futures also point to a weaker day in store. This may equally apply to other riskier asset clas-ses in the day ahead, with emerging market currencies already struggling for traction in early morning trade, as markets become more cautious ahead of this week’s data highlight, being US nonfarm payrolls due tomorrow. However, if the ADP employment data is anything to go by, the USD could remain on the defensive should the market begin to expect the official August employment report to similarly underwhelm.