*FRA market predicts almost 50 basis points in next year
*Rand slumps as Trump presidency seen fueling price increases
14 November 2016, Pretoria — Investors are betting on a South African rate increase as inflation expectations surge in the wake of a collapse in the rand.
Forward-rate agreements starting in 12 months, used to speculate on policy moves, added 40 basis points since the U.S. election and are now pricing in almost 50 basis points of rate increases. As recently as Nov. 3, the contracts had virtually priced out the prospect of policy tightening.
South Africa’s consumer inflation rate climbed to 6.1 percent in September, above the 6 percent upper limit of the central bank’s target range. Inflation expectations as measured by the five-year breakeven rate, or yield difference between bonds that protect against price increases and fixed-rate debt, climbed 48 basis points since the election to 6.6 percent as the rand slumped 8 percent against the dollar in three days.
Foreign investors sold a net 9.8 billion ($683 million) of South African bonds last week as a global debt selloff intensified amid concern U.S. President-elect Donald Trump’s spending pledges will fuel inflation and trigger U.S. rate increases. The rand fell to a 10-week low against the dollar on Monday as South African government bond yields soared to the highest in five months.
“When you don’t have line of sight as to how much further this could run, you’re always going to price in the prospect that monetary policy may be forced tighter down the line,” said George Glynos, managing director and chief economist at ETM Analytics in Johannesburg. “You’re certainly not going to get rate cuts in an environment like this. The real risk is that you get further monetary tightening.”
The South African Reserve Bank’s Monetary Policy Committee has left rates unchanged since March after raising the benchmark repurchase rate by two percentage points to 7 percent in the preceding two years. Governor Lesetja Kganyago has said the central bank was near the end of its rate-hiking cycle as the regulator juggles its mandate to control prices with the need to support stagnant growth.
Trump’s election victory continues to send shockwaves through global markets, having already led to $1.2 trillion being wiped off the value of bonds worldwide last week. Emerging markets are being hit by an exodus of capital as speculation builds that the U.S. is heading into an era of rising interest rates, more protectionist trade policies, an increase in government spending on infrastructure and tax cuts.