Apr 4, 2017 - ... division of Old Mutual Life Assurance Company (South Africa) Limited, Registration number ... offshore allocation allowed by Regulation 28.
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SOUTH AFRICA BACK IN JUNK TERRITORY Dave Mohr and Izak Odendaal, Old Mutual Multi-Managers

Following last week’s dismissal of Finance Minister Pravin Gordhan

US dollar also appears to have peaked, as only gradual interest

and his deputy, S&P Global Ratings downgraded South Africa’s

rate hikes are expected from the US central bank.

foreign currency credit rating to BB+, into speculative grade or so-

Economic impact

called junk territory. The local currency rating was also

downgraded but remains investment grade at BBB-. Around 90% of government borrowing is in local currency and there is little risk that the government will be shut out of capital markets, unable to borrow or maintain interest payments.

Risks to fiscal and growth outlook S&P noted that President Zuma’s Cabinet reshuffle put South Africa’s

The immediate impact on the domestic economy is likely to be negative as business and consumer confidence is likely to remain depressed. But a catastrophic currency or interest

rate shock appears unlikely. However, the South African Reserve Bank will probably hold off on any interest rate cuts until there is less political uncertainty.

the government’s contingent liabilities that arise from its guarantees

The downgrade is negative for South Africa, but life after junk is possible. Brazil was cut below

to State-Owned Enterprises. Both local and foreign currency ratings

investment grade by S&P in September 2015. Its bond yields have

have a negative outlook, which means that there are risks of further

since declined substantially (meaning bond prices have risen) and its

downgrades unless there is more clarity on future fiscal policy.

currency has appreciated. Brazil has benefited from the same shift

fiscal and growth outlook at risk. It is particularly concerned about

S&P first granted South Africa an investment grade rating in February 2000. Moody’s is set to review South Africa’s rating this Friday. It is also likely to downgrade us, but currently rates South Africa two notches above junk status. The immediate market response was a sell-off of around 2.5% in the rand against the dollar, while long bond yields rose to above 9%. The rand-dollar exchange rate and the government’s bond yields are

in global conditions. The global environment will probably remain more important than the evolving political situation in determining the outlook for local markets and the economy.

Diversification key While it may feel safer fleeing to cash or taking all your assets overseas, such concentrated, fearful portfolios do not deliver the desired outcome over time.

well below their worst levels in the past 12 months. Local investors

Our Strategy Funds are well diversified, and have the maximum

have braced themselves for a downgrade since President Zuma

offshore allocation allowed by Regulation 28. This portion of the

fired former Finance Minister Nene in December 2015. Global

portfolio benefits from a weaker rand. A weaker rand also benefits

markets have long priced South Africa as a junk status economy,

more than half of the JSE, so our local equity allocation also offers

with our credit default swaps (CDS) trading in the same region as BB-rated countries Brazil, Turkey and Russia and well above other BBB- countries.

The current global context is also favourable to South Africa. Emerging markets are back in favour due to better economic growth outlook, decent valuations and commodity prices have rebounded somewhat from bombed-out levels. The

substantial currency diversification. On the other hand, interest rate sensitive assets such as bonds and property