What could happen if Moody’s downgrades SA in 2020
Analysts offer a mixed bag of potential outcomes, none of them are good, but some are not half bad
Most analysts following SA expect it to lose its final investment-grade rating. But they disagree over when that might happen and what the consequences could be.
The gloomiest reckon it would trigger more than $10bn (R147bn) of outflows and cause the rand to weaken to its lowest level in almost four years.
Others say investors have already priced in a downgrade and SA assets may even rise in the aftermath, especially if sentiment towards emerging markets stays strong.
Moody’s Investors Service, which rates SA Baa3, one step above speculative grade, cut its outlook to negative on November 1. This came after finance minister Tito Mboweni’s budget statement, which showed the government’s financial situation deteriorating rapidly.
If Moody’s does downgrade SA, rand bonds will be excluded from the FTSE world government bond indexe (WGBI), which comprise 14 currencies, including the dollar and yen, and have about $3-trillion tracking them, according to Bank of New York Mellon. SA has a 0.45% weighting in the main index.
Foreign investors own 37%, or about R780bn of SA’s local-currency bonds, according to National Treasury data.
Here’s what analysts say the impact would be:
Bank of America
The US lender expects a rating downgrade soon after February’s budget review, doubting President Cyril Ramaphosa’s administration will manage to address concerns about a widening fiscal gap or debt-laden state power company Eskom by then. But analysts David Hauner and Jure Jeric say markets have priced this in and outflows may only reach $1.5bn, especially if China and the US continue to buoy emerging markets by reducing tensions over trade.
SA assets are cheap and “post-downgrade, the market is likely to rise as uncertainty declines”, they said in a note this month.
Bank of New York Mellon
Daniel Tenengauzer, head of markets strategy, is in the bearish camp and forecasts between $8bn and $12bn of outflows if SA exits the WGBI. Its status as the highest-yielding country in the index may not help much to curb the selling, he said. Rand bond rates average 9.2%, about 360 basis points more than those for the second-highest yielding currency, the Mexican peso.
A downgrade around March is possible if SA fails to come up with a “credible debt-stabilisation strategy”, which will involve tough negotiations between the government and unions about reining in spending, according to Gina Schoeman, an economist at the Wall Street bank. Moody’s “tolerance appears low”, she said in a November 4 note to clients, adding that a WGBI exclusion would probably lead to between $6bn and $7bn of capital exiting the country.
SA’s chances of avoiding a downgrade after the February budget are 50:50, said Peter Attard Montalto, the London-based head of capital-markets research. A cut has been priced in to “a moderate degree” and could result in $5bn of outflows, he said.
Annabel Bishop, the bank’s Johannesburg-based chief economist, said a negative outlook, rather than a ratings watch, means Moody’s will probably give SA as long as 18 months to improve its finances. The government’s 10-year local-currency yields may rise to about 10% if there’s a downgrade, but they probably won’t climb as much as those in Brazil and Turkey did when they were cut to junk, she said.
Rand Merchant Bank (RMB)
Moody’s “really marked SA down because of our politics”, Kim Silberman, a fixed-income analyst at the Johannesburg-based investment bank, said in a video for clients on November 4. She thinks a downgrade by March is now “quite possible” and the rand would probably drop to R16/$, 7.6% weaker than its current rate and a level not reached since early 2016.
Adrian Schwellnus, a bond trader at RMB, said outflows could amount to anything between R30bn and R200bn. “One thing is that this global environment is probably the most ideal for a downgrade to happen in,” he said.
“We do not see a downgrade as early as March as being at all likely,” said Razia Khan, the bank’s London-based chief economist for Africa and the Middle East. The negative outlook from Moody’s “provides the authorities with exactly the political cover they might need to take a firm stance on reforms”, and a pickup in growth next year may mean a cut’s avoided altogether, she said.
Samir Gadio, the bank’s head of Africa strategy, said that even if it isn’t, estimates of outflows of about $10bn “look significantly overstated”.
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