Rand traders brace for big swings as risks stack up

The South African unit, which has swung from being the best- to the worst-performing major currency against the dollar this year amid political tension and a faltering economy, is set for more volatility, based on options contracts.

One-month dollar-rand implied volatility soared to the highest in two years on Wednesday as traders hedged for big moves either way in the run-up to the ruling African National Congress’ leadership election in December.

The premium of options to sell the rand over those to buy it - known as the risk reversal - has dipped, however, suggesting traders are taking some bearish bets off the table even as hedging remains skewed toward the currency weakening.

Reports that Deputy President Cyril Ramaphosa, investors’ favourite candidate, is leading the race to take over as ANC leader from President Jacob Zuma have buoyed the rand. 

A win for Ramaphosa would be “hugely market-positive”, while a victory for Zuma’s ex-wife Nkosazana Dlamini-Zuma, the other main contender, would send the currency down, according to Societe Generale SA.

The leadership contest - which culminates in an elective conference from 16 to 20 December - isn’t the only risk in coming weeks.

Investors are bracing for a possible downgrade of the government’s local-currency rating to junk on Friday, when Moody’s Investors Service and S&P Global Ratings publish reviews. 

The companies assess South Africa’s local debt at one level above junk, and a cut by both would lead to the nation’s exclusion from Citigroup’s World Government Bond Index. That may cause as much as $14bn of outflows, according to Bank of America.

It’s all reducing the currency’s attractiveness for carry traders, who borrow dollars to invest in higher-yielding assets.

Adjusted for volatility, implied returns for the dollar-rand trade over the next month have fallen to the lowest in almost six years, according to data compiled by Bloomberg.

Despite the potential for swings either way, analysts, like derivative traders, still see the rand depreciating.

The median forecast for the exchange rate at the end of the first quarter next year has weakened to 14.28 per dollar, from 13.4 since September, according to a Bloomberg survey.

That suggests the rand may drop another 2.9% by then, extending its loss since March to 13%.

Foreign investors are already turning cold on South African bonds, data from the Johannesburg Stock Exchange show, with daily outflows over the past month averaging R134m.

Should they accelerate, that would add pressure on the current-account deficit and the rand.