Macro and Vol Commentary
Both economies are struggling, and we expect conditions to deteriorate with Europe and South Africa importing inflation.
South Africa Economy
- Growth in South Africa has been steady, with real GDP in Q1 2022 at 1.9% Q/Q, up from Q4 2021 at 1.4%. Real GDP is expected to be lower in Q2 due to flooding in Kwa-Zulu Natal and extensive load-shedding. Growth is forecast to be 1.1% before slowing to 0.7% and 0.4% in Q3 and Q4, respectively.
- Growth expectations for 2023 are 1.3% in 2023 and 1.9% in 2024.
- Investment is returning to South Africa, but the public sector investment remains weak.
- GDP per capita is $7,081.9, an improvement of $6,861.2 in 2021.
- Export prices have fallen from the peak, and forecasts suggest a rise of 3.2% for the year, down from 9.5%.
- As a result, the trade balance stands at 1.25% of GDP, and the trade surplus is strong and stands at ZAR24.22bn in June, up from ZAR$30.85bn in May.
- Net exports in South Africa were $3,637, with exports at $13,187 and imports at $9,549.4.
- Gold mining has suffered in recent months; production declined -by 28.3% Y/Y in May, down from -27.8% Y/Y.
- Platinum production was 3.3% Y/Y in May, and as prices of materials decline, the balance could suffer, especially with auto demand so poor across the globe.
- Mining production grew at 0.7% M/M in May, up from -3.6% M/M in April; with demand softer due to the stuttering economy and the rest of the world economy slowing, underlying demand for resources is likely to suffer, and this will impact the trade surplus.
- Manufacturing PMIs are still expansionary in South Africa at 52.7 in, above expectations of 50.5 and above 52.5 from the month before. The high input costs are still.
- New orders were still strong, along with output and employment, as market demand was resilient despite the weakening backdrop.
- The rising cost of fuel, utilities and labour led to a further sharp increase in business expenses. This will continue to be the case for the medium term and into winter.
- Business confidence remains high as companies look at commodity prices that have declined marginally to ease pressures.
- Electricity consumption was -1.1% Y/Y, with May’s data at -2.5% Y/Y, and production continues to decline at -4% Y/Y, down from -4.3% the month before. The power crisis continues, and Eskom has submitted a tariff restructuring application to the national energy regulator of South Africa, proposing sweeping changes to the calculations for electricity prices.
- The new rates do not align with the energy, network, or retail costs.
- The revised Homelight tariff, which is typically reserved for the low usage single phase of residential dwellings, churches, schools, halls, clinics and care homes, would still get a subsidised rate.
- They would pay roughly the same rates for lower energy usage, while consumption from 700kWh upwards would be cheaper than under the current tariff.
- The strikes from Eskom will continue to cause major black-outs, also known as load-shedding, as the utility company doesn’t have enough capacity to meet the peak demand of 32,000MW in the winter. This means 6,000MW is cut off from the grid.
- This vastly reduces the economic growth potential for South Africa, and we expect this to be a hindrance as we enter the winter months.
- Inflation is at 7.4% as of June, and this is lower than in other major countries, but the trend continues to increase as M/M CPI was 1.1%.
- Core inflation was at 4.4% Y/Y in June.
- PPI is at 16.2% Y/Y, and this will subside marginally. Commodity prices have moderated marginally; however, M/M PPI growth is expanding, which will cause higher consumer prices.
- Private credit continues to increase as inflation rise, but
- Unemployment is at 34.5% currently, with non-farms at 2% Y/Y in Q1 as well; while unemployment is declining, we expect credit to rise as costs accelerate in the coming quarters.
- Business conditions are weakening, with the composite business confidence at 42 and business confidence at 5.7 in Q2 2022. At the same time, we hear reports that businesses are more optimistic about price pressures, but we expect this to be short-lived.
- Rates in South Africa are at 5.5%, and we expect 75bps in the next meeting. This is still comparatively low compared to other E.M. countries.
- South Africa holds a modest amount of U.S. long-term treasuries and is not one of the largest holders of U.S. debt. This will mean payments are less severe than other EMs such as Brazil, which owns $244.5bn.
- We expect South African rates to rise, but given that they won’t meet again until September, we expect there to be a period where curves diverge. SARB will raise rates by 75bps in their next meeting, whereas we expect the ECB to move by 50bps.
- The meetings are one day apart, so there is little movement.
The South African economy is in better shape than Europe, with CPI lower; however, Core CPI is higher in South Africa. The trade balance of South Africa is strong, and this should remain the case unless there is a sharp drop in global growth in the immediate term. We expect this to play out in yields, especially in the U.S. Europe’s energy crisis will hit a peak in the winter months, but South Africa also has a capacity deficit of 6,000MW from peak demand, which will cause electricity costs to rise significantly despite the new package. This will limit margins and lower growth potential due to investment and may also be a risk to employment for some companies. The dollar is strong against most currencies as the Fed raised rates quickly and early, but now other CBs are playing catch up, Europe is very far behind the curve, and the dislocation of economic data will be a challenge. We favour selling EURZAR above 17.00 due to the divergence in rates and solid economic data in South Africa relative to Europe.
Source: SARB, S&P Global, Eskom, Statistics South Africa
Since the start of the year, EURZAR has been trending between the 16 and 18 levels, with the 1-month volatility realising above implied only during the risk-off times prompted by the Russian invasion over Ukraine. This trend has reversed back since then, with options’ 1-month volatility keeping realising lower than implied, by an average of circa 4% over the last 6 months.
At-the-money volatilities follow a downward trend as well, with the 1-month ATM Vol dropping by 2 Vols compared to last month level. Therefore, we favour selling ATM Volatility over the 1-month horizon, to capitalise on Short Vega positions and a further drop in ATM volatilities.
EURZAR 1-month Realised and Implied Volatility
Trade idea in 1-month
Sell EURZAR Straddle in EUR 2mio, 16.8 Strike – Rec circa EUR 53.6K
USDBRL NDO Positioning Data 27/07/2022 - 04/08/2022
The options market shows a preference for the downside in USDBRL. The range shows more options trading around 4.50 with fewer upside calls above 5.00. This suggests that the market favours further losses, the notional value of the put options are higher suggesting conviction in the market. After October there is no dominant view with few options executed.
USDBRL NDO Positioning Data 04/08/2022 - 10/08/2022
USDCNY Positioning Data 27/07/2022 - 04/08/2022
USCNY shows mild upside appetite in the near term, calls trade up to 7 and this could set the scene for a rally in spot. Weakness in spot could see a large amount of cover being added to the downside in the coming weeks but this could be short lived as Fed changes to rate hikes and a softer dollar in the immediate term due to waning inflation.
USDCNY Positioning Data 04/08/2022 - 10/08/2022
EURZAR Vanilla Positioning Data 10/06/2022 - 10/07/2022
Liquidity in this pair is poor as shown below, however we can see that from both charts that options executed with a higher notional value and therefore conviction are to the downside. The yield curves are likely to diverge as the ZAR rates increase at a steeper rate. Economic data in South Africa is stronger and Europe will enter into a recession. The market favours a move lower in the coming months.
EURZAR Vanilla Positioning Data 10/07/2022 - 10/08/2022
Charts and Tables
Historical Spot FX Volatility (30D Rolling)
FX Matrix (today)
Key Events & Releases
JP Morgan Global FX Volatility
The index has weakened in recent days below the trend support level; the market closed at 10.06, finding support at 10.00. The fall below this could pave the way for a challenge of the 76.4% fib level at 9.67. The MACD diff is negative and diverging, suggesting continued downside pressures for the prices. The %K/%D stochastics continue to edge lower in the oversold. On the upside, the index needs to gain a footing above 10.50, which could set the scene for 50 MA at 10.66. The indices point to a continuation of downside momentum, and the three black crows formation today confirms this outlook.
The dollar index has been softening in recent sessions about found support at 105 and has been trading mostly sideways today, supported by this level. The stochastics have, however, continued to diverge on the downside, confirming a strong selling pressure, but the MACD is negative and converging, suggesting that momentum should slow. If weakness prevails, we could see prices break below the 105 level to test 104.04. On the upside, if support above this level holds firm, this could trigger gains through 50 MA at 105.99 and target 100 and 200 MAs at 106.30. The most recent indicators suggest we could see the downside momentum slow in the near term.
The pair has deteriorated so far this week, but support at 16.60 forced the pair to settle at 16.70. The stochastics are falling, with %K/%D converging on the downside, a strong sell signal, and the MACD diff is negative and diverging, suggesting we could see the pair push lower in the near term. The pair needs to hold above 16.50 before targeting 14 MA at 16.97 once again. The reaffirmation of near-term support at the moving averages would suggest we could see the market push higher. On the downside, confirmation of resistance of MA at 17.00 could trigger a break of support at 16.50 to 16.30. The moving averages created robust resistance levels, and to confirm the indicators, prices need to break the support of 16.50 to confirm the outlook.