As Russia’s bloody invasion of Ukraine was set to enter its seventh day with no end in sight and oil prices surging past $110 a barrel, money markets are pricing in the prospect of the Reserve Bank being forced to accelerate interest rate hikes.
Local bonds fell with their international counterparts on Wednesday, pushing benchmark yields, which move inversely to the price, to the highest level since December. Investors are starting to price in higher inflation due to the oil price spike and potential disruptions to other commodities.
The rand reached its weakest level in three weeks as investors fled riskier assets.
Bonds were pushed lower by a report showing that inflation in the eurozone accelerated in January at the fastest rate since the creation of the monetary union and by comments from Federal Reserve chair Jerome Powell that he would support a 25-basis-point rates hike in March.
But stock markets had a more favourable response, focusing on his comments on the outlook for US employment and economic growth.
Higher rates in developed countries risk intensifying pressure on the Bank to do the same to protect the yield advantage of holding assets denominated in the local currency. But interest rate increases will hit an economy that has been slower than its emerging-market peers to recover from the Covid-induced slump.
Bank governor Lesetja Kganyago and the rest of the monetary policy committee raised the repo rate 25 basis points in each of their last two meetings, and investors are now debating whether the conflict in Ukraine will prompt them to act faster than initially anticipated. Their next decision is due on March 24.
The Bank’s model indicated that the repo rate will rise to 6.55% by the end of 2024, from 4% now. Money markets indicate that the repo rate will reach that level a year earlier, according to Thalia Petousis, portfolio manager at Allan Gray. The market is “clearly pricing for higher inflation via global trade disruptions in a variety of food markets, such as wheat and maize, as well as higher fuel prices”, she told Business Day.
By 5.45pm local time, the Ukraine conflict had pushed the price of Brent crude to $110.29 a barrel. It has jumped 42% so far in 2022.
The rand fell as much as 0.9% to its weakest level since February 8, before paring its declines. It’s still been among the more resilient emerging-market currencies, limiting its drop in the past week to 2.2%, and is one of just five out of 24 that have gained against the dollar in 2022, according to Bloomberg data.
Commodities
In contrast, the Russian rouble is down 25% in the past week, while the currencies of Eastern European nations Poland, Czech Republic and Hungary have dropped between 6% and 7.3%. The rand’s relative strength, partly driven by increased demand for the country’s commodity exports, may shield the currency and limit the feedthrough to inflation.
“The rand has weakened slightly against major currencies, as have our bond yields,” said Sandy McGregor, who is also a portfolio manager at Allan Gray. “The biggest immediate risk is a surge in inflation due to higher oil prices. The [Reserve Bank] will have to make a call on whether this inflation is transitory, in which case it can do nothing, or more persistent, in which case rates will have to rise.”
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