ZAR vulnerable as local politics takes centre stage

The outcome of the voting in South Africa may be pivotal for the rand. After its recent rally, ZAR might be prone to a knee-jerk reaction should the ruling since the 1994 African National Congress fail to form a market-friendly government able to hold a tight grip on fragile public finances.

Soaring commodity prices translating into South Africa’s terms of trade improvement have recently become a key factor behind the rand’s solid performance. Despite mounting political risk, which started in mid-April, the USD/ZAR rate retraced from the 19.50 area and drifted lower towards the 18.00 handle. In quarter-to-date terms, ZAR is the second strongest EM currency, faring worse only than the Chilean peso, which took a sharp nose dive in Q1. Fintech Conotoxia expects the latest bounce to be short-lived as the US dollar decline might take a breather, and South African political risks will resurface. In the short term, we expect the USD/ZAR to hover around 18.50. The rand should appreciate modestly when the USD declines and the emerging markets space lures investors due to looming Fed cuts.

The latest polling data indicates that the African National Congress party support does not exceed 45 pct. Consequently, it is projected to fall short of securing an outright majority in the 400-member National Assembly for the first time in the post-apartheid era. ANC will be forced to seek coalition partners among smaller parties, which results look highly uncertain. Coalition with the Democratic Alliance or Inkatha Freedom Party, which historically has had no major electoral success outside its home province, is perceived as the most market-friendly outcome. Nonetheless, it seems that markets may have become too complacent about today’s voting aftermath and underestimated the risk of prolonged coalition talks or the necessity of forming a government that includes Economic Freedom Fighters.