For the quarter under review The South Africa Reserve Bank monetary policy committee kept the repo rate unchanged, this was in line with market expectations. Inflation returned to within the target range at 5.4% y/y for May, and has been surprising to the downside. The Bank has acknowledged the improvement in inflation and a positive trade balance; however the Bank remains cautious about further possible adverse shocks- being a highly sensitive rand to unfolding domestic political uncertainty, as well as decisions by the credit ratings agencies.

Moodys announced their rating decision in June, they downgraded South Africa sovereign rating by one notch with a negative outlook. Political uncertainty , rating agencies downgrades and a very weak first quarter GDP number , which technically puts South African in a recession, caused market volatility over the last quarter.

Due to inflation printing better than expected and weak GDP numbers the market has started to price in the possibility of future rate cuts. The forward rate agreement market is pricing in the possibility of a 50 basis points rate cut in a years’ time. One year NCD rate closed June month end at 8.125%, down from March month end at 8.325%.

The South African economy and the rand however remains vulnerable to a number of events that are expected to play out in the latter half of 2017, due to the high uncertainty the money market funds remain overweight in floating rate notes.

The focus for this quarter remained mostly on the events from US and the impact it will have on Developed and Emerging Markets. Locally at both meetings, SARB took a decision to leave the Repo Rate unchanged at 7.00%. Even though the tone of the meeting remained mildly hawkish to dovish, the constrained growth outlook remained a concern.

The local market expects rates to be kept on hold for the remainder of 2017 however, this is highly dependent on our economic data, currency strength or weakness and political events. As expected, the FED hiked interest rates by 25bps. While the markets priced in more hikes for the US for 2017, the recent dovish tone from the FED’s statement, confirmed projections of only two more hikes. This resulted in our local currency strengthening to its best level in 18 months trading down to the R12.31 mark against the US dollar, further supported by the impressive current account numbers for the 4th quarter of 2016. The Rand strength was short lived, due to Political events that took place in the latter part of the quarter, closing at R13.61 against the US dollar.

2017 Feb CPI number printed better than expected at 6.3%, helped by a slowdown in food inflation as well as favourable base effects. Inflation for 2017 was expected to move within the 3 % to 6% target band. Given the recent negative moves in the currency, the weak Rand is expected to put pressure on inflation, going forward.

At the 2017/2018 budget speech, Treasury projected a growth rate of 1.3% while fiscal deficit is targeted at 3.4% for 2018. These projections were welcomed by the rating agencies, believed to be in line with their expectations. However, lack of new ideas to further stimulate growth, remained a concern. Subsequently in the new quarter, S & P downgraded SA’s foreign currency rating to Junk status from BBB- to BB+ with a negative outlook, citing the political uncertainties as the main driver behind this decision. This was also followed Fitch’s decision to downgrade SA’s local and foreign currency ratings to subinvestment grade. Moody’s has since postponed the April review, but has put SA’s ratings on a review for a downgrade. Risk to GDP growth is now on the downside.

The 12 months NCD rates closed the quarter at 8.325%. With short-term rates expected to move sideways during 2017, the funds maintain their overweight position to Floating Rate Notes linked to 3 months Jibar that are currently yielding better returns relative to NCD’s.

The South African repurchase rate remained flat at 7.0% during the last quarter of 2016, with the prime lending rate at 10.5%. According to the MPC statement, the decision to keep rates unchanged was unanimous. The MPC retained the view that SA may be close to the end of the hiking cycle. The domestic growth outlook also remained unchanged and remains constrained against the backdrop of weak business and consumer confidence. SA consumer inflation rose to 6.6% year-on-year in November, following a 6.4% increase in October. This was in line with market expectations. Inflation is expected to moderate meaningfully in 2017, due to a slowdown in food inflation as well as favourable base effects.
The South African sovereign credit rating was reviewed by Fitch and Moody’s at the end of November and a week later by S&P. The ratings were broadly unchanged, with Moody’s affirming the long-term counterparty rating at Baa2, with a negative outlook. Fitch also affirmed its long-term global scale rating at BBB-, while lowering the outlook to negative from stable. S&P affirmed the foreign currency rating at BBB-, but lowered the local currency rating by one notch to BBB from BBB+, reducing the gap between the local and global scale ratings. The risk of a downgrade to "junk status" has therefore risen and South Africa will require political stability and better economic growth in order to avoid a downgrade.

The Federal Reserve hiked US interest by 25 basis points, as expected, in December but also revised its expectations for 2017 from two to three further hikes. The expected increase in US interest rates against a background of a projected decrease in SA inflation in 2017, makes it likely that SA interest rates will remain flat during 2017.

One year NCD rates closed at 8.4% and 3 month JIBAR at 7.36% in December, remaining fairly flat during the fourth quarter of 2016. The forward rate agreement (FRA) curve, used to speculate on borrowing costs, was trading flat at the end of 2016 indicating no expectations of an interest rate hike during the first quarter of 2017. This also conforms to our current view of flat interest rates for 2017. Currently there is still value in JIBAR linked instruments.