FOREIGN EXCHANGE – THE CURRENT LANDSCAPE
21 Feb 2020
Several local and international factors are currently weighing on the Rand and the South African economy. Whilst our local challenges are vast and important, South Africa’s status of an emerging market economy results in our local events not really having an impact on the performance of the Rand.
The main global issues currently impacting the Rand are; 1) the ongoing trade discussions between the US and China; 2) Brexit; 3) the Corona flu virus in China 4) conflict between the USA and some countries in the Middle East. On the local front, load shedding continues to dominate discussion in the country with the system expected to face increased pressure as activities and electricity requirements increases during the year. The dire state of some of our key State-Owned Enterprises and some political uncertainty are also placing a lot of strain on our economy and growth prospects in the short/medium term.
However, as mentioned local matters, whist important, do not really contribute to the volatility and the ongoing weaknesses experienced in the Rand.
The Bank for International Settlements (BIS) has recently published its latest Triennial Central Bank Survey, which tracks global foreign exchange activity in major markets. According to the BIS, trading in global foreign exchange markets reached USD 6.6 trillion per day in April 2019, up from USD 5.1 trillion three years earlier. The US dollar retained its dominant currency status, being on one side of 88% of all trades. The share of trades with the Euro on one side expanded somewhat, to 32%. By contrast, the share of trades involving the Japanese Yen fell some 5 percentage points, although the Yen remained the third most actively traded currency (on one side of 17% of all trades), the BIS said.
“As in previous surveys, currencies of emerging market economies again gained market share, reaching 25% of overall global turnover. Turnover in the Chinese Renminbi, however, grew only slightly faster than the aggregate market, and the Renminbi did not climb further in the global rankings. “It remained the eighth most traded currency, with a share of 4.3%, ranking just after the Swiss franc,” the group said.
South Africa’s Rand was ranked as the 18th most traded currency in the world, up from 20th position three years ago. The Rand accounted for 1.1% of the average daily turnover recorded in April 2019, compared to 1.0% in 2016. Over the last 15 years, the Rand has been used more in trades, despite having ranked higher in the 2004 and 2007 reports. In those years, South Africa’s currency ranked 16th and 15th overall, respectively, but only accounted for 0.7% and 0.9% of the daily average turnover tracked over the same periods. The Rand’s trade share is on par with other emerging economies like Russia, India, Brazil and Turkey.
One of the biggest challenges facing importers and exporters involved in cross border currency payments, is how best to manage and mitigate the impact of volatile currency markets on their business operations, cost competitiveness and profitability.
Without a proper foreign exchange management policy, and a proper risk management tool, companies are not able to control the potential adverse effects of currency movements, which can lead to increased cost and reduced market share and profits.
Naturally the needs of companies will differ from company to company depending on various factors including turnover, mandates, costing model, etc.
The demand for Forward Cover depends on expectations for the currency, the risk appetite of the business and to what extent price increases, due to exchange rate fluctuations, can be passed through. Companies with low risk appetite will take Forward Cover on all their exposures as they arise. Companies with a higher risk appetite will tend to take a view on the currency and leave exposures open.
In our experience, very few companies have any formal risk management framework document in place and company executives rely on hope and greed in the execution of their foreign exchange exposures. The “when” and “how” to buy foreign exchange is normally an emotional issue and is normally done on a reactive basis by organisations involved in Global Trade.
Importers that have been exposed during the latest depreciation are probably hoping that the currency will recover and are therefore waiting it out. Similarly, some exporters are thinking that it will continue to run and are therefore also staying open. In this example the importer is relying on hope and the exporter is greedy.
In contrast, companies with a proper risk management framework will be more consistent with the management of their exposures. This will result in less uncertainty over profitability and is ultimately more sustainable.
It follows that demand for Forward Cover should grow in line with the growth in trade.
Herman Bezuidenhout – 9 February 2020
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