The strength of the rand and currency volatility has been very topical over the past few months. Currency strength in SA is viewed as constraining growth and promoting joblessness.“Ironically, SA’s recovery has gathered momentum as the rand has appreciated over the past year. Against the backdrop of a robust rand, inflation has receded rapidly and interest rates have been cut to their lowest levels in 30 yrs” Arthur Kamp, Sanlam
In two articles by Sanlam and Allan Gray they address the issues of the currency volatility and inflation. For your convenience, we’ve summarised them below:
Sanlam: The Rand debate rages on
- Foreign purchases of local bonds have risen dramatically in the last year: Year to date, foreign investors purchased R75bn domestic bonds (just R15bn for 2009)
- This is a result of foreign investors targeting emerging markets, including South Africa, in search of sustained growth.
- The bank argues this is not necessarily speculative, but rather reflects a ‘fundamental shift’ as investors seek to secure relatively higher long term returns
- If this is the case, the Rand, which has already increased 5% against the dollar, may remain robust for a while longer
- The Rand appears to be overvalued by some 15%. If persistently higher inflation does not eventually lead to a weaker Rand, the debate around how to reduce currency volatility may intensify in the months ahead
Allan Gray: The risk that doesn’t discriminate: inflation
- It is important for consumers to understand inflation – its impact on cost of living as well as in investment decision making
- Although the inflation rate this year (reported in July as 3.7%) is on the lower end of SARB’s target 3-6%, the inflation rate over the last 10 years has averaged around 6%
- A significant portion of the total investment return (whatever the source – capital growth and interest and dividends) compensates for inflation first before any real return is earned. Many falsely believe that capital growth alone will protect wealth in the long term.
- Example: The average money market investment returned 10% per year over the last 10 years: 6% would balance the effects of inflation, leaving only 4% real return per year (before fees are taken into account)
- Investors need to take inflation into account and look at real return when assessing the success of an investment