Currency risk is real. It details fluctuations in the value of the South African Rand (ZAR) against other currencies. This volatility can have a direct impact on the investments you make.
Given the whipsaw movements with the South African Rand, your portfolio can reflect positively or negatively. As one of the most heavily traded emerging market currencies, the Rand is also subject to extreme volatility. Foreign direct investment (FDI) tends to slow when global uncertainty arises. This instantly impacts the value of the Rand.
When the Rand depreciates, anxiety ensues. Understanding the impact of rising and falling relative values for investment is important. Currency risk needs to be actively managed to guard against a sharp and sudden downturn in your portfolio.
Exchange rates reflect the relative values of currencies, particularly the USD/ZAR, GBP/ZAR, CNY/ZAR, JPY/ZAR and the EUR/ZAR currency pairs. Since so many top-tier South African companies derive revenue overseas, ZAR appreciations or depreciations can change your net worth.
But not all companies are adversely affected by the relative strength or weakness of the South African Rand. Domestic companies that operate in the South African market are less susceptible to this volatility. But, they are not immune.
Imports of raw materials from abroad can reduce profitability when the Rand weakens relative to other currencies. Companies may then be forced to raise their prices (pushing the burden on consumers) to mitigate rising costs. Businesses routinely face a trade-off between satisfying customers and stakeholders, with rising prices usually winning.
What About Inflation?
In an inflationary environment, currencies tend to depreciate dramatically. Such has been the case in 2022, where the South African Rand has depreciated from around 14.5 to the US dollar in mid-April to 17 to the US dollar heading into September. That represents a 17.24% depreciation in several months. In fact, 41% of small business owners identify inflation as their primary concern.
From a trading and investment perspective, it’s clear how this comes together. If the Rand is weak, this tends to bode well for companies with offshore investments. Why? Because when you convert foreign currency, it can buy more South African Rands. By contrast, a strong Rand weakens the buying power of the foreign currency.
Practically, companies that export products tend to benefit from a weakening Rand. That’s because it costs foreign buyers less per unit of their currency for every South African Rand. Exporters face declining revenues when the Rand is strong.
That’s because it costs foreign buyers more of their currency for every purchase denominated in South African Rands. As an investor in the SA markets, it’s important to learn how to invest in the JSE top 40 index; you will be well served with a rudimentary understanding of currency risk.
Let’s assume you want to purchase shares in Impala Platinum, and the Rand is at historic lows. Since exports are a huge part of this company’s revenues, a weak Rand is good for business.
In case you did not know, the inflation rate in the United States reached 4.9% in April 2023 and 90% of the chief economists expect high or very high inflation in 2023 in Europe.
The Strength of the South African Rand
Companies that rely on imports to produce their goods and services are negatively impacted by a weak Rand. That’s because more Rands are required to purchase the production inputs. Therefore, it is best to invest in these companies when the Rand is strong for short-term gains.
Truthfully, it’s impossible to avoid currency risk and volatility. These are intractable components of the global economy. In recent years, the world economy has been shaken to its core, given the massive macroeconomic instability. Supply chain bottlenecks, limited production capacity, surging oil prices, inflationary pressures, and uncertainty are rampant.
Stock markets reflect these concerns. We see bear markets across the board, with short-term bull rallies punctuating the otherwise gloomy landscape.
Take, for example, the JSE Top 40 for the year-to-date. It opened the year at 67,000 and is currently trading at 63,000, for a downturn of 5.99%. This bearish trend has dominated since early March 2022, when the index hit 70,000. Plus, the NASDAQ composite index is markedly down for the year too.
After a spectacular run of form from March 2020 through October 2021, the NASDAQ has plummeted spectacularly. The same is true for European, Asian, and South American markets worldwide.
Of course, not everything can be attributed to currency strength and weakness. But traders routinely rely on economic indicators to determine the viability of investments. Interest rates, inflation rates, unemployment rates, currency risk, and market volatility factor into the equation.
Given all of these factors, we can certainly make the case for paying close attention to market indicators. Exchange rates are real and they can determine the viability of your financial portfolio.
Watch this space for updates in the Opinion category on Running Wolf’s Rant.
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