Martedì, 23 Febbraio 2016 01:31 | What will happen if SA is downgraded to junk

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Town - The view that the rand and the JSE will fall significantly if South Africa is downgraded further by ratings agencies is flawed, Kokkie Kooyman, portfolio manager at Denker Capital, said on Tuesday.

He said it is not the ratings agencies that will cause the JSE and the rand value to fall. It will rather be the budget, its subsequent implementation and further unexpected weakness in the economy that will be the main driver of price changes.

"The new budget and risk of further deterioration in our economic prospects - like drought and labour unrest - will be critical to whether our debt re-prices further. A ratings downgrade, should it happen, will simply affirm what we will already know," explained Kooyman.

It is, therefore, not a dead certainty that SA's sovereign debt - and along with it the bank debt - will get downgraded to “junk” or non-investment grade status.

"Ratings agencies rate the capacity and willingness of a country or company to repay its debt, and a key factor they look at is debt levels versus future cash flow. A poor or deteriorating growth outlook effects future capacity to repay and is a negative," he said.

He pointed out that markets react negatively or positively to unexpected events. The extent of such a reaction is driven by valuation levels at the time of the event, the extent to which it was expected and the extent and impact of the surprise.

READ:Will cutting Zuma's fat save SA from junk status?

For example, former Finance minister Nhlanhla Nene’s dismissal was totally unexpected and valuation levels were high. Therefore, there was a significant impact on the rand, bond markets and the JSE when it happened.

"A downgrade is seldom a surprise. If we do get downgraded it will be based on what is already known: The weak state of the economy, high debt levels and a lack of confidence in government’s decision making and policies," said Kooyman.

READ:Budget 2016: More revenue a must or SA heads to junk

He added that the rand is oversold and undervalued, but without significant policy change, South Africa is at risk of losing its attraction as a destination for capital.

"Our economy is stalling and the risk of a recession is greater than ever. The rand’s steep decline of 2015 will significantly increase the cost of living for everyone - specifically fuel, transport and food - while the combination of muted global growth, low business level confidence, drought and persistently low resource prices will result in bankruptcies and higher unemployment levels," warned Kooyman.

"Having said that, South Africa has truly world-class management teams. SA corporates are generally ungeared and our banking sector is well capitalised and should come through a possible recession fairly well."

He said that at some stage commodity prices will turn. On top of that, possible slow US growth would mean no further US interest rate hikes, which would lead to a weaker US dollar.

"Dividend yields are attractive, but the consumer and the earnings of consumer-facing companies will face severe headwinds in 2016 due to low growth, high levels of inflation and higher interest rates," said Kooyman.

"The recent rand and bank index strength indicates that markets have started anticipating a 2016 budget, which will point to a turnaround in government policy.

In one budget Gordhan has to undo a lot of poor policy making, which means subsequent support by cabinet is extremely important, he said.

"Conversely, a failure by cabinet to visibly endorse a good budget could see a significant fall in the rand and consumer dependent shares."

ALSO READ:Gordhan's budget looks to steer SA from junk rating

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