Corporate hedging in a world of rising US inflation
- US inflation is increasing faster than thought
- SA swap rates risk running higher
- Rand gains become harder and blowout risks grow
- Commodity price gains should slow, even possibly reverse
- SA fiscal risks become more pronounced
US headline inflation: April at 4.2% against 3.6% expected.
US inflation risks, the big theme for global markets this year, are rising rapidly. Data over the past week has highlighted a tighter than expected US labour market, while yesterday’s CPI print showed headline inflation rising to a 13-year high.
Much of the inflation rise will prove transitory, with inflation falling back later this year, but fears are that it will not fall back far enough and that the Fed might have to tighten policy. Fed officials have pushed back against this narrative, insisting that hikes will not come before 2024. The markets are skeptical, thinking the Fed might have to taper its asset purchases this year and hike as early as 18-month time.
These fears ripple through global markets and affect how SA companies should approach risk management:
- Interest rate risks. As Fed hikes gets priced in and the US curve steepens, so too will SA rate gets get priced in and the local curve steepen. This recent blowout in US inflation fears highlights how waiting too long to hedge is risky: another few bad data prints and local swaps can rocket higher.
- Rand gains and risks. Its notable that rand gains halted during the last bout of inflation fears earlier this year, USD/ZAR instead going into a wide sideways trading range. Risks are for a repeat of the same, with possibly 13.95/14.00 established in the low and an upside to 14.50 or even higher. More importantly, higher US inflation risks imply higher ZAR blowout risks: a much earlier than Fed tapering, and rate hike could send the rand running. Remember USD/ZAR spiked 100c higher on the Fed’s taper announcement in 2013. Importers can look to increase the size and duration of hedges at the bottom of the range. Exporters need to be ready to take advantage of any spikes.
- Commodity gains become tougher going. As inflation rise, the more the Fed will have to slow growth and so the less demand for commodities. As yet, the inflation fears have not stopped the commodity super rally but beware that the cycle will eventually turn, and the Fed is likely to be the catalyst. Producers can look to average-in by hedging through the top of the cycle.
- SA fiscal risks become more pronounced. When the tide goes out you see who is swimming naked: it will prove much more difficult for SA to finance its large fiscal deficit in a world of tighter monetary policy (Fed tightening). This in turn risks higher local rates (as more needs to be paid to entice investors), a weaker rand, and more pressure on ratings.
The same again? Rising US inflation fears saw swap rate spike in 1Q