Pound-Rand Outlook: Breakdown in Progress with Little Upside Even After Any Brexit Deal

- GBP/ZAR has little upside potential even with a Brexit deal. 
- November's 20.57 GBP's likely limit if ZAR's rally continues.
- But 'no deal' downside barely erases 2020's GBP/ZAR gain.

Image © © Adobe Stock, Eskom SOC,

• GBP/ZAR spot rate at time of writing: 19.93
• Bank transfer rate (indicative guide): 19.20-19.34
• FX specialist providers (indicative guide): 19.60-19.76
• More information on FX specialist rates here

The Pound-to-Rand exchange rate has entered the new week on its back foot in spite of a Brexit-related recovery elsewhere among Sterling exchange rates, demonstrating the limited extent to which it will be able to rise even if negotiators are successful in clinching a deal later this month. 

Sterling may already have seen its best days against the South African unit, which advanced strongly this week thanks to a supportive domestic and international backdrop, given rampant investor appetite for emerging market currencies and the limited degree to which many analysts expect the Pound to recover following any Brexit resolution.

"[USD/ZAR] will remain close to the 15 level today in the absence of any significant news. Tomorrow’s US Fed announcement could be the catalyst that pushes the rand more decisively stronger," says Siobhan Redford, an economist at Rand Merchant Bank. 

The Pound-to-Rand exchange rate will be determined in no small part by how far GBP/USD, the main Sterling exchange rate, rises or falls both ahead of and after the outcome of the Brexit process becomes known later this month.

Statements from leaders and reports from the political media suggested Monday and Tuesday the UK and EU are edging closer toward an agreement, although the rub for Sterling and the GBP/ZAR rate is that few analysts see GBP/USD sustaining a move above 1.37 even if the talks are successful.

Above: Pound-to-Rand rate shown at daily intervals.

"It looks clear that divergences persist in some core issues, with the level playing field remaining the key sticking point. Despite being a very close call at this stage, we still think a deal is the most likely scenario and therefore expect a GBP rally to materialise in the next two weeks," says Petr Krpata, chief EMEA strategist for currencies and bonds at ING, who looks for a GBP/USD rise toward 1.37 following any deal.

For the Pound-to-Rand rate, which takes its cues from both GBP/USD and USD/ZAR, this implies a return to late November's 20.57 level in a market where the South African unit continues to trade around 15.0. 

However, if technical analysts are right to anticipate Rand strength that is successful at knocking USD/ZAR down to 14.50 in the coming weeks, GBP/ZAR  would actually fall by a fraction even with any removal of 'no deal' Brexit risk. 

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The Pound-to-Rand rate would likely be found trading around 19.88 under such circumstances, whereas in a bad Brexit where no preferential terms are agreed and the two sides default to trading under World Trade Organization (WTO) terms as well as Most Favoured Nation tariff rates, GBP/ZAR would also erase the remainder of 2020's gains.

These numbers show that upside for the Pound is limited in most scenarios, but also that without further Rand strength, Sterling could avoid an annual loss this year even if the Brexit trade talks turn sour and the UK departs the standstill transition period at year-end without any agreement.

That's testament to the scale of falls already suffered by the South African currency more than anything else.

"Note that President Cyril Ramaphosa will discuss the country’s response to coronavirus today," warns Rui Ding, a strategist at Citi. "Reflation trades are very consensus, and there are a number of risks. More virus restrictions are coming for Europe, with Germany entering a stricter lockdown on Wednesday and London likely to follow in a matter of time. ZAR is also likely to see such announcements while familiar themes are in place elsewhere."

With international factors aside, key to the Rand's fortune up ahead and the GBP/ZAR outcome of 2020 is the degree to which the government returns parts of the country to 'lockdown' as well as whether state electricity provider Eskom can keep the lights on. 

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President Cyril Ramaphosa announced on Monday that the Sarah Baartman Municipality and Garden Route Municipality will return to a form 'lockdown' this week, after doing the same for Nelson Mandela Bay and the Garden Route District in the Western Cape last week. 

"Some restrictions have been tightened, such as curfew, restrictions on the number of people allowed at public gatherings and the opening hours for alcohol sales, as well as a commitment made to more stringent enforcement of level 1 restrictions. Similar to the approach seen in a number of other countries, SA now designates hotspots," says RMB's Redford. 

To the extent these setbacks curb appetite for the South African currency, they could reduce losses seen by the Pound-to-Rand exchange rate up ahead, or potentially even enhance its gains. But Sterling has fallen by more than six percent against the Rand in the last three months and various analyst forecasts suggest it has little prospect of recovering all of this loss in the absence of a sharp and currently-unforeseen depreciation of the South African unit. 

All of this means that developments at Eskom could also be key in the weeks ahead. The state energy provider ended a weekend bout of loadshedding, which imposes rolling blackouts on alternating parts of the country in order to prevent an overload of the national grid, early after emergency generation reserves filled up quicker than expected. It had said on Friday that stage 2 load-shedding would continue during day time hours on both Saturday and Sunday.

Above: USD/ZAR at weekly intervals with Fibonacci retracements of 2018 rally and 2018-to-2020 trendline. 

"Eskom Holdings SOC Limited (B3 negative) remains a particular source of further contingent liability risk for the government; a solution to its financial viability which addresses its high debt level, 65% of which is government-guaranteed, remains incomplete, but could itself also lead to a further deterioration in government finances," says Fitch Ratings, in a November review of the South African government credit rating, which was cut further below the 'investment grade' threshold last month. "If these risks were to materialise, the rise in the government debt burden would become increasingly difficult to slow down let alone reverse.”

South Africa's power plants and national grid are tired and weary from years of underinvestment and poor maintenance, and were regularly an encumbrance to the economy before the coronavirus came along. However, its aged and unreliable condition is now a risk to the country's reopened and recovering economy. It asked South Africans to be sparing of electricity after losing more than 18Mw of generation capacity to equipment failures, planned maintenance and the other planned activities.

Insufficient capacity limits the extent to which energy intensive industries like manufacturing and mining are able to increase output, thus capping the economy's potential, although with a short period in September aside, the company hadn't been forced to resort to grid-preserving blackouts for months because coronavirus containment measures saw industries closed and demand curbed. Last Friday's announcement of stage 2 loadshedding was however, a reminder to investors of structural weaknesses that lay like speed bumps on the road ahead of the economy. 

"The initial recovery of the economy after the pandemic-related sharp slump in the second quarter was surprisingly strong. Apart from the mining and manufacturing industries, trade was also a key driver," says Elisabeth Andreae, an analyst at Commerzbank. "The further prospects for recovery are subdued. Some leading indicators and preliminary economic data signal a slowdown in momentum in the final quarter, for example in the manufacturing sector. Hopes of a revival in tourism, which is important for South Africa, were severely dampened by the second wave of infection, especially in Europe. Moreover, too little investment activity and high unemployment are clouding the outlook, especially since the government is making only hesitant progress with urgently needed reforms. Repeated bottlenecks in the power supply also remain a risk." 

Above: GBP/ZAR shown at weekly intervals with Fibonacci retracements of 2018 rally.