Pound to South African Rand Rate Potentially Topping Out 

 "Looking forward, the direction of the rand will depend heavily on the movement of the USD dollar in the currency pair" - Investec.

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The Pound to South African Rand exchange rate is one of the better performing Sterling pairs of the year but its rally has stalled since the middle of April while on both sides of the equation there are reasons emerging for why GBP/ZAR might be in the process of topping out.

South Africa's Rand rallied almost across the board on Thursday as stocks indices fell around the globe and government bond markets climbed alongside the gold price, which edged back above $2,000 per ounce in what is a potentially positive outcome for the local economy. 

"We have ZAR leading on the topside with +34bps and then its CHF and JPY at +25bps. On the downside we have the NZD -40bps with ILS and TWD -25bps," says Brad Bechtel, global head of FX at Jefferies.  

"News flow otherwise a bit on the light side after the inflation related headlines from yesterday on the UK and Swiss side," Bechtel adds.

Most notably, while weighing on GBP/ZAR, Thursday's price action also pulled USD/ZAR back beneath the 18.06 level on the charts.

Above: GBP/ZAR shown at hourly intervals alongside USD/ZAR. Click image for closer inspection.

The 18.06 level was flagged by the South African Reserve Bank (SARB) in late March as one that is key to the influence exchange rates are likely to have on local inflation over the second quarter, inflation which led the SARB to raise its cash rate to 7.75% last month.

Statistics South Africa said on Wednesday that inflation edged higher from 7% to 7.1% in March, an outcome which might cause apprehension at the SARB in light of economic headwinds such as loadshedding at Eskom, which has led to a sharp fall in industrial production this year.

"Looking forward, the direction of the rand will depend heavily on the movement of the USD dollar in the currency pair," writes Annabel Bishop, chief economist at Investec, in a Tuesday research briefing.

"A more definitive end to the US rate hike cycle would spur ZAR strength against the USD, although a May US hike is still a possibility," she adds.

While the Dollar may have played a role in driving GBP/ZAR lower on Thursday, Sterling was also close to being an underperformer and the outlook for it has grown more uncertain since the Office for National Statistics (ONS) released March inflation figures on Wednesday.

UK inflation fell from 10.4% to 10.1% in a substantial reversal of February's increase but the economist consensus had been for a fall into the single digits while the core inflation rate remained at 6.2% for a second month.

Above: Pound to Rand exchange rate shown at daily intervals alongside USD/ZAR and price of gold futures. Click image for closer inspection.

"By June’s meeting, CPI reports for April and May should have brought better news," says Samuel Tombs, chief UK economist at Pantheon Macroeconomics. 

Economists have almost unanimously endorsed another increase in the Bank of England (BoE) Bank Rate to 4.5% for next month but prices or rates agreed in the derivative markets are suggesting that investors and traders now see a high probability of further increases thereafter.

Whether or not those are delivered could matter for Sterling exchange rates in the months ahead but that will itself depend on the path of inflation over the second quarter, given that in March the BoE stuck with its forecast for a notable decline over the second quarter.

BoE forecasts suggest overall inflation is likely to fall back to 4% by year-end and then to some distance below the 2% target in the subsequent year. 

"In the UK, the market is looking for two more 25 bps hikes. Importantly, it is not pricing in the aggressive cuts that we are seeing for the Fed," says Marc Cogliatti, head of capital markets EMEA at Validus Risk Management.