Going with the trend in USDZAR
Posted on: 15 April 2019 , by: Darren Sinden , category: Market Review
Trend: a rally in the rand has created a strong bearish signal in USDZAR
The South African rand traded with a 13.90 handle against the US dollar last week.
That big change in figures was part of a more significant rally the currency has enjoyed since a shooting star was posted on March 28th. The question now is whether that trend can continue or will the dollar reassert itself against the South African currency?
Looking at the model I follow, USDZAR is one of only two trends among the majors that has the highest possible trend strength score.
In this instance, a bear trend or signal indicates rand appreciation and dollar weakness. The pair moved to bear trend back at the end of January and given that was well over two months ago, I find it very interesting that the trend strength remains so high. This is a real outlier. It's something to pay attention to.
A slowing economy
The macro background for South Africa has come under pressure recently with ratings agencies Fitch and the IMF trimming their forecasts for the country. In the case of the IMF, growth forecasts were cut from 1.4% to 1.2% for 2019 and from 1.7% to 1.5% for 2020.
That news broke just one month ahead of key elections, scheduled for the 8th of May, that could make or break Cyril Rhamaphosa’s presidency. His ANC party are thought to be struggling to improve on their 2014 showing, though that could still mean as much as 60% of the votes cast according to pollsters IPSOS.
Discontent is growing in the country. Some polls, such as one from Afrobarometer, show the ANC likely to receive just 48% of votes. That is a boon to a burgeoning opposition movement, albeit quite fragmented. There may be as many as 48 parties on the ballot sheet in May.
However, South Africa has a system of proportional representation, so some of these candidates and parties could punch above their weight in the elections.
Perhaps some of the recent strength in the rand is a result of optimism about political change ahead of the vote, similar to that seen in Mexico and Brazil last year ahead of their elections. We mustn't forget that though South Africa is a democracy, it is also effectively a one-party state.
Let’s look elsewhere to get a fuller explanation.
Commodity currency and EM poster boy
The rand is a commodity-related currency. It has a very close relationship to the US dollar - the currency in which the world's commodities are priced. A weaker US dollar is positive for commodities, as it lowers the price to buyers transacting in currencies other than the USD. That is seen to be beneficial to commodity-linked currencies, which often rally as a result.
As you have probably already worked out, we have the potential for something of a feedback loop. Gains in the commodity-linked currencies weaken the dollar, which makes commodities cheaper to foreign currency buyers, which in turn makes commodity-related currencies more attractive and so on.
I think we have seen some of that positive feedback in the rand over the last week.
However, it's also worth looking at what's been happening to Emerging Market FX as an asset class. The rand is something of a poster boy for the group.
The chart below shows USDZAR plotted against the Wisdom Tree emerging currency ETF, a proxy for the EM FX asset class.
As you can see EM FX has been rallying at the same time that USDZAR has been falling. These latest moves began in early April but have gained more momentum in recent days. Can we expect that to continue to be the case?
Looking at the chart of USDZAR below, we can clearly see the 20-day EMA line in blue is closing in on the slower moving 50-day line from above. That's a sign of rising price momentum. We are not too far from posting a dead cross where the 20-day crosses down through the 50-day line. If we do post that signal, it will help to confirm the status of the current downtrend.
A weekly close below 14.00 would also be a good omen. I think we can be a little more generous here and say that a close below 14.0648, the low from the 8th of April, would be acceptable.
The recent low in USDZAR was at 13.8705 on the 11th of April, and that is a clear downside target. Before that, the 200-day EMA line and S1 support at 13.93 is level to look for, and any breach of that might well make an interesting entry point on the short side.
The 22nd of February low of 13.7992, the Feb 13th low at 13.7088, and the Feb 8th high of 13.5937 are obvious downside targets, with S3 at 13.5520 after that.
The 2019 low is 13.2160 and was posted on the second of February. I am not sure that the rand will rally that far in this particular move, however, it's a level worth being aware of.
Just above the 14.0648 level seems like a sensible area to place stop losses on any short trades.
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