Who moves the rand?

The foreign exchange market is the biggest market globally by far, with 2013 recording $5.3 trillion average turnover per day. Although global foreign exchange transactions against the rand amount to less than 1% of this staggering number, it is still a massive market by South African standards, with the average turnover on the rand currency market for 2013 being $16.6 billion – per day. To put that in perspective: South Africa’s GDP for 2013 was $351bn or R29.2bn per month – forex trades against the rand clocked up that volume in under two days. This is 27% more than the total turnover of all instruments on the JSE. The inserted chart of historical rand forex market turnover shows the massive increase since the mid- 1990s. This turnover can be broken down into the following players: • South African exporters and importers of goods and services (green area). • Foreign investors in the South African bond and equity markets and other domestic investments, together with currency traders and speculators who buy and sell the rand as a mere commodity (red area). • Transactions by SA residents living offshore (purple area). • Transactions by SA residents living onshore (mauve area). This shows a very revealing picture, with Goods and Services accounting for a mere 5.5% of total rand forex turnover, the balance of 94.5% being purely investment and speculation. And of this 94.5% that is non-trade related, 65.7% are transactions by foreigners (non-resident investors/speculators), having increased from a mere 4.3% in 1992, following the opening up of local markets and especially the abolition of the financial rand in March 1995. This is a critical factor to understand in terms of the rand and its movements. Goods and Services, whether exported or imported, determine the true long-term value of the rand. Price is critical in this economic setting – the exchange rate is there to adjust for price differentials between two economies. As a result, over time, economic forces will ensure that a currency adjusts back to its true trendline level, which is determined by international competitiveness in trade of goods and services. However, as we know, the rand has seen huge and sustained swings either side of this trendline value in the medium term – especially since the opening up of our economy to global markets. And why is that? Investors and speculators are largely responsible for short-term and mediumterm price movements. In this financial setting of the market (whether in stocks, bonds, property, money markets or forex itself), return is important, not price. The actual exchange rate is of no consequence to investors or speculators; they have no real concern as to whether it is “weak” or “strong” – as long as they make a profit from when they entered to when they exited the market. And hence the conundrum – the very mechanism created to provide some equilibrium between rational forces of supply and demand between two economies is actually used primarily as a speculative instrument and is driven by irrational human emotions of greed and fear, which drive the market from one extreme to the other. The upside is that, because the market is driven by crowd psychology and emotion, these patterns of fear and greed tend to recur, and although irrational, there is some predictability. CAPTION James Paynter is the head market analyst at Dynamic Outcomes.