Currency weakness: Is there lessons to learn from the past?

Currency weakness: Is there lessons to learn from the past?

At the time of writing this article the Rand is trading at about R 14.90 against the US Dollar. Only 2 weeks ago it was trading at R 15.40, the worst level in almost 2 years. This depreciation led to the customary emotional outcries and our lines were ringing with concerned clients wanting to confirm that their offshore exposure is adequate and whether it shouldn’t be increased. Some clients also, with a lot more certainty than 3 months ago, prophesied a downward spiral in our currency. Isn’t this what supporters said of the Springboks, i.e. that they will NEVER beat the All Blacks again?

With the gift of hindsight to my disposal, I had a look at the most extreme periods of de-valuation of the Rand since 1992, shown in the graph below.  For a period to be included in the graph the rand had to depreciate by more than 20% in less than 12 months. Our currency is too volatile to include periods where it has decreased by more than 10% (if happens frequently).  By the way, when we talk about a depreciation of the rand of 20%, we actually mean that the Dollar has APPRECIATED by 20%, it sounds like the same thing, but isn’t.  If the Rand depreciated by 100% against the Dollar, it would mean that the Rand is worth Zero, but if the Dollar appreciated with 100% against the Rand (which happened in 2000/2001), it only means that I must have twice as much Rands to buy one Dollar.

There are a few things that stands out from the table above:

  • In the past 26 years there were 11times where the currency depreciated by more than 20% during a 12 month period. In 9 out of the 11 instances the depreciation more than 30%.  One should think that by now, we should be used to these types of erratic moves?
  • Despite of this sporadic collapses, the average appreciation of Dollar against the Rand from 1990 until the end of 2017 were only 6.02% per year and 6.61% if we include the recent movements.
  • This was only the 5th biggest period of depreciation and it is anybody’s guess whether R 15.40 is the bottom point in this cycle.
  • The current cycle of weakness was a 2 standard deviation event, which, out of a statistical point of view points to a overreaction.
  • The most extreme devaluation of our currency happened during the turn of the millennium. Numerous investors, analyst and economists were of the view that our currency was in freefall and more than willing to take funds offshore at R 13.54 a dollar, a level which we might even see in the future if past movements can repeat itself in the opposite direction. (and this 18 years later!)
  • In none of these extreme 11 instances mentioned above, did the currency trade at a worst level 6 months later and in only 4 instances did it trade marginally lower 12 months later, in fact the Rand appreciated with an average rate of about 10% in the following 6 months after it turned.

Before I give you insight into what I think this currency weakness means for you as the investor, let me just be clear that I DON’T know if we have reached the end of this downward cycle and that nothing in investments are ever CERTAIN.  If we however take note from what happened in the past, the following points is something to consider:

  • Your long-term investment strategy should be based on the fundamental value of the investments in their home currency and not on the movement of that currency relative to your home currency. Over the long-term, the movements of the currency (depreciation) as added marginally to your investment (in the past), in real terms.
  • The magnitude and sudden deprecation of the rand almost looks like a overreaction and a possible hedging against currency appreciation, might probably just be the most statistically correct thing to do. (even though you might miss out on some short currency gains)
  • If you have an overweight position in offshore assets you had the benefit of the depreciating rand AND a good run in offshore (developed) markets. To take some profit here, might not be a bad option.
  • If you are busy converting investments for the first time now into dollars to invest in a market which is in one of its longest bull markets, you might just end up a bit disappointed 5 years from now. I want to take a chance and predict that the same return that you generated offshore the last 5 years is not going to be repeated in the next 5 years (irrespective of what base currency you use)

When making investments decision remember that when a decision feels to easy or obvious it is usually incorrect!

Although all possible care was taken in the drafting of this document, the factual correctness of the information contained herein cannot be guaranteed. This document does not constitute advice and anyone planning on taking any financial action based on this document, is strongly advised to first consult with their personal financial advisor. ProVérte Wealth & Risk Management is an authorised financial service provider with FSP no. 5966.

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