Diversify investments to hedge against rand’s rocky ride

July 08, 2013


By Humphrey Borkum, Chairman of JSE Limited

When I first joined the JSE in 1968 the rand was worth $1,40. It remained at this level until March 1982 when sanctions due to apartheid started to erode its value. By February 1985 it was trading at over R2 per dollar and some of my banking colleagues may recall that in July that year all foreign exchange trading was suspended for a few days to try to stop this devaluation.

Zimbabwe’s controversial land reform programme that was started in 2000 followed by the 11 September 2001 terrorist attacks in the US helped propel the rand to its weakest historical level of R13,85 to the dollar in December 2001. This sudden depreciation led Kevin Wakeford, then Chief Executive of the South African Chamber of Business, to persuade President Mbeki to set up a Commission on the Depreciation of the Rand which in turn led to a dramatic recovery. By the end of 2002 the currency was trading at under R9 to the dollar again and by the end of 2004 was trading around R5,70. The average exchange rate in 2012 was R8,20 to the dollar.

A host of local and international movements and events affect the rand’s value. This year the strength of the dollar, the movement of money out of emerging markets, the size of our current account deficit and our mining woes probably contributed to the rand losing 11% in May and breaching the R10 mark on May 30. One of the primary reasons for volatility of the rand is that it is one of the few emerging market currencies that can be bought or sold in reasonable quantities.

World stock markets have also been skittish and the JSE All Share Index (Alsi ) has been moving up and down between 38 000 and 42 000 for some time now. As stock markets are usually looking ahead by six months to a year just a hint from Ben Bernanke, Chairman of the Federal Reserve, that the Fed might ease up on quantitative easing sometime in the future was enough to set markets gyrating. To handle this volatility I would suggest that retail investors should, where possible, diversify across asset classes and also include shares or unit trusts that have some offshore investments. These funds can then be used to hedge the rand’s depreciation against the major currencies.

The volatility of the rand has always been of concern to businessmen when trying to estimate costs, manage risk and formulate medium and long term plans. In 2001 there was nothing the JSE could do to help them but early 2007 saw a significant change in the South African currency markets.

In his budget speech in February of that year Finance Minister Trevor Manuel announced that market participants would be allowed to trade in currencies on the Johannesburg Stock Exchange. This meant that retail investors, asset managers, life funds and corporates (with exchange control approval) would be able to cover their currency risk on a regulated platform. In 2008 the Minister further relaxed exchange control requirements and allowed corporate entities to trade currency futures without requiring exchange control approval.

This dispensation represented a major step forward for local currency markets and further aligned South Africa with international standards. From this time on importing and exporting companies now had an alternative venue for hedging currency exposure.

Our electronic trading platform offers an efficient and transparent vehicle to view the movement of exchange rates and to hedge against currency risk. The market offers contracts in dollar/rand, euro/rand, stirling/rand and also between the rand and the Australian/Canadian dollar, the Japanese yen, the Chinese Yuan and the Swiss franc.

At present our currency market is buoyant. In 2012 we traded R126 billion in currency futures which was an increase of 26% over the previous year (R99 billion). Similarly the R32 billion currency options traded in 2012 was a 100% increase over 2011. However by the end of May this year we had already traded a combined value of R135 billion with May recording the highest single monthly turnover in the exchange’s history (R41 billion). If market volatility continues at the present rate it’s possible we could substantially outperform 2012 in terms of volume.

Moreover to remain competitive and to attract further over-the-counter (OTC) business onto the exchange we decided to reduce fees for both the currency and interest rate (bond) markets effective on July 1.

Here I must elaborate. Currency futures and options are derivative products. Derivatives can best be explained as instruments which enable investors to hedge against movements in price of underlying investments. These underlying investments are usually bonds, equities, commodities or currencies. Futures and options are basically a way of allowing investors to cover their risks against unexpected developments – for example sudden falls or rises of currencies, commodities or maize prices. On a well regulated exchange derivatives are able to enhance the functionality of the overall financial system.

In my experience lay investors usually understand the workings of shares, unit trusts and mortgage bonds. However the world of derivatives tends to remain a place of strange alchemy to them. In this regard the JSE has taken a range of initiatives to demystify the stock exchange to the man in the street.

A recent innovation is the introduction of the ‘JSE Virtual Trader’ - a simulated trading platform that is hosted on the JSE website. This platform enables any potential investor to experience real-time trading in any of the JSE listed products across all of our asset classes. The virtual trader will assist even experienced traders to put complex trading strategies to the test.

Through a registration process on the JSE website applicants are given a user name and password for access to the virtual trader. The initial access will be limited to 30 days although the JSE has the ability to extend or minimise this access as necessary. Each user is given a certain rand value in virtual cash for trading. There is no charge for this service.

Collusion in Construction Industry
As seven of the 15 construction companies that were fined by the Competition Commission for collusion are listed on the JSE it would be remiss of me not to comment on this matter. My initial reaction is that no matter what the laws are or however strong the corporate governance , there is simply no way of preventing dishonesty and/or collusion if the intention to behave unethically is there.

The obvious remedy for this is to make the punishment so severe that people will think twice before breaking the rules. However in the case of the construction industry I think that the wrong people have been punished. The parties bearing the brunt of the huge fines that have been levied against their companies are today’s stakeholders. There is no doubt that the vast majority of the directors and shareholders who were in place when these actions unfolded have long since moved on and a new body of stakeholders have to bear the consequences. This is clearly unfair but I am at a loss as to what better remedial actions should have taken place.

A further thought is that in a society where the everyday bribing of a traffic cop has become the norm, one should not really be surprised at corruption on the scale that took place in the construction industry.

This article first appeared in Business Report