Time to Buy South African Government Bonds? 🤔

A fixed-income strategist at one of America's largest discounted brokerage firms mentioned that when it comes to diversifying with government bonds: "Any decision to increase the bond allocation is up to each individual investor, but investors who have been sitting in cash waiting for higher yields don’t necessarily need to wait anymore. Adding bonds to a portfolio provides diversification benefits, and today they offer some of their highest yields in years."

Last week, the South African Reserve Bank (SARB) kept the repo rate at 8.25% for the seventh consecutive meeting in July 2024, as expected. Two policymakers favoured a 25 basis point cut. The bank stated that a restrictive policy is needed to stabilise inflation at 4.5% and maintained the current stance due to inflation risks. Some officials saw room to ease policy, but inflation expectations haven't yet met the 4.5% target. South Africa's inflation was 5.2% in May.

Notably, the fact that two policymakers favoured a 25 basis point reduction indicates a shift in sentiment within the central bank. Additionally, some officials believe the inflation outlook has improved enough to consider easing the restrictive policy. Although the central bank maintained the current rate to stabilise inflation at 4.5%, the acknowledgment that inflation expectations are moving in the right direction suggests that if this trend continues, there could be room for rate cuts in the future.

Headline consumer price inflation for 2024 is now projected at 4.9%, down from 5.1%. Isaah Mhlanga, chief economist for RMB, noted the preference of two MPC members for a rate cut, suggesting a move closer to a rate cut, with RMB expecting a 25-basis point cut in November. The Bureau for Economic Research (BER) believes the latest MPC statement likely firmed up expectations for a September cut, though they had previously predicted July. Standard Chartered Bank anticipates a September cut but leans towards November due to geopolitical risks and the US election.

The projected decrease in inflation to 4.9% and potential rate cuts by the MPC could boost the bond market by lowering borrowing costs and increasing bond prices. So far, in the past six months:

• South African government bonds maturing in 2026 (SAGB R186) - down less than 1% 
• SAGB R2030 (maturing in 2030) - up nearly 1%
• SAGB R2035 (maturing in 2035) - up 2%
• SAGB R2040 (maturing in 2040) - up nearly 5%
• SAGB R2048 (maturing in 2048) - up nearly 6%

Past performance does not guarantee future performance. Risks from higher food prices, global financial conditions, and geopolitical uncertainties could keep inflation and interest rates high and affect the market.

Kganyago highlighted improved forecasts but noted upside risks, leading to the decision against a rate cut. The MPC seeks consistent inflation data showing a downward trend before cutting rates. Higher food prices and global financial conditions pose risks to inflation and the exchange rate. The repo rate, last raised in May 2023 to 8.25%, has surged 475 bps since November 2021, straining South Africans. Benay Sager of DebtBusters mentioned the steady interest rate, disappointing consumers facing higher home loan costs. Kganyago also noted international risks and South Africa's disappointing economic performance in early 2024.

Roundup

The relationship between interest rates and bond prices is inverse: when interest rates rise, bond prices fall, and vice versa. With the SARB keeping the repo rate steady at 8.25% and two policymakers advocating for a rate cut, there's potential for future rate reductions if inflation trends continue to improve. Investors need to be aware that a lower repo rate could increase bond prices by lowering borrowing costs, making bonds more attractive.

On EasyEquities, South African government bonds can be bought and sold anytime during trading hours, similar to stocks, at a dirty price (market value of a bond + accrued interest).

The 'dirty price' reflects the total amount paid when a bond trades between coupon dates. Coupons provide regular income, making bonds appealing for steady cash flow and offering stability in low-interest-rate environments. Higher coupons also help reduce sensitivity to interest rate changes, possibly adding value to a diversified investment portfolio. To receive the payment, hold the bond by the close of business 14 days before the coupon date, such as June 7 for a June 21 coupon. On EasyEquities, South African government bonds are also available in the tax-free savings account, where investors do not pay tax on the payment and interest earned in the account.

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