ZAR undervalued vs USD and EUR, but holding up well vs the rest

Bottom Line:

  • Against the USD and the EUR, the ZAR appears deflated and under considerable pressure. One would be excused for thinking that the ZAR is misbehaving again and coming under considerable pressure due to a range of domestic issues that are constraining growth and elevating the country’s risk profile.
  • However, that would misrepresent reality. While it is true that the ZAR would likely trade at stronger levels than it does if SA did not have its SOE crisis, had stable electricity and a functional government, a quick look at the trade-weighted ZAR shows that the ZAR is holding its own and has not collapsed as the USD-ZAR rate might suggest.
  • On the contrary, it is overvalued against the GBP, and the JPY and marginally stronger against the CHF, while trading close to fair value against the CNY. At the point where the USD loses ground once more, the ZAR may manage to claw its way back to overvalued territory on a trade-weighted basis.


Baseline View:

While exporters would do well to use the ZAR’s current undervaluation against the USD and the EUR to lock in some attractive forward rates, importers would do well to lock in decent rates against the GBP, the JPY and the CHF. Investors should not confuse the performance against the USD as a measure of the ZAR’s overall performance.

SA’s trade balance remains a cornerstone to ZAR resilience

Key support for the ZAR has been the performance of the trade and current account surpluses. The trade account has deteriorated considerably in recent months, and the current account has shifted back into deficit territory. The trade account no longer enjoys strong terms of trade, while the recovery post covid has led to a rise in demand for imports.

On the current account, the extraordinary profits generated by the mining companies have resulted in some substantial earnings, which in turn have been used to pay shareholders dividends. Many of those dividends were repatriated abroad to foreign investors helping the current account dip into deficit. While it is questionable whether that deficit will be sustained given the difficult prevailing economic environment, the flow of funds is no longer as overwhelmingly in SA’s favour as it once was.

While neither of the above negates the ZAR’s potential to appreciate, it implies that the makeup of support for the ZAR might need to change from the trade account to portfolio inflows for the ZAR to recover.


USD overvaluation the highest in almost 60 years

On a mean-reversion basis, the USD finds itself in extremely overbought territory. A combination of factors, including the geopolitical uncertainties in Europe, and the aggressive tightening of the Fed creating monetary policy disparity, coupled with the energy supply disruptions, the cost-of-living crisis and the deterioration in market sentiment, has bolstered demand for the safe-haven USD.

Such has been the demand for USDs that the overvaluation is now the highest it has been since the mid-1980s. It is extraordinary that the USD is effectively the most expensive it has been in some 60 years, raising serious questions about sustainability.

Historically, such levels have not been sustained for very long. While the overvaluation can become even more stretched, it is a dangerous time to be stocking up on USDs at such expensive levels. If anything, a strong argument could be made for the reverse, although an investor might need to be patient before the market corrects.

ZAR Performance is better than its performance vs the USD suggests

While the ZAR may be under extreme pressure against the USD, it is worth noting that the situation is far more moderate on a nominal trade-weighted basis. Over a seven-year, rolling timeframe, the trade-weighted ZAR is only 4% below the mean, implying that overvaluations against other currencies are offsetting the undervaluation against the USD.

This offers the SARB some good news in that such modest undervaluation implies that the pass through into inflation is likely to be limited. A lower inflation profile of one country vs another means that the country with a lower inflation rate enjoys some fundamental underlying support on a purchasing power parity basis.

It also offers a better gauge of the relative strength of the underlying currency. From this gauge, it is clear that although slightly weak, the ZAR is holding its own. The weakness could easily be justified based on the unfolding Eskom crisis and the impending greylisting that could still yield a negative result if and when implemented.

Output of updated valuation calculations:

Since the last report in June, the valuation has deteriorated by a further 6% to take the undervaluation on this measure to around 20%.

It is the most extreme undervaluation since Nenegate at the end of 2015 when the ZAR blew out spectacularly. Just as in the past, current levels of undervaluation are not likely to be sustained for very long.

Such extreme valuations tend to set in motion a set of economic responses that sow the seeds of its reversal. Some of those consequences are evident in the manner in which the SARB is hiking rates. At some point, SA bonds will become a screaming buy and attract portfolio inflows.


While SA has had its fair share of well-documented problems, so too has the UK. Through the course of the past three months, political turmoil has been part and parcel of the investment landscape and it has resulted in the GBP trading at a discount.

This week’s resignation of the UK Prime Minister means that the country will move on to its third Prime Minister this year and its fourth Chancellor.

This discount has allowed the ZAR to trade in slightly overvalued territory to the GBP and while the overvaluation is only marginal, at the very least it means that the ZAR has held its own against at least one of its major trading partners.


The JPY is a currency in trouble. With the BoJ unable to raise interest rates and conducting QE to keep bond yields suppressed, the JPY has found itself on the defensive and is trading at a multi-decadal low against the USD.

It has regained its status as the world’s best funding currency and this has helped the ZAR stage a material recovery against the JPY.

The 20% overvaluation against the JPY will help keep inflation contained, but over time will likely prove unsustainable.


Against the CNY, the ZAR has held its own relatively well. China has had its own set of problems that has meant that it has lost ground against the USD. The authorities have not intervened much in the hope that the weaker CNY will help promote growth.

The PBoC is also against raising interest rates while China has a deficiency in growth and an ailing property sector. That will help keep the CNY suppressed.

The ZAR is bang on fair value for this nominal valuation metric using a seven year-rolling mean as the benchmark.