At face value, the ZAR is currently very, very strong! Probably one of the best performing currencies in the world over the past couple of weeks.

The question that always needs to be asked in times like these is what has changed to justify the ZAR trading at such strong levels?

From a purely trading perspective, who actually cares? By the time you find your answer the market has already moved 50 cents and you’ve missed the boat completely. The reason why plays second fiddle to the fact that the ZAR is strengthening significantly and you only have an instant to make your trading decision.

I’m not a fan of economic fundamentals when it comes to ‘trading’ the market and making money but that doesn’t mean that you don’t need to look at and analyse the reasons why after the move has taken place in order to better understand the move and put it into perspective.

Having a quick look at the SA economy from a fundamental viewpoint we are in no better position now than we were 2 months ago. Inflation is still above the target 4-6% range, the current account deficit is still at over 6% of annual GDP, and the trade balance came in last week at over R9 Billion! The bottom line is this: The current strength in the ZAR cannot be attributed to improvements in the local economy.

There must be something else.

…..and there is. It’s called a horrendously weak USD trading at all time lows across the board and in particular trading at all time lows versus South Africa’s major trading partner Europe. EURUSD is currently trading around 1.4250 which is a crazy level when we were trading at 0.90 only a few years back.

The USD is not in great shape as a result of the current credit crisis gripping their local markets combined with falling interest rates which serve to make the yield on the USD less attractive compared to other higher yielding currencies such as……………the ZAR. The simple idea is this: Borrow USD at say 6% and invest in ZAR at say 10%. As long as the ZAR doesn’t depreciate at more than the interest differential of 4% per year then you will make money! Simple. In current markets, the ZAR is strengthening significantly versus the USD meaning that you are now making money on both the yield as well as the currency appreciation. It’s a good scenario to be involved in and this type of opportunity serves to fuel the demand for currencies such as the ZAR and strengthen them in the short-term more than they should.

So in simple terms: It’s a USD story out there not a ZAR story.

The fact that the GBP is relatively weak across the board is serving to hurt those GBPZAR bulls hoping to see the 20.00 level by year end just in time for the Christmas holidays back to South Africa.

Not going to happen for a while guys.

It’s funny to think back to this time last year when GBPZAR jumped from 10.50 to 14.50 in a few weeks and guys were calling a level of 20.00 by the end of 2006. It’s times like these where we are able to use hindsight to see how irrational we were last year. It’s a good lesson for the future as we’re still trading around the 14.00 level a year later.

So even in the current volatile, scary markets it’s important to step away from your emotions and put everything into perspective.

Short-term the market is very volatile and choppy, and extremely difficult to anticipate intraday and intraweek moves. My opinion is still that we are within a GBPZAR move higher within the major trend but currently in a stabilising move within the medium term trend (which could involve fairly large swings of R1 or so either way on GBPZAR)

Be very, very careful this week as USDZAR is trading very close to it’s 2007 low around 6.79. If price break below this level we should see it run aggressively lower which will pull the ZAR crosses lower with it as well. I’m not even going to mention resistance levels on the upside as we’re pretty far away from anything significant at the moment.

With the USD under massive pressure, this is a week to play great defence and keep your eye on the downside risks. This risk is epitomised by the 6.79 level. A break below this would see sizeable stops hit and a quick 10-15 cents run to the downside.

With GBP also under pressure I expect GBPZAR to be at the mercy of USDZAR moves this week.

Short-term moves and risk this week:

Downside bias across all ZAR pairs with little upside potential. Risk is strongly skewed for a move lower this week.

Good luck and all the best for the week ahead.

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