Downgrade of South Africa’s credit rating further into junk

On 29 April 2020, Standard & Poor's Global Ratings (S&P) lowered South Africa’s sovereign credit rating further into non-investment grade, otherwise known as junk status, citing the impact of COVID-19 on South Africa’s public finances and economic growth as one of the reasons for its ratings action.

11 May 2020 2 min read Finance & Banking Alert Article

The rating agency downgraded South Africa’s long-term foreign currency credit rating from BB to BB-, being three notches below investment-grade and its long-term local currency credit rating from BB+ to BB, being two notches below investment-grade. This decision comes weeks after Fitch Ratings downgraded South Africa’s ratings deeper into junk as a result of the lack of “a clear path towards government debt stabilisation”, which was preceded by Moody’s decision to downgrade South Africa’s sovereign investment-grade credit rating in March 2020.

S&P further said South Africa’s cost of servicing public debt will climb to about 6.5% of GDP by 2023. S&P also predicts that South Africa’s GDP will shrink by 4.5% this year – better than the South African Reserve Bank’s forecast of 6.1%.

Despite S&P’s decision to downgrade the country’s sovereign credit rating during these challenging times, government welcomes S&P’s revised outlook from “negative” to “stable”, and in the very least considers this as an indication that the rating agency “recognises some of government’s fiscal and monetary policy measures as strong points”.

The downgrade casts further gloom on South Africa, however, what impact does the downgrade of the country’s sovereign credit  rating have on clients and investors in the near future?

Clients need to know that there is a direct correlation between the level of long-term interest rates and the depth of junk status. This means the further South Africa falls into junk status, the more long-term interest rates will tend to rise. Simply put, investors will most likely demand a higher rate of interest for lending, which will raise borrowing costs. It should, however, be noted that in a recent briefing by National Treasury held on 30 April 2020, it was stated that the monetary policy implemented is helping to support the cost of borrowing by providing liquidity in the bond market, and ultimately is reducing bond yields.

Generally speaking, clients should also carefully consider provisions in facilities insofar as the rating of South African banks and other financial institutions’ long-term unsecured and non-credit enhanced debt obligations are concerned.

Some other impacts expected from the downgrade, include the deterioration of South Africa’s credit reputation, less access to conventional credit markets; deterioration in consumer and business confidence leading to a potential contraction in private investment and consumption demand; South Africa losing its status in various bond indices whereby some bond investors with mandate limitations are prohibited from buying the country’s bonds; and a large forex outflow as foreign investors dump South African debt.

The future of the South African economy is faced with a lot of uncertainty, however, it seems that government is committed to implementing structural reforms to move South Africa onto a higher growth path and to forge a new economy in light of this global reality.

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