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Junk Status: BRICS relish a challenge

BRICS nations are no strangers to Junk Status, in fact South Africa is not alone amongst other BRICS nations who have also been branded with Junk Status – Russia and Brazil have also been

South Africa’s downgrade after the nation’s finance minister was fired means three of the five BRICS nations now have junk credit assessments at S&P Global Ratings. 

Lately its appeared that Junk Status matters less and less than hedging the currency risk that accompanying these investments. History has shown us this.

The BRICS term was first uses in a 2001 paper by Jim O’Neill, a research note in fact, called “Building Better Global Economic BRICs.” He argued in this paper that the emerging market nations were under-represented in the various supranational forums, especially when keeping in mind these nation’s likely future contributions to global gross domestic product. Leaders of Brazil, Russia, India and China held their first formal summit in 2009; South Africa officially joined BRICs a year later.

Overall Brazil has shown the greatest decline in economy as their economy has fallen into a recession in 2014 and has not quite emerged from it. Only India has seen gross domestic product increase, all others have seen a dropping gross domestic product.

This decade has seen one clear winner: the benchmark South African index has strided ahead among the BRICs this decade. Its gains contrast with the benchmark MSCI Emerging Markets Index’s decline of about 4% since the start of 2010.

Graph: SA leads BRICS equities – benchmark stock index performance this decade

Source: Bloomberg

But South African political uncertainty has shifted things somewhat, even though benchmark bonds have not moved for about a decade.

SA’s cost of borrowing for 10 years increased after President Jacob Zuma fired finance minister Pravin Gordhan recently. Soon after S&P downgraded South Africa to “Junk Status”.

S&P blamed “political uncertainty” for its decision to downgrade the country.

The move, though, leaves the 10-year yield at about 9% – in line with where it was at the start of 2010. Yields for the rest of the BRICS are similarly becalmed:

Lets look at the currency market 

It’s the currency market, though, that’s seen the most action. China’s currency started the decade trading at about 6.83 to the dollar, strengthened to about 6 by the start of 2014, but has since retreated all the way back to be little changed. The other four currencies, however, have depreciated substantially.

Graph: BRICS in decline (apart From China) – performance of BRICS currencies against the dollar this decade

Source: Bloomberg

Not to be confused, the chart above is as much about the strength of the dollar than the weakness of emerging-market currencies.

This decade, the dollar has made ground against almost every currency in the world (with the notable exceptions of the Somali shilling, the Guatemalan Quetzal and the Icelandic krona).

The BRICS name was a useful in getting the international investment community to take notice of some likely winners among emerging markets; more than 480 investment funds in various flavours, currencies and domiciles use the term in their titles, according to data compiled by Bloomberg.

In January 2014, commentator O’Neill began shifting his attention to the new emerging-markets…now called MINT countries – Mexico, Indonesia, Nigeria and Turkey.

The history of the BRICS in the last decade would remind forex investors to keep their minds on the currency angle in order to make money from that grouping. Whether junk status affects forex trades needs to be tested with few assumptions made.