Important disclosures can be found in the disclaimer

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Interest Rate Barometer

Executive Summary The interest rate barometer considers the factors influencing the decision

of the SARBs Monetary Policy Committee in the statement accompanying

the previous meetings interest rate decision (29/01/2015) as well as

developments since the previous meeting which could influence Thursdays

MPC rate decision. The factors are rated as a likely hike, hold or cut and are

weighted into 3 broad categories: global economy (20%), domestic

economy (40%) and major inflation drivers (40%) as per Table 1.

Of the 13 factors analysed above, 8 support expectations for an unchanged

policy, while 2 factors favour a cut and 3 favour a hike (see Table 2). Using

the weightings, there is a 57% bias for rates to be unchanged, a 30% bias

for a hike, and a 13% bias for rates to be cut.

Our view is for rates to remain on hold for an unchanged repo rate at this

meeting. Domestic inflationary pressures have increased since our last

Barometer and MPC. As such, the probability of a hike later in 2015 has

increased.

The current disinflationary pressures in the developed world continued. Oil

prices have moderated after recent gains. These gains are usually transient

as inflation remains a rate of change and as such, once worked into the

base price, the impact on the inflation rate should ease. These have been

offset by a weaker rand over the last month.

Our expectation for the global interest rate trajectory to remain flatter for

longer remains in play. We have long said that the debate around the

timing of the Fed hike is less important than the profile of such a hiking

cycle. We are of the opinion that the profile will be a lot flatter than

currently priced into FX markets.

Table 1

Factors Outlook at January policy meeting Recent developments Rate impact

GLOBAL

ECONOMY (20%)

Growth The global economic growth outlook remains mixed, despite a strong performance by the US economy, lower international oil prices and the quantitative easing announced by the ECB. Growth in the UK also remains robust. By contrast, growth prospects in a number of other advanced economies have deteriorated, with Japan in a technical recession and the Eurozone remaining weak amid fears of deflation. Deteriorating prospects in some emerging markets contributed to the lowering of the IMFs 2015 global growth forecast by 0.3 percentage points to 3.5%, with notable downward revisions to Brazil, China, Mexico, Nigeria, and Russia.

The IMF revised its global GDP growth forecast for 2015 down to 3.5% from the 3.8% previously and that for 2016 down to 3.7% from 4% previously. The World Bank is more cautious, reducing its global growth forecast to 3% in 2015 from 3.4% last year.

Both the IMF and the World Bank are more upbeat about the prospects for the US economy. The IMF also reduced its forecast for China significantly.

IMF revised its growth forecast for sub-Saharan Africa down to 4.9% from 5.8% in 2015, and SA's growth has been reduced to 2.1% from a previous 2.3%.

HOLD

Inflation and interest rates

The impact of lower oil prices on global inflation is expected to influence monetary policy responses. While the UK and US contemplate monetary tightening, the ECB has embarked on open-ended quantitative easing, amid risks of deflation, and the slowdown in Japan is also expected to result in a resumption of asset purchases. Since the previous meeting of the MPC, monetary policy rates have been lowered in Canada, China, Denmark, Egypt, India, Norway, Switzerland and Turkey, and tightened in Brazil, Nigeria, and Russia.

The key change since the last MPC meeting has been the US experiencing disinflation, and disinflationary pressures becoming more entrenched in the UK and Asia as a result of the falling energy price. Inflation remains below central bank targets in the developed economies, which will likely keep monetary policy loose until the middle of 2015, when the Fed may hike their interest rate marginally the Fed has communicated their tolerance of inflation below their target, and view the current disinflationary trend as transitory.

HOLD

23 March 2015

Nedbank Capital Strategic Research

Mohammed Yaseen Nalla, CFA

+27 11 295 5430

MohammedN@Nedbankcapital.co.za

Reezwana Sumad

+27 11 294 1753

ReezwanaS@Nedbank.co.za

https://www.nedbankcapitalresearch.co.za

Nedbank Capital

Interest rate barometer | 23 March 2015 Page 2 of 5

Table 1 (continued)

Factors Outlook at January policy meeting Recent developments Rate impact

GLOBAL

ECONOMY (20%)

(Contd)

Oil price The decline in international oil prices has prompted a downward revision of the oil price assumption in the Banks forecasting model, with a significant impact on the near-term inflation forecast. With supply still plentiful and global growth prospects remaining relatively subdued, lower oil prices are expected to persist for some time. However, our forecast makes provision for a moderate increase over the next two years.

Oil prices have risen by 10.5% since the last MPC meeting in January, and traded within a wide $49 - $63/bbl range. Supplies still remain elevated, which will likely keep the price range-bound. The recent uptick however, will likely result in a higher fuel price (in addition to the higher fuel ley), with inflation likely to creep higher in the coming months. On an annualised basis, the oil price is still 49.17% lower, providing impetus for a cut in the near term.

CUT

DOMESTIC ECONOMY

(40%)

SARBs GDP forecast

Growth for 2014 is expected to average 1.4%, with at least one percentage point lost to work stoppages. The Banks forecast for growth in 2015 has been revised down from 2.5% to 2.2%, and that for 2016 from 2.9% to 2.4%. This forecast attempts to take account of electricity supply disruptions which more than offset the positive growth impact of lower oil prices.

GDP growth accelerated by much more than the market expected in the final quarter of 2014, growing by 4.1% SAAR q/q, up from 2.1% and 0.5% in the third and second quarters respectively. Real value added by mining and manufacturing rose strongly, mainly reflecting some normalization in production levels after the long strikes in the first three quarters of the year.

HOLD

Domestic supply

The mining sector, which expanded output by 6.2% on a three-month-to-three-month basis in November, is expected to contribute positively to fourth quarter growth. The outlook for the manufacturing sector, which contracted for three consecutive quarters, is looking more positive following the resolution of the strikes in the sector, with a three-month-to-three-month increase in November of 4.1%. However, output declined by 2.1% on a month-to-month basis due to electricity supply disruptions.

Mining production disappointed significantly in January, contracting by 4.7% y/y compared to -3.0% in December, worse than forecasts of -1.3%. The main reason for the decline was gold production, which slumped 27.5% y/y in January, and subtracted -4.3% from overall production. Manufacturing production also disappointed in January, contracting by 2.3% y/y from 0.9% growth in December, worse than forecasts for no change (0%). The only subcomponents that saw any signs of an improvement were production of motor vehicles and parts, and production of basic iron and steel and non-ferrous metals however these subcomponents either contracted on an annualised basis, or remained unchanged.

CUT

Domestic demand

Growth in real final consumption expenditure by households remains weak, despite a slight acceleration in the third quarter of 2014 to 1.3% from 1.1% in the previous quarter. However, expenditure on durable goods increased at an annualised rate of 6.2%, and reflected in stronger new vehicle sales. Retail trade sales improved in November with a month-to-month increase of 1.5%, and year-on-year by 2.6%. Consumption expenditure is expected to get some boost from lower petrol prices.

More positively, new vehicle sales rose by 1.1% m/m in February, from a 1.2% contraction in January. Domestic sales were led by light commercial vehicles and passenger vehicles, while the 35.6% surge in exports was led by passenger vehicles and extra-heavy commercial vehicles.

Retail growth decelerated to 1.7% y/y in January from a revised 2.0% . Five of the seven major categories of sales recorded annual growth, but the main contributor to the headline figure was the 'textiles, clothing, footwear and leather goods' category, which rose by 8.8%, adding 1.8%.

HOLD

Monetary conditions

Trends in bank credit extension to the private sector continue to reflect tight conditions for households while credit to the corporate sector remains buoyant. Growth over twelve months in total loans and advances to the private sector measured 8.7% in November. However, growth in loans to households, which has been steadily declining over the year, reached a low of 3.6% in November, while that to the corporate sector recorded 15.2%.

Annual private sector credit extension growth was 9.2% in January from 8.6% came in ahead of consensus expectations of 7.9%, with growth in credit extended to households remaining almost unchanged at 3.5% y/y (3.4% previously) and that to companies increasing to 14.3% from 13.5%. Credit growth remains modest for this point of the business cycle and is likely to remain so given weak household finances, reduced mortgage finance availability and the generally poor economic environment.

HOLD

Forecast of inflation

Having averaged 6.1% in 2014, inflation is now expected to average 3.8% in 2015, compared with the previous forecast of 5.3%. The steep decline in 2015, however, produces a strong base effect in 2016, and, when combined with a slightly higher oil price assumption and a depreciated nominal effective exchange rate of the rand, results in an average inflation forecast of 5.4% for the year (5.5% previously), and 5.3% in the final quarter.

Nedbank forecasts inflation to average 4.6% in 2015 and 5.5% in 2016, differing from SARBs forecasts of 3.8% and 5.4% respectively

SA CPI came in a notch higher than consensus, at 3.9% y/y in February, from 4.4% in January, higher than Nedbanks forecast of 3.7% and the markets forecast of 3.8%. As expected, the major driver of the move lower, was the transport subcomponent in January, it subtracted 0.4% from the overall index, and in February it subtracted 1.1% from the index, as transport deflation was 6.3% y/y in February (vs. -2.5% y/y in Jan).

HOLD

Market expectations

Forward rate agreements are pricing in a 32% probability of a 25bp rate cut at this weeks MPC meeting (or an 15.6% chance of a 50bps cut), a 31.6% chance of a 50bp rate cut in 3 months time, and a 47.6% probability of a 50bp rate cut in 6 months time.

Forward rate agreements are pricing in a 13% probability of a 25bp rate hike at this weeks MPC meeting (or an 6.4% chance of a 50bps cut), a 49% chance of a 25bp rate hike in 3 months time, and a 105% probability of a 25bp rate hike in 6 months time. As we head closer to subsequent MPC meetings, the FRA probabilities may tick higher, reflecting expectations for a hike by the SARB later in the year.

HOLD

INFLATION DRIVERS

(40%)

Food prices Food prices remain a major source of inflation pressure with increases still in excess of the headline inflation rates. However, the moderation observed in recent months is expected to continue, despite the reversal of the downward trend in manufactured food prices at the producer level since October. Agricultural food price inflation remains low, having measured 1.4% in December, with a bumper maize crop expected this year. Global food prices have continued to decline, with the Food and Agricultural Organisation food price index declining by 3.7% in 2014.

The recent uptick in local grain prices are likely to filter through towards food inflation and the headline figure in the coming months. The FAO international food price index has declined for the past 11 consecutive months (currently -14% y/y in $-terms), as global wheat and corn prices remains contained on the back of positive harvest conditions. This trend is expected to persist in the coming months, supported by better growing conditions. However local grain prices are expected to tick higher, with imports of grains rising, and the weak rand raising these import prices.

HOLD

Rand exchange rate

The rand weakened by 4.5% against the USD (and 1.6% on a trade-weighted basis) since the last MPC meeting, mainly on the back of the risk aversion prevalent in the financial markets due to global central bank uncertainty. The rand is expected to remain downbeat in the medium term, premised on the expectations for a strong dollar.

The rand weakened by around 5% against the USD (and 2.5% on a trade-weighted basis) since the last MPC meeting, and 11.5% y/y (flat on a trade weighted basis). The market is increasingly pricing in the possibility of earlier rate hikes by the Fed, due to upbeat labour market data from the region. This has resulted in significant FX volatility, and a very upbeat and overbought USD.

HIKE

Administered prices

Administered price inflation fell to 2.6% y/y in December, from 4.8% in November, mainly on the back of lower transport costs as a result of the lower oil price. The petrol price was cut by a cumulative R2.37/l in the last 3 months the biggest decline since 2008.

The headline print in administered price inflation does imply a downward bias. However upside risks in the form of NERSA price hikes this year could likely place some pressure on overall administered prices in the medium term.

Administered prices fell into deflation in January and February (currently -4.5% y/y in Feb). This is because of low transport inflation, with the fuel price still low on a y/y basis. The petrol price however, has risen by 96 cents in March, and is essentially unchanged from the January MPC meeting. The price is expected to rise further as a result of the current under-recovery, and the fuel and transport levies overlaid onto the basic fuel price. Further, Eskom will likely apply for a 25.3% tariff increase from NERSA, indicating that price hikes will likely be high in 2015.

HIKE

Wage settlements

Wage settlements indicate a continuation of above-inflation wage and salary increases. According to Andrew Levy Employment Publications the average settlement rate in collective bargaining agreements amounted to 8.1% in 2014, compared with 7.9% in 2013. The outcome of the public sector wage settlement, due to be implemented in April, is expected to have an important bearing on the general trend of wage settlements in the economy in 2015.

The most recent Andrew Levy wage settlements data indicate that wage settlements remain unsustainably high and in excess of inflation. This will weigh on CPI in the medium term.

HIKE

Source: SARB, Nedbank

Nedbank Capital

Interest rate barometer | 23 March 2015 Page 3 of 5

Table 2: Probability of outcomes

Impact Unweighted Probabilities Weighted probabilities

Global economy (20%) Cut 33% 7%

Hold 67% 13%

Hike 0% 0%

Domestic (40%) Cut 17% 7%

Hold 83% 33%

Hike 0% 0%

Inflation drivers (40%) Cut 0% 0%

Hold 25% 10%

Hike 75% 30%

Final Result Cut 15% 13%

Hold 62% 57%

Hike 23% 30%

Source: Nedbank

5 year break evens have shifted materially lower

Fed Dot Plot March 2015

Overnight index swaps show the capitulation in

expectations recently

SA PMI tumbles in February

Expectations for a slower hiking cycle in near term

SA CPI decelerates sharply as fuel price plunges,

however correction expected in coming months

5.50

6.00

6.50

7.00

7.50

1 2 3 4 5 6 7 8 9 12 15 18 21

FRA Curve - evolution

CURRENT 2014/07/02 2014/09/01 2015/01/15

Nedbank Capital

Interest rate barometer | 23 March 2015 Page 4 of 5

Local drought pushes local maize to export parity prices

SA real repo rate indicates restrictive monetary policy

Trade weighted rand weakens recently

Interest rate barometer track record

Source: US Federal Reserve, Bloomberg, SARB, Nedbank

Interest rate barometer | 23 March 2015 Page 5 of 5

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