Junk Status Explained
It’s been on everyone’s lips for the last two weeks – Junk Status. After a less-than-surprising sacking of former Finance Ministers Pravin Gordhan last week, both the Rand and ratings agency S&P Global Ratings reacted almost immediately.
In December last year, S&P kept South Africa’s credit rating unchanged at BBB-, just one level above junk status.
|High Grade||AA+, AA, AA-|
|Upper medium grade||A+, A, A-|
|Lower medium grade||BBB+, BBB, BBB-|
|Non-investment grade speculative||BB+, BB, BB-|
|Highly speculative||B+, B, B-|
|Substantial risk||CCC+, CCC, CCC-|
|In default with little prospect of recovery||SD|
With SA’s new rating of BB+ we now join nations like Russia, Turkey, Vietnam, Portugal, Paraguay, Macedonia, Jordan, Bahamas, Indonesia, Guatemala, Georgia, Dominican Republic, Croatia, Costa Rica, Bulgaria, Bolivia, Bangladesh, Bahrain and Azerbaijan who share a rating of either BB+, BB or BB-.
What exactly is a credit rating?
We’re all familiar with our personal credit score, which is usually a number between 300 and 850. Banks and lenders review these numbers to determine if an individual is a sound financial candidate. Will some be a good investment and repay their loan and interest, for example? Or will they default and cause the lender to lose money?
Sovereign credit ratings apply to businesses and government and give investors insight into the level of risk associated with investing in a particular country. This includes political risks.
Credit rating agencies typically assign letter grades to indicate ratings. Standard & Poor’s, for instance, has a credit rating scale ranging from AAA (excellent) and AA+ all the way to C and D. A country with a rating below BBB- is considered to be a speculative grade or a junk bond, which means it is more likely to default on loans. (Government is R2.2trillion in debt. 50.7% of our GDP. Reports show that about 40% of government bonds are funded by foreign institutional money, and most of that money comes from countries that cannot invest in junk bonds.)
Licensed investors, banks, mutual funds, hedge funds, pension funds and asset managers are prevented by institutional guides and in most cases law in certain territories, especially first world countries from investing in junk status countries, be that with government or other businesses within that country. This extends to private investment clients too, who is notified as soon as a territory becomes junk status, that private client will be notified and told to either pull out from that country or be forced to settle their loan.
According to Middel & Partners Registered Auditors, there is no doubt that South African businesses across the board are going to feel the effects of the downgrade for years to come.
“Along with every other business in South Africa, when we make less money we pay less tax, our staff don’t get pay rises, and the government has less money to re-distribute. It’s all cause and effect,” says Coenie Middel.
What to expect.
- If the Rand reaches R16 or R17 to the dollar, inflation will rise and with it food and fuel prices.
- Lower access to credit and an interest rate increase means that borrowing money will cost you more. It will be harder to pay off cars, home and business loans.
- Taxes will increase significantly.
- The value of savings, investments and pensions funds will go down as investors pull their money out of South Africa.
- A lack of foreign investment, means no new factories, no new business and no new jobs.
- All industries will experience the brain drain as the brightest talent leave the country in search of greener pastures.
Over the last 35 years these agencies have downgraded about 20 countries to junk status, only six have ever regained back into investment territory. The fastest was just under 1 year, the slowest was almost 12 years and the average was 7 years.
When reading the above statements, it can be all to uninspiring. If you are nervous about your business in this time speak to an expert at Middel & Partners about strategies to move your business forward, when it seems like everything is moving backward. Change/ Uncertainty is the only constant. At Middel & Partners we see change as opportunity and are working with our clients to innovate and capitalise on the opportunities that are always unfolding.
Middel & Partners auditors established since 1992, is registered with the Independent Regulatory Board for Auditors (IRBA), and is registered as JSE recognized auditors.