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 (26/03/2015) 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 5 factors favour a hike and no factors favour a cut (see Table

2). Using the weightings, there is a 57% bias for rates to be unchanged, a

43% bias for a hike, and a 0% bias for rates to be cut. This has shifted

marginally more hawkish since the last MPC.

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

meeting. Low base effects and other domestic inflationary pressures have

remains in play since our last Barometer and MPC. As such, the probability

of a hike later in 2015 remains.

Disinflationary pressures in the developed world have abated somewhat

and inflation expectations have ticked higher. Oil prices have gained and

will result in a large base effect late in the year and early in 2016.

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 remain of the opinion that the Fed will hike in September.

Table 1

Factors Outlook at the March policy meeting Recent developments Rate impact

GLOBAL

ECONOMY (20%)

Growth The global economic outlook remains uncertain, with a moderate slowdown in the US and China, and an improvement in the outlook and performance of the euro area and Japan. By contrast, the weaker euro and accommodative ECB monetary policy have contributed to improved growth prospects in the region. The Japanese economy emerged from two quarters of negative growth, while the larger emerging markets continued to be a drag on global growth. Consensus forecasts are for both Russia and Brazil to record negative growth rates in 2015. The outlook for the Indian economy, by contrast, is more positive.

The IMF left its global growth forecast for 2015 unchanged at 3.5%, while the 2016 forecast was upgraded to 3.8%, from 3.7% previously. The growth forecast for EMs and DMs remained unchanged on the whole, however the US GDP forecast was downwardly revised to 3.1% for both 2015 and 2016 (from 3.6% and 3.3% respectively, previously). Within the EM space, the sharpest declines were seen in Russian and Brazilian GDP forecasts Russia is expected to remain in a recession for the next two years, while Brazils recession is expected to end by 2016. Growth for SSA was downwardly revised, along with SA growth, which is now forecasted at 2% and 2.1% for 2015 and 2016 respectively.

HOLD

Inflation and interest rates

Global financial markets continue to be dominated by changing expectations of the timing and speed of normalisation of US monetary policy. Uncertainty persists regarding the timing of the first interest rate increase. While the US prepares to tighten monetary policy, the global trend has generally been towards policy easing or maintaining an accommodative bias. Both Japan and the euro area have continued with their quantitative easing while a number of countries have eased their policy further, amid benign inflation pressures and concerns about deflation in some countries.

Since the March MPC, the US headline CPI has dipped into deflation, while the targeted PCE measure remains marginally above zero. UK CPI is at 0%, along with the Eurozone, which has managed to move away from deflation due to massive QE extended. The BOE and Fed are expecting inflation to reach the targeted 2% level within 2 years, while the ECB is seeing inflation expectations reach that level in the same time period. Disinflation is also being seen in some EMs, with policy now tilted to easy monetary policy globally. Financial market volatility is being fed by the uncertainty regarding the timing of a Fed interest rate hike.

HOLD

18 May 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 | 18 May 2015 Page 2 of 4

Table 1 (continued)

Factors Outlook at the March policy meeting Recent developments Rate impact

GLOBAL

ECONOMY (20%)

(Contd)

Oil price International oil prices have been relatively volatile but at vastly lower levels than those prevailing for much of 2014. The partial recovery in the international oil price, in conjunction with the recent depreciation of the rand against the US dollar, and the impending fuel and RAF levies, will have reversed a large part of the favourable impact on domestic petrol prices. The international oil price assumption remains unchanged from the previous meeting, with a moderate increase over the next two years.

Oil prices have risen by 13.6% since the last MPC meeting in March, and traded within a wide $54 - $68/bbl range. Recent news of a slowdown in the US inventory build-up have kept the price of oil supported, however further dollar weakness and the possibility of Iranian supplies entering the market has been keeping the price volatile. The higher oil price is expected to lift the local petrol price further in the coming months. On an annualised basis however, the oil price is still 39% lower, but this base effect will reverse in the coming months.

HOLD

DOMESTIC ECONOMY

(40%)

SARBs GDP forecast

The outlook for the domestic economy remains overshadowed by the electricity supply constraint, which appears to have had an adverse effect on recent economic activity. The Banks growth forecast for 2015 is unchanged at 2,2%, and marginally lower at 2,3% for 2016. The Banks leading indicator of economic activity also suggests a continuation of the sluggish growth outlook.

GDP data for Q1 is expected to be released next week. Nedbank forecasts 1.7% q/q growth, compared to 4.1% in 2014/Q4. Positive contributions from the mining and manufacturing sectors are likely, however this may be offset by deteriorating net exports and lower consumption spending. The growth outlook remains subdued due to electricity shortages, high wage demands, and low consumer demand both globally and locally.

HOLD

Domestic supply

Both real mining and manufacturing output contracted on a m/m basis in January; the Kagiso PMI declined sharply to below the neutral 50 level in February; the RMB/BER business confidence index declined to below the neutral 50 level in the first quarter of 2015 to 49 points, with the decline most marked in the manufacturing sector; and the building sector also shows signs of slowing, with both buildings completed and new plans passed declining, along with lower confidence in the sector, particularly with respect to residential construction.

Mining production was up by 18.8% y/y, from 7.5% in February, much higher than forecasts of +5.9%. Most of the basket saw big increases in production over the month. The key driver of the 18.8% surge in mining production was PGMs, contributing 13.1% to the overall growth. SA manufacturing production printed at 3.8% y/y in March from a decline of 0.4% (upwardly revised from -0.5%) in February. This exceeded expectations of 1.0%. The major driver of the annual growth was the 'food and beverages' category which added 1.9 percentage points.

HOLD

Domestic demand

Growth in final consumption expenditure by households increased marginally to an annualised quarterly rate of 1.6% in the fourth quarter of 2014, and measured 1.4% over the year. Both retail trade and wholesale trade sales declined on a m/m basis in January, and the outlook remains uncertain as the potential boost to consumption from lower petrol prices has been partially reversed. High debt levels, low employment growth and continued tight credit conditions are likely to constrain consumption expenditure growth in the absence of strong increases in real disposable incomes or strong positive wealth effects.

New Vehicle sales contracted by 3.3% y/y in April, from no change in March, worse than forecasts of -0.6%. Sales of passenger vehicles, light, medium, and extra heavy commercial vehicles contracted, while sales of busses and heavy commercial vehicles rose. SA retail sales surged in February, by 4.7% y/y, from 1.9% in January, beating forecasts of 1.9%. Over the month alone, retail sales surged by 1.9%, from 0.2% growth in January, beating forecasts of 1.2%. The key upward driver of retail sales was general dealers, which rose by 4.8% y/y and contributed 2% towards the overall index.

HOLD

Monetary conditions

Trends in bank credit extension to the private sector have remained relatively unchanged, with highly divergent patterns in loans granted to the corporate and household sectors. While growth over 12 months in total loans and advances to the private sector measured 8,3% in January, credit extended to corporates increased by 14,3% while that to households increased by 3,5%. Both mortgage credit extension and instalment credit and leasing finance reflected slow growth in housing and motor vehicle sales. Commercial mortgages, by contrast, experienced buoyant growth.

Private sector credit extension growth rose to 8.9%y/y, higher than the consensus forecast of 8.5% from 8.7%y/y, driven by credit to companies, which increased by 2.5%m/m and 13.9%y/y, while extension to households remained weak, growing by 0.2%m/m and 3.6%y/y. Credit growth remains subdued for this point of the business cycle. It is likely to increase only moderately in 2015 as a whole, supported by some improvement in household finances, although the upside will partly be contained by the generally weak and constrained economic environment.

HIKE

Forecast of inflation

According to the Banks latest forecasts, inflation is now expected to average 4.8% in 2015, compared with the previous forecast of 3,8%. A first quarter average of 4.2% is now projected as the low point, compared with 3.5% previously. The strong base effects in the first quarter of 2016 are expected to result in a temporary one-quarter breach of the inflation target during that quarter, at 6.7%, with the average for the year expected to measure 5.9% compared with 5.4% previously. Inflation is expected to average 5.5% in the final quarter of the year, compared with the previous forecast of 5.3%.

Nedbank forecasts inflation to average 4.7% in 2015 and 6.1% in 2016, differing from SARBs forecasts of 4.8% and 5.9% respectively. SA CPI rose to 4.0% y/y in March from 3.9% in February, below forecasts of 4.1% and Nedbank forecast of 4.2%. Core inflation fell to 5.7% y/y from 5.8% in February, below forecasts of 5.8%. This indicates a broad-based decline in consumer demand, as the core measure excludes the most volatile items of food and fuel costs. The biggest upward drivers of CPI were transport inflation and housing and utilities, while food and non-alcoholic beverage prices eased in March.

HOLD

Market expectations

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.

Forward rate agreements are pricing in a 50% probability of a 25bp rate hike at this weeks MPC meeting, a 122% chance of a 25bp rate hike in 3 months time, and a 210% probability of a 25bp rate hike in 6 months time. Higher inflation expectations and forecasts of an uptick in US interest rates are fuelling local interest rate expectations.

HIKE

INFLATION DRIVERS

(40%)

Food prices The recent downward trend in consumer food price inflation is forecast to be reversed in the coming months, following the severe drought in some of the maize producing areas of the country. With drastically reduced maize crop estimates, South Africa is expected to become a net importer of maize during the year, and spot prices have moved closer to import parity. The spot price of white maize, for example, has increased by around 30% since the beginning of the year, reinforced by a depreciating currency and despite moderating global prices. Meat prices have also remained elevated.

The recent drought has pushed the local maize price higher since the March MPC, the maize price has risen by 7%. Protein prices remain high, while the higher transport cost is expected to drive other food prices higher. This is in contrast to international food prices which have continued to fall, as indicated by the FAO food price index, which is now in the 13th consecutive month of decline.

HIKE

Rand exchange rate

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.

The rand strengthened by around 1.11% against the USD (and 1.4% on a trade-weighted basis) since the last MPC meeting, but remain 14.5% weaker y/y (4.1% on a trade weighted basis). The rand has remained highly volatile as a result of the volatile dollar, which is expected to persist until the US confirms a rate hike.

HOLD

Administered prices

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.

Administered price inflation remains negative as a result of the transport deflation. This is unlikely to be sustained given the multiple fuel price hikes that weve already had for the year. Since the last MPC meeting, the petrol price is R2.58/l higher. Also, given expectations for electricity tariff increases in 2015 and 2016, administered prices are expected to rise and place upside pressure on headline inflation.

HIKE

Wage settlements

The Andrew Levy Employment Publications survey shows that during 2014, the average wage settlement rate in collective bargaining agreements amounted to 8,1%, compared with 7,9% in 2013. The public sector wage settlement is still not agreed, and the outcome 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 | 18 May 2015 Page 3 of 4

Table 2: Probability of outcomes

Impact Unweighted Probabilities Weighted probabilities

Global economy (20%) Cut 0% 0%

Hold 100% 20%

Hike 0% 0%

Domestic (40%) Cut 0% 0%

Hold 67% 27%

Hike 33% 13%

Inflation drivers (40%) Cut 0% 0%

Hold 25% 10%

Hike 75% 30%

Final Result Cut 0% 0%

Hold 62% 57%

Hike 38% 43%

Source: Nedbank

US inflation expectations move towards 2% target

Higher international oil price likely to place upside

pressure in local inflation

Trade weighted rand supported recently

SA PMI tumbles in April

FRAs tick higher on the back of heightened expectations

for a Fed hike

SA Food prices expected to track maize price higher

Source: Bloomberg, SARB, Nedbank

Interest rate barometer | 18 May 2015 Page 4 of 4

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