(Bloomberg) -- South Africa’s rand, the currency considered a proxy for emerging-market risk, has been an underdog for years when it comes to trading against the British pound. But fiscal turmoil in the UK is turning that convention on its head.
Options traders now favor buying the rand against the pound and stepped up long positions on the South African currency to the most in six years. The so-called 25-Delta risk reversal on the pound-rand pair over the next month dropped to -1.86 percentage points, underscoring the shift in momentum.
The depth of bullish sentiment on the rand in relation to sterling is at levels seen only once before in Bloomberg’s records and that was in 2016 when the UK held the Brexit referendum.
The pound dropped after Chancellor of the Exchequer in the UK Kwasi Kwarteng announced the biggest set of unfunded tax cuts in half a century. The plan drove sterling to a record low of $1.0350 on Monday amid concern the costs -- at about £161 billion ($178 billion) over a five-year period -- would lead to faster inflation and a spiraling government debt burden.
Read: Truss Won’t Change Fiscal Plan After UK Watchdog Meeting
While measures of UK asset stress, such as risk reversals, “may act as a siren call,” it was too soon to conceive of a more lasting state of play in which emerging markets, such as the rand, had the upper hand, said Robert Hoodless, head of foreign exchange and macro analysis for Europe and the Americas at InTouch Capital Markets.
Emerging market currencies still have to contend with expected US Federal Reserve rate hikes, which fuel dollar demand, he said.
“If the UK political system forces a UK fiscal policy re-think, such a reappraisal is a risk for pound bears, especially at a time when some see UK assets as attractively cheap,” according to Hoodless.
The rand gained 0.5% against the pound by 2:42 p.m. in Johannesburg to trade at 19.9082
(A previous version of this story corrected the spelling of Britain in headline)
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