Equities Flourishing on Developments in the FX Market …But for How Long?

The depressed state of the Nigerian economy over the last two years has been broadly reflected in capital market activities. Foreign investors’ appetite for Nigerian assets has waned significantly on the back of currency crisis which in turn has fundamentally weakened macroeconomic performance, dragged corporate earnings and also impacted on equities market viability. This condition has also lingered into the year 2017 as investors have been dumping equities for less risky investment opportunities in the fixed income market especially given the current relatively high yield environment. Accordingly, the negative performance of the Nigerian Bourse in 2016 (-16.9%) was sustained as the YTD return of the benchmark index deteriorated as low as -8.5% in March before marginal improvements were subsequently recorded.

However, in April, investor sentiment strengthened following the commencement of the Investors’ & Exporters’ (I&E) FX window which signalled a possible return of flexibility in FX rate determination; though multiplicity of rates at official windows is still a concern. Additionally, recent improvements in global oil prices above the US$45.0/b mark, improvement in domestic production currently above 2.0mbpd, fiscal responsiveness – including the release of ERGP, successful issuance of US$1.5bn Eurobond, passage of 2017 budget – as well as recent positive readings in manufacturing PMI, suggest possible rebound in economic activities from Q2:2017.

Accordingly, the Nigerian All Share index trended on a 10-day bullish streak majorly due to the improvements in the FX market. Within the last two years, the exit of foreign portfolio investors from the equities market, given the perceived mispricing of the domestic currency, was majorly responsible for the drag witnessed in the equities market. This was further compounded by the massive spread of approximately N200.00/US$1.00 between the official and parallel market exchange rates. However, through the various recent intermittent but steady interventions by the CBN, the spread between the market rates has trimmed considerably. Our interactions with FX traders and Afrinvest equity brokerage desk suggest that the launch of the I&E FX window on the 21st of April, 2017 was the major “game changer” as the equities market has witnessed improved participation from foreign portfolio investors, especially this week.

Consequently, the benchmark index has recorded a decline on only two trading days since the launch of the window while appreciating 11.9% post launch with YTD return currently at +4.9%. Interestingly, all the sectors have majorly benefitted from the renewed investor participation in equities as the banking, consumer goods, oil & gas, industrial goods and insurance sector indices have gained 22.3%, 16.7%, 8.4%, 4.1% and 2.7% respectively since the launch of the I&E window. In our view, the current bullish trend in the market is majorly hinged on foreign investors’ perception on activities within FX market particularly with regards to the  sustainability of the newly launched I&E FX window. If managed appropriately, we expect to see influx of foreign investors which could potentially spark massive rallies in the market given the comparably cheaper valuation of Nigerian equities at a P/E of 12.6x relative to average P/E of 14.7x for African markets.
Next Inflation Forecast
The National Bureau of Statistics is scheduled to release inflation data for April next week. Despite the moderation in Y-o-Y inflation between February and March, M-o-M CPI growth has run ahead of analysts’ forecast for two consecutive months due to sharp rising food prices attributable to seasonality. With the seasonality factor still in effect, we expect the farm produce to remain pressured as the impact of the planting season – which lasts from Mid-February to End of August – continues to weigh on Food prices. However, we expect Imported Food Inflation and the Core Index M-o-M growth to ease marginally due to recent appreciation in parallel market FX rate and largely stable energy prices. Hence, we forecast Y-o-Y Headline Inflation to trend further southwards to 16.9% in April due to lower M-o-M CPI growth projection of 1.3% and subsisting effect of high-base factor.