Tuesday, January 25,
2022 / 06:14 AM / by Coronation Research / Header Image
The US Nasdaq Composite Index is down some 13.5% year-to-date; US government bond yields have risen, and global equity markets are falling. We cannot predict where these markets will go. We can show how they are having directs effects on Nigerian securities and investment opportunities.
Last week, the exchange rate at the Investors and Exporters Window (I&E Window) strengthened by 0.12% to close at N416.00/US$1. Elsewhere, continued interventions by the Central Bank of Nigeria in the FX markets brought about a further, albeit modest, 0.33% decline in its foreign exchange (FX) reserves to US$40.35bn â€“ the lowest level since 18 October 2021. Our view remains that the CBN's position is strong as the level of FX reserves remains high in the long-term context. Hence, it seems possible that stability will be maintained in the I&E and NAFEX rates in the near term.
Last week, trading in the Federal Government of Nigeria (FGN) bond secondary market was bullish as the average benchmark yield for bonds fell by 10bps to 11.41%. Notably, the yield on the 3-year (-4bps to 9.03%) and 7-year (-4bps to 12.36%) bonds tightened, while the yield on the 10-year (+1bp to 12.62%) bond expanded. In the first bond primary market auction of the year, the Debt Management Office (DMO) allotted N170.64bn (US$410.19m) to investors across the January 2026 and January 2042 bonds. The marginal yield on the January 2026 bond declined by 15bps to 11.50%, while the yield on the January 2042 bond settled at 13.00%. Demand at the auction was strong, as a total subscription of N325.24bn â€“ the highest since September 2021 - was recorded, implying a bid-to-offer ratio of 2.17x (versus an average of 1.90x at prior auctions in 2021). Nevertheless, we expect a rise in bond yields over the medium term owing to an expected increase in domestic borrowing by the FGN to finance the budget deficit and tight domestic monetary policy amidst global monetary policy normalisation this year.
Activity in the Treasury Bill (T-Bill) secondary market was mixed with a bearish tilt, as the average benchmark yield for T-bills rose by 2bps to 4.41%. The yield on the 307-day T-bill was flat at 5.22%. This week, the DMO is expected to roll over N129.33bn worth of maturities at the auction. Elsewhere, the average yield for OMO bills also rose by 19bps to 5.80%; the yield on the 256-day OMO bill lost 1bp to 5.72%. At the OMO auction, the Central Bank of Nigeria (CBN) allotted N20bn worth of bills and maintained stop rates across the three tenors.
Last week, the price of Brent rose to a high of US$89.50/bbl, the highest level in over seven years (October 2014), before settling at US$87.89/bbl, 2.13% higher w/w and its third consecutive weekly gain. Brent is up 13.00% year-to-date and has traded at an average of US$84.13/bbl, 16.68% higher than the average of US$70.89/bbl in 2021. Early in the week, the rally in oil prices was due to short-term supply disruptions adding to an already tightened market as Turkey's state pipeline operator cut oil flows on the Kirkuk-Ceyhan pipeline after an explosion. However, towards the weekend, oil prices moderated as information from the US Energy Information Administration (EIA) showed gasoline inventories in the United States rose by 5.9 million barrels.
Elsewhere, growing concerns around geopolitical tensions in Eastern Europe, following the threat of military action from Russia and the order for evacuation of family members of US embassy staff in Ukraine, is likely to support oil prices going forward, in our view. Consequently, we maintain our expectation that the price of Brent oil is likely to remain well above the US$60.00/bbl mark overthe first half of this year.
The NGX All-Share Index rose 3.38% last week, its third consecutive weekly gain and the largest weekly gain since 29 January 2021, to settle at 45,957.35 points the highest level in over 13 years (2 October 2008). Accordingly, the index is up 7.59% year-to-date. Airtel Africa (+10.00%), Seplat (+9.43%), Cadbury Nigeria (+7.95%) and Dangote Cement (+5.52%) closed positive last week while Honeywell Flour Mills (-4.76%), Stanbic IBTC (- 2.97%) and International Breweries (-2.91%) closed negative. Across the NGX sub-indices, the NGX Industrial Goods (+8.08%) index led the gainers, followed by the NGX Oil and Gas (+7.03%), NGX 30 (+2.66%), NGX Banking (+2.42%) and NGX Pension (+1.61%) indices. Conversely, the NGX Consumer Goods (-3.37%) fell, followed by the NGX Insurance (- 1.81%) index, which lost for the third consecutive week.
Global Markets and Nigeria
It is the last week of January and global markets are nervous. US bond yields are climbing quickly. US equity indices are down. These changes are having immediate and measurable effects on Nigerian investments
The yield of the 10-year US government bond doubled in just over a year. Even though, with a five-year perspective (see charts), the rise in US government bonds yields is not dramatic (more like a return to normal), it marks a significant change from rates during 2020 and 2021. This is what markets are worried about. It is often said that when developed markets sneeze, emerging and frontier markets catch a cold. While the yield on the US Government 10-year bond has risen by just over 80 basis points (bps) over a little more than a year, the yield of the FGN US dollar Eurobond maturing in 2027 has risen by 200bps over the same period.
The FGN's US dollar Eurobond maturing in 2027 recently (late last week) yielded just over 7.00% per annum (pa) while its Eurobond maturing in 2038 yielded just over 9.0% pa. Even in the context of rising US government bond rates, these appear generous, in our view.
In other words, investors may look at these yields in a favourable light. At the same time, the FGN timed its issuance of US$4.4bn of Eurobonds last year very well, taking advantage of low rates available at that time.
The most obvious casualty of rising US bond rates is the appetite for equities in the US, and in other developed markets. Negative corporate news that might have been shrugged off last year (indifferent earnings results from US banks, warning of poor subscriber growth from Netflix) lead to punishment now. The Nasdaq and S&P 500 indices have pulled back.
Recent moves in these indices may not seem like much in a medium-term context of five years. Brave investors may take the view that it will pay again to buy on the dips, as it has done in the past. (During 2021 the Nasdaq Composite Index closed at or fell beneath, its 100-day moving average on five occasions, and it paid to buy on the dip each time, so long as one sold at the end of the year.)
However, the pull-back in these markets is likely to have significant effects. Recent years have been characterized by the democratization of finance, with millions of investors across the globe, including Nigeria, gaining access to markets (like Bitcoin and US equity markets) cheaply. A downturn in markets likely has a negative wealth effect on these recently-initiated investors. This is one reason that the US Federal Reserve, when it meets on Wednesday, may proceed with caution.
The danger facing the US Federal Reserve is that of contagion. If falling markets make a sufficiently large dent in global business confidence, this could create a negative feedback loop into commodity prices and the fortunes of emerging markets, frontier markets and commodity exporters. This, indirectly, could impact Nigeria if one of the effects would be falling oil prices. (Oil prices, so far this year, have not dropped, so the potential for contagion remains remote at this stage, though it needs to be closely monitored.)
Finally, are there negative implications for Nigeria's equity markets at this stage? Our answer is 'not yet'. Our forecasts of rising Naira interest rates this year suggest that the NGX All-Share Index may have difficulty recording a third consecutive year of gains in 2022. Our view has more to do with domestic market dynamics, much more than global ones. The NGX AllShare Index does not correlate with global equity markets.
Model Equity Portfolio
In the third week of 2022, the Model Equity Portfolio rose by 3.58% compared with a rise in the NGX Exchange All-Share Index (NGX-ASI) of 3.51%, therefore outperforming by a 7 basis points. So far this year it has gained 6.09% against a 7.59% gain in the NGX-ASI, underperforming it by 150bps. Readers will recall from last week the problem we experienced in not being able to comprehend BUA Foods which was listed on the first trading day of the year. BUA Foods forms 4.7% of the index and is up 61.0% year-to-date
Last week, we were unable to execute our strategy of making a notional underweight in Airtel Africa due to liquidity constraints (though we are running a notional and small portfolio, we respect market liquidity in our notional trades). This was fortunate as the stock rallied 9.9%. Neither were we able to execute our strategy of building an overweight in MTN Nigeria, again due to liquidity issues. As forewarned last week, we intend to delay this leg of the strategy for a while, waiting for the shares from December N97.0bn share offer in MTN Nigeria to settle.
We will consider our options this week. We sense that banks may not fare well for the rest of the year and will take off up to 300bps from our 1,200bps notional position in five bank stocks over the coming week, liquidity permitting.
53. The Biden Effect