High Year-end Spending Drove Inflation Upward


Thursday, February 11, 2021  / 05:30 PM / By Comercio Partners Asset Mgt / Header Image Credit: iStock

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Report Summary

The Macroeconomy

  • The IMF forecasted a sluggish growth for the Nigerian economy in 2021.
  • High year-end spending drove inflation upward.
  • The Naira appreciated marginally at the I&E FX Window.

The Financial Markets

  • The equity market maintained its uptrend, although with reduced momentum.
  • The fixed income market sustained its bearish trend in January.

Our Expectation for the Coming Quarters

  • Oil production should improve slightly.
  • Active inflationary drivers could further worsen inflation.
  •  Activities in the equity market will be by driven the FY earnings releases.

Covid-19 Restrictions Tighten Around The World, As Cases Increase

The year started off with mixed economic data. On one hand, U.S. job figures remained weak as pandemic-related restrictions inhibited economic activity. On the other hand, US GDP growth for Q4, 2020 was very impressive, raising hopes for a sustained recovery. While the UK reported a large GDP decline for November, China returned to its pre-pandemic GDP level after a strong fourth quarter growth rate.


The pace of vaccine roll-out was encouraging in the US, UK and Israel with a large number of the most vulnerable citizens being inoculated in these countries over the month. Roll out in the EU was less impressive and only started to gain pace later in the month. Fears over vaccine-resistant new strains were somewhat assuaged when lab tests confirmed the effectiveness of some vaccines against known strains, even though immunity provided against new strains could be lower.

COVID-19 continued to spread relentlessly, which led to tighter restrictions across the world. The UK and Malaysia re-imposed nationwide lockdowns while some countries in Europe tightened restrictions. China saw the worst regional outbreak since the pandemic began. A significant pick-up in COVID-19 cases also led to movement restrictions in Japan.

The transition to a Biden administration had a tragic start, after the Capitol Building was stormed by rioters in an attempt to overturn the election results. Nevertheless, President Biden was inaugurated as planned and started his presidency by signing several executive orders, practically undoing several of former President Trump's policies.

Monetary policy by the Federal Reserve and European Central Bank was unchanged. On the fiscal side, the Democrats winning both Senate seats in Georgia makes an additional stimulus package in the US likely, while the UK extended it furlough scheme into the summer.


Market volatility as measured by the VIX index rose sharply towards the end of the month amid the short squeeze, while option trading in general remained at the record volumes built up in 2020. Some days during January saw the highest single-day trading levels on record as retail investors crowded into the space.


On the home front, The Monetary Policy Committee unanimously voted at its first meeting in 2021 to keep the monetary policy rate at 11.50% and the asymmetrical corridor across the MPR at +100bps/-700bps. The committee also voted to hold constant, at 27.50%, the cash reserve requirement (CRR), and liquidity ratio at 30.00%. The Governor of the apex bank, Godwin Emefiele noted that the committee considered the gradual but sluggish recovery of the global and domestic economy and the fast-rising inflationary pressures in the country, amongst other factors. In our analysis of the committee's decision, we considered that if the country's benchmark lending rate was reduced, it might support domestic economic growth with a fast recovery in the short run. However, this move would have been counterproductive, with the current negative real interest rate, the demand pressures at the foreign currency market and surging inflation. However, a hike could have contradicted the drive of the Apex bank to facilitate cheaper credits to the real sector, although this has been very much achieved through the bank's unorthodox policies. For most of 2021, we expect the Monetary Policy Committee to focus more on stabilising the country's exchange rate and propelling economy growth with any means necessary.


The Macro Economy


GDP Growth & Oil Production 

The prevailing narrative of a tepid growth expectation for the Nigerian economy was reiterated in the recently released IMF World Economic Outlook, as the Bretton Wood Institution posited that the economy of Nigeria will grow by just 1.5% in 2021, hence, corroborating the World Bank's growth outlook of 1.1% for Nigeria. However, these projections significantly contradict the 3% growth target embedded in the 2021 appropriation bill. The key concern noted by the IMF remains our operation of an oil driven export economy, which is an economic crack that should remain through 2021. Nevertheless, fourth quarter growth data set to be released soon would shed more light on the trajectory of growth to expect in 2021, as signs of a quickened V-shaped recovery will renew confidence in a substantial uptick in the growth of the Nigerian economy.


On the oil front, data released by OPEC revealed that oil production for Nigeria slowed further in the month of December 2020, as it printed at 1.17 mbpd, which in comparison to the 1.33 mbpd recorded in November 2020, reflects a decrease of 11.7%. Similarly, on a quarterly basis, Nigeria's oil production averaged 1.28 mbpd in the fourth quarter of 2020, as against 1.35 mbpd recorded in the preceding quarter, hence, reflecting a decline of 5.0%. This reduction in oil production majorly reflects how OPEC's commitment to curbing oil output has affected Nigeria's local oil production.


In addition, OPEC revised its world oil demand growth forecast for 2020, estimating an oil production decline of 9.8 mbpd, hence averaging 90 mbpd in 2020. This reflects a marginal increase of 0.1 mbpd from the 89.9 mbpd stated in its previous reports, and the improvement stemmed from better-than-expected demand in China and India. On the supply side, OPEC retained its Non-OPEC oil production estimate at 62.7 mbpd, reflecting a contraction of 2.5 mbpd, y/y.


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Headline inflation grew by 15.75% YoY in December 2020; 0.86% higher than 14.89% recorded in November 2020. Food inflation increased by 19.56% YoY in December 2020; 1.26% higher than 18.30% recorded in November 2020. Core inflation stood at 11.37% YoY in December 2020; 0.32% higher than 11.05% recorded in November 2020.


On a monthly basis, inflation increased by 1.61% MoM, a 0.01% marginal increase from the rate of 1.60% that was recorded in the previous month. The yearly average rate rose to 13.25%, 0.33% greater than 12.92% recorded in the previous month. Both the food and core sub-indexes contributed to the headline increase, as larger spending during the festive season bolstered prices. However, existing inflationary drivers remained, and were exacerbated by the high year end spending. Shortages to food supply remained a concern in December 2020 as well as the pass-through effect of increased energy prices and the prevailing exchange rate crisis.


The food index rose by 2.05% MoM, a 0.01% increase from the rate of 2.04% that was recorded in the previous month. The yearly average rose to 16.17%, 0.42% greater than 15.75% recorded in the previous month.


In December 2020 core inflation stood at 1.10% MoM, up 0.39% from 0.71% recorded in the previous month. The yearly average also rose to 10.31% this month, 0.17% greater than 10.14% recorded in the previous month. The highest increases were recorded in prices of Passenger transport by air, Medical services, Hospital services, Shoes and other footwear, Passenger transport by road, Hairdressing salons and personal grooming establishments, Repair of furniture, Vehicle spare parts, Pharmaceutical products, Motor cars, Maintenance and repair of personal transport equipment, Paramedical services, Motorcycle, Dental services and Bicycles.


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Capital Importation and Foreign Exchange Reserves 

The National Bureau of Statistics (NBS) released its capital importation report for Q4 2020. The total value of capital importation into Nigeria stood at $1.07bn in the fourth quarter of 2020. This represents a decline of 71.9% when compared to Q4 2019, and a 26.8% decrease when compared to Q3 2020. Foreign investors continued to remain on the sideline due to the covid-19 induced disruption. The largest value of capital importation by type was Other Investment (comprising of loans), which accounted for 73.2% ($783.26mn) of total capital importation, followed by foreign direct investment, which accounted for 23.5% ($251.27mn) of total capital importation. Foreign Portfolio investment (FPI) accounted for 3.3% ($35.15m) of total capital imported in Q4 2020, a significant decline relative to its previous quota of over 50% prior to Q2 2020.


Inflow in the I&E FX Window sustained its downward trend into the new year, despite improvement in FPIs, as total inflows into the Nigerian economy declined by 46.2% from $1.366 billion in the month of December 2020 to $734.9 million in the month January 2021. The decline in the inflows into the I&E FX Window was on the back of the significant drop in the intervention from the CBN, which declined significantly by 91%, from $440.3 million in the month of December 2020 to $457.6 million in the month of January 2021.


On outflows, we witnessed a significant decline in outflows from the I&E FX Window across all fronts, with the bulk of the outflow recorded from other foreign sources. Total outflows from the window declined by 49.3% from $1.3 billion in the month of December 2020 to $665.2 million in the month January 2021, bringing the net capital inflow for January 2021 to $69.7 million.


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Purchasing Managers' Indices 

As at print time, the CBN had not released its PMI Report for January 2021. However, Stanbic IBTC's January PMI report for the private sector showed an overall improvement in business conditions, as the headline index remained above 50. With the headline PMI printing at 50.7 in January, this represents the weakest rate of expansion since July 2020. Improved demand was noted as the key driver behind the expansion, as businesses continued to welcome new orders, thus enabling them pass down the increased cost burden that stemmed from a heightened rate of inflation, unfavorable exchange rate movements and increased wages. However, businesses also had to cut down on their workforce, which would have a telling impact on the unemployment rate.


Elsewhere, CBN's PMI data still puts the overall economy in the contractionary region, as at when last reported in December 2020. The manufacturing PMI printed at 49.6 in December 2020, while the non-manufacturing PMI stood at 45.70. The notable concern in the CBN's last reporting also pointed to the employment level, as the sub-index continued to worsen.


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Financial Markets


Fixed Income Market 

The fixed income market maintained its bearish trend in the new year as yields moved further north due to weak investors' sentiment, coupled with the gloomy outlook for the market. Average monthly yield on the 20-year sovereign bond rose the most, inching up by 221 bps from 6.27% to 8.48%. In addition, average yield for the 3-year sovereign bond rose by 206 bps from 2.79% to 4.85%; average yield for the 5-year bond rose by 177 bps from 4.73% to 6.50%, while average yield for the 10-year bond rose by 220 bps from 5.81% to 8.02%.

The Bond auction held on the 20th of January 2020 closed relatively strong with a bid to cover ratio of 1.58x and stop rates printing as follows; 7-year, 15-year and 25 year at 7.98%, 8.74% and 8.95% respectively. The Bond auction was relatively weak in terms of sales (N121 billion vs N150 billion offered) and stop rates. Yields on the 15-year and 25-year rose by 180 bps and 195 bps respectively, compared to the previous auction.

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Foreign Exchange Market 

The Naira appreciated marginally in January 2021 at the I&E FX Window with the average exchange rate of the currency to a unit of the Dollar falling to N394.03 in January 2021 from N394.92 in December 2020. However, the total monthly turnover traded on the I&E FX Window for the month of January 2021 dropped to $1.1 billion, a 65% decline from $3.3 billion turnover recorded in December 2020. The CBN intervened in the I&E window at the beginning of the year to defend the naira which had depreciated to $/N410.25 on 31st December, 2020. Total monthly turnover on the I&E FX Window continued to remain significantly depressed since April 2020 when foreign exchange inflow into the Nigerian economy was spooked by the coronavirus pandemic, the economic lockdown arising from the pandemic, and the various policy moves by the CBN that discouraged inflows.


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Equities Market 

The first month of 2021 saw the local bourse continue its ride on the steam from last year, as investors positioned themselves ahead of the earnings season. The first NTB auction in the year, where the DMO redeemed ₦125 billion worth of bills, triggered a positive reaction in the equities space as at least ₦15 billion from unallotted bids trickled in. Total trade value for that particular skyrocketed to ₦32.7 bn, a 10-week high. Local participants sensed the reign of the low-yield environment was yet to end as the 1-year bill closed at 1.5% but were on the lookout for the outcome of the first bond auction and MPC meeting of the year. Both heavy-weight and low-weight tickers enjoyed market participation with local institutions and fund managers focusing on the heavy weights while speculative locals took on the smaller weights. Bloomberg reported that c.8.6bn units of stocks were traded in the market year to date and the premium names only accounted for 18% of the total volume. The insurance sector relished some buying interests with local speculative money being the major driver.


As always, corporate disclosures have a way of uplifting market activities, and a few financial results were released in the month of January 2021. Bullish sentiments towards BUACEMENT from last year crossed over as the market continued to react to news of the firm's plan to add an extra 9 million tonnes per annum to its production capacity. This is a move that will position the firm as the second largest cement player upon completion, hence overtaking LAFARGE AFRICA if the firm does nothing to boost its capacity. LAFARGE AFRICA also disclosed its notice of divestment of its 35% stake in its Ghanaian subsidiary, and this stirred up demand for the ticker. ARDOVA's announcement of its plans to acquire Enyo Retail and Supply before the end of Q1 2021, drove up demand for the ticker causing it to trade at full bid in a few sessions.


Foreign investors were largely on the sidelines for the month, mostly engaging in BUY trades for NEWGOLD, AIRTEL and SEPLAT with the same resolve to exit via secondary exchanges.


As for the sectorial indices performance, the Insurance sector was the top gainer with a 30% month on month gain. Following far behind were all other sectors; the Oil & Gas sector, Banking sector, Consumer goods sector and Industrial goods sector gained 12.43%, 7.89%, 7.04% and 1.41% month on month, respectively. At the end of the month, the benchmark ASI index settled at 42,412.66 points, with a month on month gain of 5.32%.


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Our Expectations For The Coming Quarters


Nigeria's oil production is expected to recover slightly this year, given the 500,000 bpd OPEC+ supply increase that kicked in in January, following the blocs decision to taper down on the output cuts. Nevertheless, concerns around growth remains a key concern for the Nigeria economy, as there are no visible signs of the oil dependent economy achieving any meaningful growth. Accordingly, growth is expected to remain tepid in 2021, as structural concerns continue to weaken economic prospects.


We expect a slight moderation in inflation going into January 2021, as the economy eases out of the December spending frenzy. Nevertheless, upward drivers remain active, most notably, insufficient food supply and the cost reflective impact of a bullish international crude market. Expansionary policies will remain the key focus of the authorities, but with headline inflation approaching a four-year high, some degree of policy attention may be directed towards inflation, in order to limit its upsurge.


We expect to see some improvement in the PMI in the coming months, as economic activities continue to increase, and as we start to see growth driven government spending. While concerns about the Covid-19 pandemic still lingers, the reluctance of the government to shut down the economy could deter a PMI downtrend that is similar to what was seen in 2020.


We expect sentiment in the fixed income market to remain weak in the coming months as liquidity expectation remains depressed, while we see Inflows in the I&E FX Window improving in coming months following the spike in rates at the OMO auction.

The I&E FX window exchange rate has hovered around $/N394 levels for 2 consecutive months and it seems the CBN will continue to support it around this level. An upsurge in fixed income yields and oil prices could steer flows from FPIs into the window in the near term.


The focus of the equity market will be on the FY earnings reports that will flow in the coming months, as most companies release their audited reports. Market participants will position themselves in stocks that have attractive dividend yields. However, a continuous uptick in fixed income yields could pose a threat to the liquidity that flows into the equity market.

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