Monday, January 14,
2019 12:55 PM / Meristem Research
Global and Domestic Macros
Trade Spat, Geopolitical Tensions, and Tighter Financial Conditions to Weigh on Growth in 2019 Global growth showed some resilience in 2018 despite the trade dispute between the U.S and China and higher interest rate in the U.S, which roiled markets in emerging markets and developing economies. The pace of global growth is however expected to ease over the next two years, with estimated growth rates of 3.7% according to the IMF.
Uneven growth in advanced markets and continued vulnerabilities in the form of currency depreciation and capital outflows across emerging and developing economies are some of the factors driving the subdued outlook on the world economy. In 2019, concerns for global growth will border on the ongoing trade spat between the two largest economies, U.S and China, along with uncertainty over Brexit negotiations between the E.U and the U.K. Also, tighter financial conditions in advanced markets, especially the rise in interest rate in the U.S, appreciation of the dollar, along with the unwinding of quantitative easing programmes by the U.S and the E.U are expected to dampen investment and growth in 2019 in addition to adversely impacting global trade.
The outlook for commodity prices is however mixed; while stronger demand and weather-related incidences should boost the prices of agricultural commodities, metals and extractive products prices will be affected by the current market volatility and trade tensions. The growth outcomes for commodity exporters in EMDEs, is therefore expected to be divergent, and in line with respective structural peculiarities.
The growth of the domestic economy has been frustratingly slow since the exit from recession in 2017. Despite six (6) consecutive quarters of expansion, downward trending inflation, and relatively stable exchange rate regime, unemployment remains high and the economy is still susceptible to external shocks. The fight against insurgency in the North East, herders and farmers’ conflict across major food production regions represent challenges for the nation’s security apparatus. The poor performance of the Government’s fiscal plan due to delay in approval and implementation, and the need to broaden the nation’s low revenue base, especially in the face of rising debt profile are daunting challenges which must be addressed to achieve the development plans of the country as outlined in the ERGP.
As the nation head to the polls in February, the task for the eventual will be to address the nation’s fiscal challenges through further diversification and development of the non-oil sectors of the economy.
Gains on a baseline case
The equities market opened 2018 on an exuberance with the euphoria of the 42% gains in the NSEASI in 2017 driving sentiments further higher. The market accelerated at a tempo that could not be supported by any fundamental driver as there were no revisions in consensus corporate earnings outlook, no optimism on macroeconomic variables and no respite in the political space. The NSEASI, by the second week of the year, had hit the highest weekly gain since April 2015, and by the end of the month, had reported the 7th highest monthly gains in 33 years. Within the first 14 trading days, no fewer than 39 stocks had gained equivalent of the yield on 364-day T-bills issued same day.
However, a painful correction kicked with serial monthly losses from February through November, with the exception of June in which the NSEASI inched up 0.46%. Weak corporate earnings, contagion from EMEs and the attendant capital flight, apprehensions ahead of the 2019 General Elections combined to send the NSEASI 17.81% underwater in 2018. This, however, is half the story; the NASD, on the other hand, had investors smile home with 22.45% gains at the end of the year. A major driver of the return was the predominance of domestic participation relative to foreign investors.
We expect 2019 to be driven by similar factors that shaped 2018 but with a slight twist. Apprehensions about the election is expected to fade by February but contentions about the result, whichever it goes, has the potential to keep the market within a tight range bound trading in the first quarter of the year. Concerns about the US slipping into recession in the medium-term, expected slower pace of Fed rate hike, and progress towards resolutions of the challenges that crippled major EMEs in 2018 are expected to trigger a bet on EMEs, and consequently the Nigerian market but not until mid-year.
Corporate earnings are projected to be mixed and not strong enough to drive the market except in dividend seasons. Offset to these upsides are country risks emanating from mounting debt profile, lower oil price outlook relative to 2018 and the impact on FX reserves at a time the defense of the currency is paramount. On the balance of factors, we are bearish on the first quarter, progressively positive from a neutral early second quarter to a bullish mid-year into the end of the year. Our models project a 2019 3.7%, which is largely hinged on a low baseline.
Investor Participation Remains Steady
The weak performance of the equities market in 2018 incited an influx of investors into the fixed income market. Emerging market contagion, pre-election jitters, weaker than expected performance of macroeconomic variables and continuous rate hikes in the US had significant impacts on the market.
Thus, there was a need to keep rates as attractive as possible to keep foreign inflows coming and keep domestic participation steady. The average treasury bills and bond yields thus rose to high points of 15.64% and 15.65% in 2018, even though the benchmark rate remained unchanged at 14%.
Participation across all instruments in the fixed income market is expected to strengthen in 2019 as rates are projected to remain high in the first half of the year. We however anticipate downward movements in the rates in the second half of the year as the causative factors of higher rates in 2018 are likely to have tempered.
Although further rate hikes are expected in the US, contracting the differential against the domestic rate, the lower risk nature of investments in the fixed income market is expected to keep investor participation at impressive levels.
The Eurobond market recorded more activity in 2018 and is expected to be more active going forward, in line Nigeria’s Debt Management Strategy of altering the mix of foreign to domestic debt ratio from 84:16 to 60:40.
Hinged on our interest rate outlook for the year, we are convinced that investing in the one year bill for T-bills investment and at the long end of the curve in the bond space, both in the first half of the year will create opportunity to mitigate reinvestment risk of rolling over bills at lower rates for the former and reap capital gains for the latter, when interest rates drop.