NSR H2 2020 (2) - Balance of Payment - A Dire Outlook

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Monday, July 13, 2020 10:12 AM / ARM Research / Header Image Credit: QS Study

 

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Executive Summary

Nigeria's current account position continued to face pressure owing to the fast pace rise in the demand for foreign goods and services. In Q1 20, Nigeria recorded its fifth consecutive quarter of current account deficit totaling $5 billion, which marks the longest chain of quarterly deficits since 2015. This came in higher than we had estimated for the quarter at $4 billion. On capital flows, coming into the year, our view on the direction for flows in 2020 was tainted with a lot of uncertainties owing to juxtaposing factors at play as at the end of 2019. Interestingly, at the start of the year, we saw flows increase over the first two months of the year, as total capital flows were already 38% higher than the entire Q4 19, at $5 billion. However, the tides turned from March as conflicts in OPEC and impact of COVID 19 led to a plunge in global oil and invariably foreign portfolio flows.

 

Going into the rest of the year, we have a more dire projection for the H2 20 current account balance than we initially estimated in the previous outlook report. We expect a worse-off trade balance and a lower current transfer surplus to push the current account deficit higher than we initially estimated to $25 billion. On capital flows, we do not think flows would come in higher in H2 20 than in the first half. With FPI flows supporting Q1 20, and multilateral loans supporting Q2 20, it is unlikely we see any surge in inflows which could beat H1. Although our OMO rate remains relatively competitive (despite the recent cuts) compared to advanced markets, and even some peers in EM, the risk on FX and subsisting concerns on repatriation is unlikely to encourage more flows this year.

 

Current Account Goes Further Downhill

Nigeria's current account position continued to face pressure owing to the fast pace rise in the demand for foreign goods and services. Meanwhile, inflows into the current account have remained primarily reliant on dollar oil earnings and remittances from citizens in the diaspora. In Q1 20, Nigeria recorded its fifth consecutive quarter of current account deficit totaling $5 billion, which marks the longest chain of quarterly deficits since 2015. This came in higher than we had estimated for the quarter at $4 billion. In our last outlook report, we had projected that Nigeria's current account position would remain pressured in 2020, estimating a $17 billion deficit for FY 20, same as in FY 19.

 

The deficit in the quarter, although lower than Q4 19, was still higher than the quarterly average of $4.3 billion in 2019 and our estimate. The QoQ decline mirrored the one-off import of an electro-diagnostic apparatus which is estimated at $2.8 billion and which thrusted the trade balance to the first deficit since 2016. Excluding the one-off purchase, Q4 19 would have recorded a trade surplus and a lower current account deficit of $1.3 billion and -$4.2 billion, respectively.


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Nonetheless, in Q1 20, the plunge in global oil prices (bonny light: -16% QoQ to $52) sealed off a second consecutive quarter of trade deficit printing at $440 million, albeit lower than previous quarter. Oil exports dropped 17% QoQ to $11 billion, driving the value of total exports down by 15% in the quarter to $13.4 billion. Non-oil export was relatively flat at $2 billion, as the increased sale of agricultural goods and raw materials offset the drop in sale of manufactured goods. Meanwhile, total imports dropped 20% QoQ to $13.8 billion. Clearly, the high base of imports in Q4 19 was the major reason for the sharp drop in imports. However, we believe early impacts of the global lockdown could have added pressure to the drop in imports. For clarity, excluding the impact of the one-off purchase, import was still down 4% QoQ.


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The services deficit was also down 16% on the quarter to $7.8 billion, owing largely to a 24% decline in demand for foreign professional and technical services. There was also reduced spend on cargo transports (-19% QoQ) while passenger transport was relatively flat at $87 million (+1% QoQ). Meanwhile, demand for BTA and PTA remained pent up in the quarter, increasing by 10% QoQ to $3 billion.

 

On another front, there was a 12% QoQ and 5% YoY decline in remittances by Nigerians in the diaspora to $5.6 billion in the quarter. Again, we believe this highlights impact of the global shut down which had begun to have more significant impact in some countries during the quarter. Meanwhile, foreign investors repatriated lower returns on investments during the quarter, as income deficit contracted 12% QoQ to $3 billion in Q1 20. This mirrored performance in the Nigerian financial market, especially the equities market which lost 21% over Q1 20, while average fixed income yields contracted in the quarter by 8bps to 7.6%, following on from the declines in Q4 19.

 

Overall, the persisting deficit in the current account balance further contributed to the immense pressure in the foreign reserves, particularly in Q1 20 where reserves depleted by $3.4 billion to $35 billion.


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Hopes for flows dashed by COVID 19 and oil price woes

Coming into the year, our view on the direction for capital flows in 2020 was tainted with a lot of uncertainties owing to juxtaposing factors at play as at the end of 2019. On one hand, the (1) resolution of the US-China rift meant toned-down risk-off sentiments and improved flows to EM market and (2) our competitive OMO rates2 meant Nigeria could secure a competitive edge for influx of flows -- at least better than the receding flows we saw in H2 19. On the other hand, foreign investors' concerns over the CBN's policy restricting domestic participation in OMO market which translated to a less-liquid OMO market, coupled with increased concerns over the rate of depletion of the FX reserves tugged at our optimism for any recovery in flows over H1 20.


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Interestingly, at the start of the year, we saw flows sway to our first scenario over the first two months of the year, as total capital flows was already 38% higher than the entire Q4 19, at $5 billion. This was solely due to the increase in FPI flows (+110% to $4 billion). Meanwhile FDI and other investments (particularly loans) were down 27% and 34% to $188 million and $1.1 billion, respectively, compared to Q4 19. The higher FPI flows over 2M 20 was driven by the tamed EM risk-off sentiments, investors' adaptation to the CBN's unorthodox policy as well as the still competitive OMO rates. There were increases across all the asset classes, compared to Q4 19, with money market instruments (+112% to $3 billion) bearing 80% of the total FPI increase. Flows to bonds (+388%) and equities (+63%) were also up over the 2M period. It is worth stating, that although flows started to drop in March, the total flows in Q1 20 printed at the highest since Q2 2019.

 

However, the tides turned in March as conflicts in OPEC led to plunge in global oil prices (-55% MoM to $23). As a result, investors got jittery, and FPI dropped 78% MoM to $361 million, while total capital flow was down 75% MoM to $615 million. As impact of the COVID-19 global lockdown began to weigh even more on oil prices in April (causing prices to drop to an 18-year low of $19.33) FPI nose-dived even further to a meagre $68 million while total flows dropped to $317 million. These were the lowest levels last seen before the introduction of the Investor and Exporter Window (IEW) in March 2017.

 

For context, compared to the peak in January, FPI, FDI and other investments (loans) were down 85%, 97%, and 38% to $17 million, $68 million and $232 million, respectively, in April. In fact, among the FPI's asset classes, only equities ($19 million) and money market instruments ($49 million) got flows in April, while bond was nil in both March and April. Asides the jitters from oil prices, we believe investors' sentiments were also smeared by the increased repatriation risk faced over those periods. Many hot monies were trapped in Nigeria, as CBN failed to meet investors' demands to exit the market.

 

While we await data for the last two months of H1 20, we think the increased multilateral loans which began to troop in from May, could swing inflows into the financial accounts up. A total of $5 billion is to be raised via multilateral loans from the IMF, World Bank, AfDB and Islamic Development Bank, of which $3.4 billion has been raised so far in May and June.

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Outlook for H2 20 current account is dire

Going into the rest of the year, we anticipate a worse outlook for the H2 20 current account balance relative to our previous projection (See previous outlook: Edge of the Cliff). Previously, we had estimated a current account deficit of $17 billion over FY 20, which was largely unchanged from FY 19. This was expected to stem from subsisting pressures in the services deficit and trade balance. However, while we now expect pressures from the services deficit to ease off this year, we expect a worse-off trade balance and a lower current transfer surplus to push the current account deficit higher than we initially estimated. Our FY 20 current account deficit forecast now prints at $25 billion.

 

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Over FY 20, we forecast a trade deficit of -$9.4 billion compared to a trade surplus of $3 billion in FY 196 and our previous estimate of $5 billion surplus. The key pressure on the trade balance stems from the downward revision to our oil exports estimate by 36% to $34 billion (FY 19: $54 billion). This reflects the revision to our oil price forecast for the year to $40 (previously $61) and our projection for crude oil production to 1.8mbpd7 (previously 2.1 mbpd).

 

Meanwhile, impact of the global lockdown is expected to ease the pressure from imports of goods. Hence, we have revised FY 20 imports down to $52 billion from $59 billion (FY 19: $62 billion8). It is worth stating that back in March9, we had projected the declining trend in FX reserves could prompt the CBN to adopt some administrative restrictive measures10. However, following the deluge of multilateral loans which have given the much-needed buffer to the reserves, we now think it is less likely the CBN goes ahead with enforcing such strict administrative policies.

 

Similar to imports, we also project the services deficit to print lower than we initially estimated at the start of the year. Clearly, we expect the global lockdown to reduce spend on travel expenses and BTA and PTA demands, and also lower demands for professional and technical services. Thus, we have revised our services deficit estimate for FY 20 to $27 billion from $36 billion (FY 19: $34 billion).


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Capital Flows to Stay Aloof

Central banks around the world have taken on expansionary mode to boost growth post-COVID. The US now runs on a 0-0.25% Fed fund rate, while other advanced economies in Europe and Asia span from a negative interest rate to 0%. Emerging economies are also not left out, the likes of Egypt, Turkey, South Africa, Kenya, Ghana and even Nigeria, among other others, have taken on significant cuts in their respective benchmark interest rates. Nigeria's MPR has been cut only 100 bps so far this year to 12.5% -- a lower rate of decline compared to peers.

 

However, bringing it home where FPIs are concerned, the CBN, in June, cut the long-dated OMO rate (1-year bills) to single digit for the first time since 2015. In our view, we think the CBN's flex shows how much comfort the apex bank has gotten from the deluge of multilateral loans.

 

Overall, we do not think capital flows would come in higher in H2 20 than in the first half. With FPI flows supporting Q1 20, and multilateral loans supporting Q2 20, it is unlikely we see any surge in inflows which could beat H1. Although, OMO rate remains relatively competitive (despite the recent cuts) compared to advanced markets, and even some peers in EM11, the risk on FX and subsisting concerns on repatriation is unlikely to encourage more flows this year. Besides, with the CBN now soothed with multilateral loans, the apex bank faces less pressure to appease FPIs and could rather focus on winding down the cost of financing its balance sheet. Thus, further cutting the OMO rate which could chip off the premium in carry trades and make our market less attractive compared to peers.

 

Related News from ARM's H2 2020 Nigeria Strategy Report  

  1. NSR H2 2020 (1) - Crude Oil - Cast in COVID-19 Shadows

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Related News from ARM's H1 2020 Nigeria Strategy Report  

  1. NSR H1 2020 (11) - Fixed Income - Liquidity Surfeit to Keep Yields Subdued
  2. NSR H1 2020 (10) - Monetary Policy - CBN Caressing Both FPIs and Economic Growth
  3. NSR H1 2020 (9) - GDP - Economic Growth Should Remain Anemic, Flatlined at 2.2%
  4. NSR H1 2020 (8) - Inflation Set for a Double Whammy in 2020!
  5. NSR H1 2020 (7) - Currency - How Long Can The CBN Keep Up?
  6. NSR H1 2020 (6) - Balance of Payment - Edge of the Cliff
  7. NSR H1 2020 (5) - EM Portfolio Flows - Happy Days Ahead for EM Foreign Portfolio Flows
  8. NSR H1 2020 (4) - Commodity Prices - Contrasting Fortunes for Global Soft Commodity Market
  9. NSR H1 2020 (3) - Global - After a Slowdown in 2019, 2020 Growth Receives a Timely Boost
  10. NSR H1 2020 (2) - Crude Oil - Tug of War; the Bears Win
  11. NSR H1 2020 (1) - MEA Region: Modest Growth With Positive Outlook

 

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Related News from ARM's H2 2019 Nigeria Strategy Report  

  1. NSR H2 2019 (12) - Fixed Income - Will The CBN Give In To Liquidity Pressure?
  2. NSR H2 2019 (11) - Monetary Policy - Unorthodox Policies to Dominate
  3. NSR H2 2019 (10) - Inflation - A Tale Of Two Seasons
  4. NSR H2 2019 (9) - Currency - Near-Term FX Stability Remains Intact
  5. NSR H2 2019 (8) - Balance of Payment - Foot On The Pedal
  6. NSR H2 2019 (7) - Nigerian Fiscal - CBN Backdoor Financing Will Constrain Local Borrowing
  7. NSR H2 2019 (6) - GDP - Modest Growth, Not Much Solace
  8. NSR H2 2019 (5) - Crude Oil - Clearer Path, Not Entirely Great
  9. NSR H2 2019 (4) - EM Capital Flows - Break Out The Champagne
  10. NSR H2 2019 (3) - Commodity Prices - Mixed Bag For Global Soft Commodity Market
  11. NSR H2 2019 (2) - MEA Region - Neither Booming Nor Collapsing
  12. NSR H2 2019 (1) - Global - Wobbly Growth Picture, More Tilted To The Downside

 

Related News from ARM's H1 2019 Nigeria Strategy Report  

1.        NSR H1 2019 (9) - Fixed Income - Will Yields Hump or Shift?

2.       NSR H1 2019 (8) - Nigerian Fiscal - More Strain On FG Finances

3.        NSR H1 2019 (7) - Monetary Policy - Maintaining The Narrative

4.       NSR H1 2019 (6) - Nigerian Inflation - Boiling Below The Surface

5.        NSR H1 2019 (5) - Currency - A Test Of Nerves And Resilience

6.       NSR H1 2019 (4) - Domestic Economy - Stable Growth In Dire Need Of Fresh Impetus

7.        NSR H1 2019 (3) - Crude Oil - Not Great But Not All Gloom Either

8.       NSR H1 2019 (2) - MEA Region: A Year of Fragile Growth

9.       NSR H1 2019 (1) - Global Growth: New Year, Same Rhetoric, Matching Growth

 

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