EMs face stiff headwinds as global growth slows

• Higher food & energy prices, rising interest rates, currency crisis

• But Cowry analysts see hope for Nigeria’s equity market

As the global economy wriggles through uncertainties worsened by the protracted Russia-Ukraine war with its spillover effects seen in accelerating global inflation, aggressive tightening of monetary policies, worsening debt positions, decline in capital importation and other adverse implications, the sharp slowdown in global growth raises the risk of a prolonged recession in emerging markets, and sub-Saharan Africa economies like Nigeria seem at greatest risk given their precarious fiscal conditions.

Apart from higher food and energy prices, rising interest rates, currency crises from dollar shortages, and capital outflows affecting emerging markets from Pakistan to Egypt to Ghana, Nigeria additionally faces rising insecurity, unpredictable FX exchange rates, shrinking earnings and profitability of corporate entities, as well as political uncertainties ahead of the 2023 general elections, according to analysts at Cowry Asset Management Limited, an investment banking firm.

These economic headwinds have implications for the growth prospects of the Nigerian economy, which grew by 3.54 percent in real terms in Q2 2022 to N17.29 trillion, rising 0.44 percentage points from 3.1 percent in Q1 2022.

Giving an overview of the Nigerian economy in a report titled, “Nigerian Economic Report Card-3rd Quarter Review”, Cowry Asset Management said Nigeria’s economic growth in the review period, according to GDP data, was driven mostly by a pickup in economic activities in the non-oil sector, which contributed 93.67 percent to the nation’s GDP in Q2, higher than 93.37 percent in Q1.

However, woes in the oil sector persisted as the sector’s contribution to the GDP dropped further to 6.33 percent from 6.63 percent, an indication that Nigeria is not reaping from higher oil prices owing to lower crude oil production, which has threatened government revenue and raised borrowing needs, the report said.

The investment banking firm said that August 2022 inflation figures, at 20.52 percent from 19.6 percent in July, forced the CBN to adopt a hawkish monetary policy stance, with the latest hikes bringing the benchmark interest rate to 15.5 percent and the Cash Reserve Ratio (CRR) to 32.5 percent.

Johnson Chukwu, founder and group managing director/CEO of Cowry Asset Management Group, who presented the report, said the Nigerian economy is growing at a soft pace this year, with elevated inflation eating into workers’ salaries, adding that power supply challenges (national power grid has collapsed seven times this year) and high cost of diesel are contributing to make a bad situation worse.

Corporates are also not having a smooth ride as high and unstable inflation rates, unpredictable FX exchange rates, and an unhealthy labour market continue to hamper their performance.

“Interest rates are projected to remain elevated for the rest of 2022, thereby suppressing corporate valuations,” Chukwu said.

“Strained purchasing power and the rising cost of doing business will depress both the topline and the bottom line, though the banks might benefit from rising interest rates. As uncertainties from the election increase, more portfolio investors will stay on the sideline,” he said.

The report further assessed other salient areas of the Nigerian economy, such as GDP growth, oil price and production situation, oil and dollar reserves, FX and the naira, inflation and CBN’s MPR hike, debt profile, and Nigeria’s fiscal deficit.

On a sector-by-sector analysis, the report noted that agriculture was the largest contributor to Nigeria’s economy in the second quarter of the year, growing by 1.2 percent in Q2 2022 with a contribution of 23.24 percent to the overall GDP in real terms.

The ICT sector contributed 18.44 percent to Nigeria’s GDP in the second quarter of 2022, growing by 6.55 percent in the period.

The trade sector contributed 16.81 percent to the economy, but growth in the sector declined to 4.51 percent in the period under review down from 6.54 percent in Q1 2022.

Manufacturing accounted for 8.65 percent of the Nigerian economy and grew at 3.0 percent in Q2 2022.

The contribution of the oil sector, which used to dominate the country’s GDP bottom line, fell to 6.33 percent in Q2 2022, with the sector losing 11.77 percent in Q2 2022.

The biggest sectoral growths, according to the report, include transportation (51 percent yoy growth), financial and insurance (18.48 percent yoy growth), ICT (6.55 percent growth), trade (4.51 percent), real estate (4.42 percent), construction (4.02 percent), manufacturing (3 percent), science and technology (1.96 percent), and education (1.16 percent).

In contrast, electricity, gas, steam and air conditioning supply recorded the biggest sectoral contractions at 11.48 percent, followed by mining and quarrying which plunged 11.09 percent.

Analysing the Nigeria equity market, the report observed that upward movements in the equities market in H1 2022 have not been sustained.

It also noted that the banking industry lags behind every other sector bar Industrial in the ytd performance, while the NGX Banking Index dropped from 406.1 index points to 378.2 index points, depreciating by -6.86 percent.

“The All-Share Index (ASI) and Market Capitalization (MC) have both dropped significantly from 51,817.59 and N27.94 trillion as at June 30, 2022, to 49,024.16 and N26.45 trillion on September 30, 2022, respectively,” the report said.

It further noted that the YTD (Year-to-date) returns of the ASI as at end of Q3 2022 was 14.77 percent, a -6.2 drop when compared to Q2 2022. It attributed the drop seen in Q3 to the rising interest rates and exchange rate concerns.

But it is not all gloomy as, according to Cowry Asset Management, its sector-by-sector analysis of the Nigeria equity market shows a positive outlook.

“We expect a rise in interest-earning activities in Q3 and going forward and project a positive perspective for the banks in the end of year run-in; increased political spending towards the 2023 general election; hike in MPR and CRR (15.5 percent and 32.5 percent respectively) by the MPC, which may lead to higher interest income and increased earnings,” Chukwu said.

“Soaring interest rates will provide investors attractive alternatives to stocks (fixed income instruments). Given adverse operating conditions currently observed, there will be a higher proportion of Non-performing Loans (NPLs) in the banking sector,” he said.

In the telecommunications sector, the report noted that the launch of 5G by MTN is considered by analysts as a significant milestone in seamless communication and interconnectivity between smart devices.

It stated that the sector has experienced significant development primarily in the expansion of its revenue base as a result of increased mobile penetration, with over four million new telephone lines added to the networks so far this year.

Against this backdrop, the report projected that the approval of MTN and Airtel payment service banking licences will provide an alternative income stream for these telco operators.

And whereas the industrial sector has dropped 11.71 percent from 2008.3 points at the start of the year to 1773.2 ytd, the worst sectoral performer so far in 2022, Cowry Asset analysts said there is a perceived growing need and interest in infrastructure development in Nigeria, with real estate investment, residential and commercial buildings seen as a store of value.

“As the election period approaches, there will be some rush to complete road and infrastructure projects as campaign strategy which will increase the demand for construction material,” Chukwu said.

With regard to the oil and gas sector, the report said the Oil and Gas Index has outpaced the market capitalization growth among indices so far this year, having grown by an estimated 47.3 percent ytd. The sector recorded a 58 percent increase in price in the first half of the year, a sharp response to the energy crisis in the aftermath of the Russian Invasion, but has slightly dwindled following less supply chain problems.

It identified SEPLAT as a major driver in the sector’s performance, having gained 92 percent in price ytd.

“We expect this upward trend to continue as the Ukraine/Russia crisis has shown no signs of ending soon. With Russia having halted their oil exports to Europe, there are fears of an even tighter constriction on an already limited global oil supply,” he said.

For the consumer goods sector, the report noted that the goods index has the third highest growth among indices on the NGX as the index recorded a 5.8 percent increase in price since the turn of the year. The persistent rising inflation of raw materials and distortion in the supply chain have impacted the prices of consumer goods, the report said.

“With expected persistence of inflation, we can project growth in this sector as revenues will increase to reflect price increases. Relatively inelastic nature of demand here makes the sector less vulnerable to market volatility,” the analysts said.

“Election season will also impact positively on the sector,” they said.

In the fixed income market, Cowry Assets observed bearish performance by the sovereign Eurobonds, where average yield rose to 14.5 percent.

“The yield on bonds has risen lately, driven by the increase in interest rates by the United States Federal Reserves. The US Fed commenced rate hikes in response to record-high inflation rate experienced in the world’s largest economy,” the report said.

They said Nigeria is unlikely to patronise the Eurobond market again this year, given that external financing conditions are no longer favourable in view of increases in global interest rates.

“We expect yields of bonds on emerging markets Eurobonds to remain elevated at double-digits as the fiscal conditions of these issuers deteriorates.”

Cowry Asset analysts noted sustained bearish performance by the local bonds, with average yield dropping to 14.5 percent on the 10-year benchmark bond as at end of Q3 2022.

“Given the aggressive tightening by the monetary authorities, it is expected that local bond yields will rise further,” the analysts said.

“CBN will attempt to attract FPIs with attractive yields in order to increase FX,” they said.