CBN to pursue dovish interest rate hike in H2’24, say analysts

ONOME AMUGE IN LAGOS

Financial analysts at Cowry Asset  have suggested that the Central Bank of Nigeria (CBN) is expected to implement a moderately dovish interest rate hike, ranging from 25 basis points to 75 basis points in the second half of 2024, against the consecutive hawkish rate hikes witnessed in the first half
of the year.

This projection, highlighted in the company’s outlook for the second half of the year titled, “Nigerian Economic and Financial Markets Review and Outlook for H2”, is further supported by the significant drop in the value of Treasury Bills sold by the CBN during June 2024, with a total of N617 billion sold despite hosting three auctions, compared to the N913 billion sold during two auctions in May 2024.

According to the analysts, the CBN’s push to tame inflation through aggressive rate hikes has come at a steep cost to the average Nigerian, as the country’s monetary policy rate was raised for the third consecutive time in 2024 by 150 basis points, reaching 26.25 percent, noting that while this liquidity tightening approach might be necessary to stabilise the currency and economy, many economists argue that the cost of continuous monetary tightening on individuals and businesses could be catastrophic, as debt servicing becomes increasingly difficult, raising credit risks.

As if struck by a sudden cacophony of complaints, the CBN has found  itself on the receiving end of mounting criticism from real sector operators, who have gone from quietly voicing their concerns to outright wailing about the detrimental impact of high-interest rates on their business viability. Adding fuel to the fire is no less than Nigeria’s leading industrialist Aliko Dangote, who has joined the chorus of critics and called out the current high interest rate environment for suffocating productivity in the country’s economy.

In a move that appears to be a direct response to Dangote’s criticism of the Central Bank of Nigeria (CBN)’s tight monetary policy, Olayemi Cardoso, the CBN governor, speaking through his deputy governor for financial stability, Phillip Ikeazor, has offered some respite, indicating that the apex bank will soon be able to ease up on the rapid pace of interest rate hikes. This announcement, while not a concrete commitment to a policy shift, offers some hope to businesses and individuals struggling under the current interest rate regime, hinting at the possibility of some relief on the horizon.

Digging deeper into the data on Nigeria’s inflation trends, Cowry Asset  uncovered a potentially positive development for the economy, with the headline inflation index showing a slow but steady deceleration over the past three months. This downward trajectory of inflation, it noted, could be a harbinger of a coming reduction in the headline inflation rate.

Johnson Chukwu, founder/CEO of Cowry Asset Management Group, while presenting the company’s review and outlook for for the second half of 2024 at a webinar monitored by Business a.m., noted that while real sector operators had previously voiced concerns about the detrimental impact of high-interest rates on business viability, these complaints have now erupted into full-blown wailings, with Nigeria’s biggest industrialist, Aliko Dangote, openly lamenting (for the first time in history) that the current high-interest rate environment is choking productivity.

Chukwu further elaborated on his analysis of inflation trends in Nigeria, highlighting a significant finding that offers a sliver of hope to the country’s economy.

According to the Cowry Asset founder, when examining the month-on-month changes in inflation rates over the past three months, a noticeable deceleration in the headline inflation rate can be observed, suggesting that inflationary pressures may be easing off, indicating prospects of a moderate Monetary Policy Rate when the CBN’s Monetary Policy Committee meet in the later part of July 2024.

“Based on these factors, we are projecting a moderate hike in interest rate in the next six months. We think the central bank will, at best, increase the benchmark rate by 75 basis points from the current 26.5  percent to 27 percent. If it does anything higher than that, the economy will dip into a negative growth territory.

Our position is further reinforced by the significant reduction in the amount of treasury Treasury Bills sold by the central bank in June. A total of N617 billion was sold in June despite having three auctions against N913 billion sold in two auctions in May 2024,” Chukwu said.

Headline inflation likely to moderate in H2 2024

Cowry Asset, in their assessment of the inflationary landscape in Nigeria, projected that while the current high levels of inflation may continue to persist in the second half of 2024, the pace of inflationary growth may begin to decelerate.

However, the company anticipates that this moderation in inflation will occur at a relatively slow pace, a cautionary note that underscores the persistent challenges facing the Nigerian economy.

Cowry Asset, while forecasting a slowdown in the rate of inflation, identified several factors that could potentially mitigate the inflationary pressure in Nigeria. According to the investment management firm, the expected increase in food production during the harvest season, along with the recent government initiative to suspend taxes on select food items, are likely to ease inflationary pressures. In addition, Cowry Asset also attributes the relatively stable exchange rates and the low consumer demand to this expected moderation in inflation.

While Cowry Asset Management Group predicts a potential moderation in inflation rates, the company remains mindful of the various risks that could counteract this trend. One such risk, it warns, is the possibility of a hike in petrol prices, which would undoubtedly have a ripple effect on the prices of other goods and services. In addition, the  company pointed out that further devaluation of the local currency, increases in electricity tariffs, and the potential for higher wages to be awarded to public servants could all lead to a further inflationary increase.

Stability in foreign exchange rate, backed by CBN policy

Analysing the potential trajectory for the Naira in the coming months, Cowry Asset believes that in the absence of any unforeseen policy disruptions, the Naira could maintain a relatively stable exchange rate, supported by the Central Bank of Nigeria’s continuous efforts to attract foreign currency inflows.

The fate of the Nigerian Naira in the second half of 2024, according to Cowry Asset, will be determined by a complex interplay of factors influencing both the demand for foreign exchange (FX) and the CBN’s capacity to supply it. Cowry Asset posits that the performance of the Naira will hinge on a careful balancing act between these variables, awaiting catalysts such as positive policy interventions or foreign investments to bolster the currency’s position.

The company noted that the CBN’s tight monetary policy stance is likely to persist into the second half of 2024, exerting a downward pressure on the local currency. This restrictive monetary environment, Cowry Asset suggests, will not only put pressure on the Naira but also limit the liquidity in the foreign exchange market.

“We project a support level of N1,700 for FY’24, we note that the Naira could rebound significantly, should oil production improve significantly, subsidies are eliminated, and the local sourcing of oil for domestic refining commence in earnest,” the company stated.

Equity market to be driven by fixed income instruments in H2’24

Cowry Asset’s analysis of the Nigerian equity market for H2 2024 anticipates that corporate earnings and yields from alternative investments, especially fixed income instruments, will steer market performance.

Cowry Asset, in light of the challenges faced by the Nigerian economy in the first half of 2024, expects corporate earnings to decline in the second half, creating a selling pressure on equities. This bearish sentiment, the company believes, will result from corporations’ struggles to generate revenues and profits in a constrained economic environment.

Cowry Asset’s forecast for the fixed income market in H2 2024 suggests that investors could continue to see relatively high yields on fixed income instruments. This, in turn, could create a disincentive for investors to move their capital into equities, as the higher yields offered by fixed income securities provide a more attractive alternative. As such, Cowry Asset believes that yields on these instruments, if sustained at high levels, could exert additional negative pressure on the equity market

“The heightened level of activities in the primary market by Banks, which are mostly Rights Issues will affect the level of liquidity available for investment in the secondary equity market.

“Based on the above assumptions, we project further corrections in H2 2024. Recall that Equities market already corrected by 4.31% in Q2 2024,” the company predicted.

Cowry Asset pointed out that investors in the first half of 2024 were heavily drawn towards money market and bond market instruments due to their significantly higher yields when compared to other investment opportunities, particularly government instruments, which offered attractive returns in the range of 18 percent to 26 percent. These instruments, which carry virtually no risk due to their government backing, were favored over riskier options like equities, as investors prioritised stability and security in their investments.

“We expect this trend to continue in H2 2024 though at a moderating rate.

“To circumvent the high lending costs occasioned by the current yield environment, we foresee increased corporate issuance of Commercial Papers among small to mid-sized companies in coming months at very attractive yield (circa 30%), giving investors with high-risk appetite better returns,” Cowry Asset stated.

The investment banking company cautioned investors to exercise more caution and due diligence when making investment decisions, especially with regards to Commercial Papers. The company believes that some issuers of Commercial Papers may lack sufficient liquidity to redeem these instruments upon maturity, potentially exposing investors to financial losses.

Given the current economic conditions and outlook, Cowry Asset outlined a series of investment strategies to help investors navigate the current economic conditions and their potential impact in the coming months:

Focus on fixed income: Investors are strongly advised to prioritise money market and bond investments over equities, given the significantly higher yields and lower risk profile of these instruments.

Selective equity investments:   Investors with an inclination towards equity investments are advised to adopt a defensive strategy, favouring stocks of companies operating in industries with strong fundamentals and resilience to economic shocks. The focus should be on sectors such as agriculture and oil & gas, which Cowry Asset categorises as bellwether sectors, due to their significant contribution to the Nigerian economy

Diversify into other currencies: Cowry Asset urged investors to consider allocating part of their portfolios to foreign currency instruments, including Eurobonds, Dollar Notes, and Eurobond Mutual Funds.

Opportunistic investments: Cowry Asset encourages investors to maintain a strong liquidity position, with sufficient cash reserves, to enable them to capitalise on potential bargains that may arise in the market.