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‘It is time for Nigerians to start making value calls in their own country’

‘It is time for Nigerians to start making value calls in their own country’

Exotix Partners LLP is a frontier market investment banking boutique with offices in London, New York, Dubai, and recently launched in Nigeria. In this interview with BusinessDay analysts AKIN-OLUSOJI AKINYELE, RUCHI GUPTA and EDOZIE IFEBI, Exotix directors – Kato Mukuru (head of equity research) and Esili Eigbe (head of West Africa research) – shared their views on the Nigerian economy and capital markets. Excerpt:

Briefly describe your company, services and business interests

Exotix Partners has been around for 15 years, and it is based in London. Exotix is owned by ICAP plc, which is the world’s largest inter-dealer broker. ICAP is owned by Michael Spencer, a well-known businessman in the UK.

The name Exotix comes from a term used by traders of fixed income securities in frontier markets, (called exotic bonds).We are headquartered in London, but we have fully licensed offices in London, New York, Dubai, Lagos, and Kenya.

We are a frontier broker, specialised in not just Africa, but all frontier markets. Through our Dubai office we are expanding our coverage in frontier Asia. Our goal is to be the number one in frontier space in brokerage.

What is Nigeria’s position in your frontier market portfolio?

Nigeria is extremely important, because it is one of the largest economies within our frontier portfolio. The penetration of the capital market in Nigeria is extremely low compared with other frontier markets. It is the one market that we are actively betting on. We believe strongly in the future of Nigeria, which is why we are making the most investments in Nigeria.

What is your opinion about Nigeria’ business and investment climate amid all the macro challenges, both globally and in the domestic economy?

The problem with the stock market in Nigeria fundamentally is that Nigeria is not buying. Nigeria is a $522 billion economy, but its capital market only traded $24 million on the average last year. In the last couple of days, we have been doing $10 million a day.

What would you say if I told you that in Egypt, which is a smaller economy than Nigeria, they trade $200 million a day? What if I told you that in Pakistan they trade $100 million a day? Pakistan is less than half the size of Nigeria’s GDP.

In Bangladesh they trade $100 million a day. Bangladesh is one-third the size of Nigeria. In Sri Lanka, they trade $30 million a day.

Nigeria trades low volumes because we are waiting for frontier investors outside Nigeria to tell us “First Bank is a good bank.” Why? It is time for Nigerians to start buying Nigeria. This is the biggest fundamental problem with the (capital) market.

Nigerians are not making long term value calls in their own country. In Kenya, it is very different. Kenyans are buying Kenya. Uganda is buying Uganda. Why aren’t Nigerians buying Nigeria? We believe that it is a matter of time before Nigerians start taking the lead again. It is time for Nigerians to start making value calls in their own country; after all, there is nowhere else to go.

What sectors in your view are likely to gain after the elections?

Generally, one of the sentiments that have negatively affected the capital market is the jitter around the elections. I believe a peaceful election will be an overall positive for the market. It should benefit the market as whole rather than individual sectors.

Bear in mind that there are other headwinds like the oil price, and the economy itself. The government would still have to struggle with funding its budget for the year, so that could affect some sectors. We are aware that some oil and gas companies have cut their capital projects for the year. This naturally has a (negative) negative multiplier effect, even down to households.

So, the elections, if peaceful will be a positive for the market, but there are still other mitigating factors or sentiments holding the market from performing, which I think are quite evident.

Moving away from equities, how attractive is the bond space to you, especially now that the Monetary Policy Rate is a little higher at 13%?

It is definitely more attractive. We have been on the road for the last two weeks, and one of the biggest feed-back has been that if we can get yields of 14 percent or 15 percent, why we need to be invested in equities.

This also aligns with our house-view that you want to be underweight Nigerian equities at this stage, given some of the challenges that we already mentioned, in favour of relatively stable securities like fixed income. And that is pretty much what our clients have been doing.

We are not saying that you should completely exit equities, but if you want to be underweight, or if you want to reduce your relatively high exposure, focus that exposure to the quality names.

How do Nigerian bond yields compare with other frontier markets?

Nigerian bond yields are definitely one of the highest, if not the highest in the world. The government debt is still low, and the ability to pay is very high. Also important is that it isn’t enough to only look at the absolute rates. It should be compared with inflation levels.

Inflation in Nigeria was about 8 percent based on the last print, so we are looking at a real return of about 7 percent. Even if you compare that with other markets, on a real return basis, taking out inflation, it is still one of the highest within the group of MSCI frontier markets.

Ghana is arguably a frontier market. The yields there are much higher, you can get 25 percent but if you at the look at the inflation rate, the real returns don’t match Nigeria.

In your view, how has the naira devaluation impacted the economy so far and do you think there will be a further devaluation?

Given the major macro economic factors at play, there are still downsides risks to the naira. I’m referring to oil prices. We still don’t have direction on oil prices, even now. Even if we have seen a recovery, what is still very clear, based on the data that has been released by the US government last week, there is still more than sufficient supply of oil. Oil prices could still trend lower. That is a down side risk for the naira in that we don’t get sufficient forex receipts.

Another downside is that we can see further attrition in the forex reserves. I’m saying this not in the context that oil receipts are lower, but the fact that the government, both federal, state and local governments cannot meet their budget, so they will have to draw from the reserves. That diminishes the ability of the CBN to defend the naira.

Since state governments won’t be able to meet payment obligations, they can still draw down the reserves. That is also a downside.

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How much lower do you see the naira falling?

I think the parallel market can be a sort of reference at this point. Because of the new forex rules, what will effectively happen is that the parallel market will become the de-facto market. The parallel market will be the marginal provider of FX, it will no longer the banks.

Interbank is not really the guidance anymore. It is really the parallel market. That is what I would look at. We need to be careful in making these kinds of forecasts. A lot could also change over the next couple of weeks or months.

What we need is a very strong policy direction. If we were to see improvement on that front, I think it would make a big difference as to how market participants view the value of the naira.

At the end of the day, what drives the value of the naira is the market perception. If market perception were to change because the CBN is now viewed to be credible, or providing adequate clarity on policy then that itself could change the market perception, and then the value of the naira.

What is Exotix Partner’s long-term outlook for the Nigerian economy, in terms of growth and investment?

We’re here because if you look at the capital market system, and what is available for investors in the equity market, it is not very representative of the economy. We do not have enough oil and gas names, no telco names, very few manufacturers, small banks, and one very big cement company, which is not really (representative) of Nigeria.

The capital market is supposed to be an expression of the economy, and the capital market is supposed to be a vehicle to fund the key components of the economy. This has not yet been the case in Nigeria. For us, we think that will have to happen.

At the end of the day, it is the telcos that will need the support of the capital market to provide quality service. The Capex needs are growing every year, and they cannot do that from internally generated funding.

We believe that Nigeria will be a market that trades over $100 million a day, from around $20 million a day. And we are committed to staying here, and being a part of that process.

What are the key concerns of international investors around the elections?

The problem with the elections is that there is no clarity as to who will win. This hasn’t happened in Nigeria in a long time. I don’t remember the last elections that I didn’t know who was going to win six months before the vote (based on campaign trends).

Typical with most elections, there’s a lot of spending ahead of that whole process that most of the times lead to devaluation because there is a lot of currency.

There’s also the element of political instability. Even where there is some confidence that the incumbent remains, which is always what most investors would like, there are always concerns that you might see pockets of violence here and there.

We saw this with Kenya in 2013. After the 2013 elections in Kenya, international investors were very cautious, but after the elections, they were very certain that President Kenyatta would re-sit; the stock market went through a pretty strong rally.

The Kenyan currency also went through devaluation because the government spent a lot on the electioneering.

Can you tell us about the investment vehicle you run in Nigeria, and what assets do you typically target?

We are brokers in Nigeria. We don’t have a proprietary desk. We don’t have an asset management vehicle. All we are is an intermediary. We trade for our clients in good faith. We don’t want to have a proprietary book where there is any risk that someone thinks that we are taking a position or anything like that. We are committed to trading for our clients. That is what we do.

How has your performance in Nigeria been so far?

It has been great actually. We started in November 2013. Last year was a phenomenal year, but we couldn’t appear in the rankings because we were (trading) through several brokers before we got our licence. But we think that we were in the top 4 in terms of volumes last year, and this year, we hope to get into the top 3. We think we can end the year among the top three.