In the past few years, earnings yield for publicly listed companies has been rising as improved earnings performance has been met with a deepened broad market selloff in the local bourse. With most investors scratching their head to understand why the market selloff which began early 2018, some economists now tie the poor market performance and declining equity valuations to the protracted decline in GDP per capita levels in the country.
Between 2015 and 2018, market valuation as measured by PE ratio (the inverse of earnings yield) has more than halved, falling from 17.01x in 2015 to just 7.47x at year end 2018. While valuations began declining due to the economic recession in 2016, they have still not recovered despite the economic recovery. Economists say the recovery has been too slow, causing economy to remain in austerity as GDP per capita continues its four-year march downwards.
Analysis of the market valuation of the NSE 30 shows the earnings yield in the Nigerian equities market currently hovering around 13.39% which is a significant increase from its levels in 2015 which was about 5.88%. “Since the economy tumbled into a recession in mid-2016, there has been a persistent decline in company valuation as investors’ confidence has been heavily eroded due to the economic contraction and slow pace of economic recovery” said Tochukwu Okafor, Lecturer in Banking and Finance at Covenant University.
Maju Eldad, a Nigerian economist explained that “Since 2014, economic growth has more than halved as the Nigeria’s oil driven economy has failed to rebound amidst headwinds such as poor execution of public policies, delayed budget approvals, poor budget performance and an erosion of both consumers’ and that has led to a decline in investors’ confidence.”
Notwithstanding the slight improvement in economic growth in 2018 when the economy expanded by 1.9 percent which was about 2.3x better than the growth rate in the preceding year, investors’ confidence in the market further eroded with analysts pointing to the persistent decline in GDP per capita since 2015. With the economy expanding at a slower pace than the population growth rate of around 3.25%,
Nigeria which is currently the poverty capital of the world may be finding more space at the bottom to accommodate millions of citizens who may fall into the poverty category as average income per citizen as measured by GDP per capita continues to erode. Investors knowing that the shrinking average household income could affect company’s performance as selling off stocks to preserved suffering further market losses. However, the pace of the broad market selloffs now seems rational considering both economic performance and rising treasury yields in the country.
Using the fed model, equity yields should be greater than treasury yields to provide investors with an equity risk premium on their investment. Economists opine that earnings yields for stocks move with long-term risk-free rates and expected inflation. With inflation and treasury yields now hovering between 11-12% in Nigeria, it is only normal to see earnings yield rise and stock prices fall to regenerate an inflation and equity risk premium for investors.
Analysts therefore expect that as GDP per capita improves, the stock market will gradually improve also with price to earnings ratio increasing and earnings yield declining.
Ifeanyi John
