Political uncertainty propels bear case scenario
By Emeka Anaeto, Business Editor
We are continuing with the prognosis for equities market investment decisions in the second half 2018, which we started last Monday, and hopefully concluding next Monday.
This part of the prognosis is predominantly presenting the impact of politiphobia, the uncertainties in the horizon, as the 2019 general elections draw near.
LAST week we presented the analysts’ review of the events and market dynamics that shaped first half, H1’18, which formed the watershed for the second half of 2018, H2’18, propositions.
We now present the analysts’ positions and forecasts for H2’18 equity performance indicators. The analysis are those of Afrinvest West Africa, a leading investment house in Nigeria, thus:
In our earlier report, our scenario analysis for the market was largely positive based on the expected improvement in macro indicators – GDP, external reserves, FX liquidity as well as oil prices. Considering these factors, we envisaged that market performance in 2018 will be largely determined by: (i). earnings fundamentals of companies; (ii). stability in the FX market; and (iii). fund flow dynamics to emerging and frontier markets.
Based on our positive outlook on these factors, our three-case scenarios for year-to-date, YTD, return (Bear case +7.7%; Base case +19.8%; and Bull case +32.7%), all suggested the rally in the market will be sustained in 2018, albeit at a slower pace than 2017. Whilst we have seen the aforementioned factors come to the fore in H1:2018, the impact has been more skewed towards negative than positive and we expect these to be major themes in H2:2018.
1.0) Earnings Fundamentals of Companies
The release of FY:2017 corporate earnings had lesser than expected impact on market performance in H1:2018, especially given the mixed performance across sectors.
The Banks, particularly Tier-1 banks, churned out largely positive results and were able to sustain dividend payment history, which is characteristic of the sector.
For the Industrial and Consumer Goods companies, performance was largely mixed as lower volume sales weighed on earnings, despite price increases in the period.
For the Oil & Gas companies, the upstream players recorded better earnings, given the sustained rally in oil prices as well as improved production volumes.
We believe investors had largely priced in earnings expectation into trading decisions made in periods leading up to the earnings season, hence the somewhat muted impact on market performance.
2.) Stability in the FX market
Whilst the Apex bank was able to sustain FX liquidity levels in H1:2018 on account of higher oil prices and rising reserves, participation of foreign investors in the domestic bourse, which had hitherto outperformed domestic investors, declined. With the CBN as the major supplier of FX to the market, the fact that the sustainability of FX liquidity was largely hinged on movement in oil prices, investors were more cautious in their outlook on the Nigerian FX market.
Furthermore, the perceived focus of the CBN on “rate stability” as opposed to ensuring efficient market pricing also weighed on sentiment in H1:2018. This is further buttressed by the fact that Foreign investor vs Domestic investor participation in the period stood at 46.9% to 53.1%.
3.) Fund flow dynamics to emerging and frontier markets
Expectedly, the policy normalisation in the developed markets which we predicted would result in foreign capital flow reversal, was evident in H1:2018. The rate hikes by the US fed in H1:2018, already triggered a bout of capital reversals from frontier markets.
Although, available foreign portfolio investment (FPI) numbers for the first half of the year (Jan – April), shows an increase of 1.0% to US$6.3billion from US$6.2billion in H2:2017, if historical trend is anything to go by, we expect to see foreign inflows contract as the 2019 general elections draw closer.
Given the realities of H1:2018, current market sentiment as well as our expectation for the second half of the year, we have revised our call on the market for 2018.
In our analysis, similar to our earlier methodology, we applied a blend of relative valuation in which we benchmarked our market valuation against multiples for peers in the MSCI (Morgan Stanley Capital International) Frontier market index and absolute valuation based on price forecasts for our coverage universe which is about 88.6% of the entire market.
In our scenario analysis, for our relative valuation, we discounted the 6-year CAGR (compound annual growth rate) of the All Share Index (6.7%) for our earnings expectation in the year to arrive at a projected EPS (Earnings Per Share) of N3,604.8 (earlier projection: N3,879.5) in our base case, implying a 5.0% increase from FY:2017.
For our P/E (Price Earnings) projection, we compared average pricing of the Nigerian market against the MSCI Frontier Markets index over the same period to arrive at a P/E of 11.8x as our base case scenario. Accordingly, our relative valuation resulted in an ASI projection of 42,536.85 points for our base case, which implies an 11.2% (earlier projection: +24.5%) increase from 38,243.19 points in the prior year.
For absolute valuation, we also project a positive performance for the broader market, albeit more conservative than our relative projection.
Based on our 12 -month Target Prices (TPs) of our coverage universe, against current prices (27/06/2018), we project an 8.7% increase in market capitalization which translates to an ASI (All Share Index) projection of 41,577.96 points (earlier projection: 40,384.81 points).
The noticeable improvement in our absolute valuation projection for the ASI is largely tied to the fact that despite sustained sell offs in the market in H1:2018 which have dragged prices lower, some of these companies have strong fundamentals.
Finally, we employed a blend of our relative and absolute valuation methodologies with associated probabilities of occurrence.
Hence, we arrived at the following: Bear case (ASI: 39,076.96 points, +2.2%); Base case (ASI: 42,057.42 points, +10.0%); and Bull case (ASI: 45,233.98 points, +18.3%).
Based on current market sentiment, we place a higher probability of 50.0% on our bear case scenario as we expect market performance to remain pressured on the back of capital flow reversals ahead of the 2019 general elections.
Nevertheless, we do not rule out the possibility of positives that could boost sentiment; thus, we place a 30.0% probability on our base case scenario with the most unlikely 20.0% chance of occurrence on our Bull case.
Even though our revised market projection suggests reduced return for 2018, we still expect a positive performance for the year.