Q & A Session: African Economic Review and Outlook

CMnAfrica: Retrospectively, in your opinion, what are the significant changes you noticed in African economies during the first half of 2016? 

GADIO SAMIR: Market sentiment towards emerging markets and Sub-Saharan Africa was initially poor in early H1-2016. The oil price fell to new lows in Q1 which reinforced this bearish bias. African Eurobond valuations widened to record highs while foreign interest in local markets was rather subdued. However, risk conditions improved from mid-Q1 and even more in the aftermath of the Brexit vote, as the market now assumed that US and global rates would remain low for longer. Overall, African traded assets have performed well over the period.

On the FX side, the South African rand appreciated on favourable risk conditions while SSA frontier currencies generally remained resilient. The Nigerian authorities finally devalued the NGN and introduced a floating FX regime which is certainly a step forward in rebuilding investor confidence. Given the FX stability experienced over the period, a number of local debt markets (Ghana, Kenya, Uganda) offered decent value either via the carry or duration opportunities. African Eurobonds also had a strong run amid supportive risk conditions; the high-yield issuers generally outperformed more defensive names.

ALAN CAMERON: The biggest challenge for most African economies in the first half of 2016 was the combined effect of low commodity prices and a strong US dollar. After several years of relatively high commodity prices, most economies had calibrated their government spending, their imports and their bank balance sheets to an environment that was no longer close to reality.
The result is that the more commodity dependent economies have seen a significant decline in their growth rates, to the point where we see a two speed Africa. This was the major change. While some economies like Kenya and Tanzania continue to grow at twice the average rate in Sub-Saharan Africa, others like Nigeria and Angola will struggle to even avoid recession.

The difference between the fast-growing cohort and the slow is the composition of that growth: the former is driven to a much greater degree by investment, which is largely decoupled from commodities, and the latter rely much more on exports and consumption, which are linked to commodity revenues. The challenge, therefore, is for raw material exporters to develop more investment-driven models, with participation from both domestic and foreign stakeholders.

CMnAfrica: What do you think will be the biggest potential challenge for African economies in the second half of 2016 and what are the possible impacts on its markets?

GADIO SAMIR: Even though SSA traded assets have been well supported by favourable risk conditions, there has often been a disconnection between this price action and weaker fundamentals. In general, the fiscal and public debt position of African issuers has deteriorated in recent years while oil exporters have also faced wider current account deficits and a slide in FX reserves. This weaker fundamental backdrop may persist in the foreseeable future, especially in the absence of key structural reforms. Another challenge is that global markets may potentially correct later this year if investors decide to take profit and lock in significant gains. But even if this correction were to happen, it is likely that it would generate new attractive re-entry points into SSA Eurobonds, local bonds and FX provided that rates in advanced economies remain low.

In terms of specific markets, further progress towards an IMF deal in Zambia may unlock medium-term duration gains in local bonds. In Nigeria, the key challenge is to restore a more actively traded FX market and ease convertibility risk; on a positive note, naira yields have re-priced significantly lately and look more attractive. We are also constructive on Ghana’s local bonds as we expect the authorities to ease monetary conditions going forward. Uganda and Kenya’s local rates may offer relative value provided that FX risks remain contained. On the Eurobond side, we prefer names that offer decent carry, but have limited idiosyncratic risks and display decent or even improving fundamentals.

ALAN CAMERON: The challenge for the second half of 2016, in our view, will be resisting the temptation to fall back on populist policies. Several countries under our coverage will hold elections, and we see a growing scepticism about the benefits of textbook free market policies. The exceptional strength of US dollar over the past two years has already caused several significant depreciations and devaluations in Africa, with the result that inflation is high and policy rates have been raised in response. At the same time, governments have been under pressure to cut their budgets back as revenues have dwindled. Both monetary and fiscal policy have therefore become pro-cyclical. In many cases, this is translating into popular discontent with governments under pressure to deliver populist gestures.

The problem is that balance sheets are now much more stretched than they were in the last downturn, so the option of financing new expenditure with debt is no longer there to the same degree.

CMnAfrica: To what extent are investors concerned about the ability of African sovereigns to service their debt in current market conditions?

GADIO SAMIR: Even though public debt ratios have deteriorated across the region, the risk of a sovereign default remains relatively low for the time being. This is because foreign currency interest payments are still generally sustainable in most countries while borrowing at commercial terms has only really picked up in recent years.

That said, some countries have seen their public debt levels deteriorate to virtually pre-HIPC levels. In the absence of structural reforms and/or a more supportive commodity cycle, there could be increased risk of debt distress when the African Eurobond redemption and refinancing profile steepens from 2022. FX conditions will also matter for Eurobond investors given the impact they have on public debt ratios.

ALAN CAMERON:  Although headline debt/GDP ratios are not especially high for most African countries, debt servicing ratios are much more stretched. Looking at the countries under our coverage, Egypt, Nigeria and Ghana all spend more than 30% of their revenues servicing debt, and with recent shortfalls these ratios could even get worse. However in most cases the share of their debt that’s held by offshore investors in securitised form is actually relatively small. To take Nigeria as an example, there’s only US$1.5bn of Eurobonds outstanding, which cost just over US$90m annually to service. It’s very hard to imagine a situation that would result in default or restructuring.
The next big maturities are Gabon’s 2017 bonds, but there is only US$161mn outstanding, and Ghana’s 2017s which will likely require new issuance in order to be paid back. In the grand scheme of the African universe, these seem like fairly manageable hurdles to clear, even at a time when the economic fundamentals are weak.

Q & A Panel:
Samir Gadio heads the Africa strategy team, based in London. Samir holds a PhD and MA in Economics from Fordham university and a BSc. in Economics from the Russian Peoples’ Friendship University. He speaks English, French and Russian.

Alan Cameron is an economist in Exotix, and he is responsible for covering a range of African and South Asian Markets including Nigeria, Kenya, Egypt, Sri Lanka, Bangladesh and Vietnam.

This article features in the September edition of INTO AFRICA Magazine, which focuses on reviews of Africa’s economies in the first half of 2016.