July 19, 2019/Cordros Report
According to China’s National Bureau of Statistics, the Chinese economy grew by 6.2% y/y in Q2 2019, slowing down from 6.4% y/y recorded in the prior quarter. The GDP reading was the slowest expansion in 27 years. Dissecting the components, we noted a slower pace of growth across the Manufacturing (-100bps to 5.5% y/y), Construction (-110bps to 5.1% y/y, and Real Estate (-10bps to 2.4% y/y) sectors, respectively. However, we noticed improvements in the Wholesale & Retail, Trade, and Financial intermediation sectors. Going forward, we expect output growth to remain pressured. We identify the combination of the unrelenting US-China trade war and stressed government fiscal position as major headwinds to growth.
Elsewhere, U.S industrial output for the month of June was unchanged from the prior month, due to sluggish global growth and weak demand. Also, the manufacturing industry, which accounts for about 75% of the U.S total industrial output, grew by +0.4% m/m as both durable and non-durable goods indices widened by +0.4% m/m and +0.5% m/m respectively. Similarly, mining output also grew by +0.2% m/m. However, all the aforementioned gains were offset by a 3.6% decline in utilities output. We note that the effect of weaker demand (especially external demand) resulted in slower industrial capacity utilization by 0.2% to 77.9%. In the short to medium term, we believe Industrial production will still face pressures from headwinds relating to Sino-US trade war.
This week, performances in global equities markets across our coverage universe were largely negative, as a blend of continued uncertainty surrounding economic policies, global trade tensions, and geopolitical concerns dampened appetite for risk assets. Evidently, the US (DJIA: -0.2%, S&P: -0.3%), Euro Area (FTSE: +0.0%, Euro Stoxx: -0.4%); and Asia (CSI 300: -0.0%, Nikkei: -0.1%) markets look set to close in the red, as at the time of writing. Meanwhile, even as the Frontier Market index (MSCI FM: -0.6%) closed in the red this week, accommodative monetary policy environments lifted sentiments in the Emerging Markets (MSCI EM: +0.1%), with gains recorded across South Korea (+0.4%), Taiwan (+0.5%) and Brazil (+0.4%).
After two consecutive months of upticks, Nigeria’s headline inflation tapered by 18 bps to 11.22% (Cordros estimate: 11.12%) – the lowest reading since July 2018. In line with our expectations, food inflation declined by 24 bps to 13.56% y/y after two consecutive months of increases, driven by declines across all the sub-indices of the food index – farm produce (-17 bps) and processed foods (159 bps). Similarly, core inflation declined to a 42-months low after moderating by 19bps to 8.84% y/y, on account of lower energy prices and the stable FX. With the absence of risk to general price levels, we expect headline inflation to decline further over the next few months, and forecast July inflation at 11.19% y/y.
Next week, the monetary policy committee (MPC) will meet to discuss the economy after which decision on monetary policy variables will be taken. We expect the majority of the committee’s members to elect to leave policy benchmark (MPR) unchanged, while the status quo should also be maintained on other variables. Although the domestic economic environment appears to support a rate cut with inflation currently below the 12.00% percent level, a level above which the committee believes growth will become pressured, we believe that the committee will remain cautious and focus on its overarching aim of keeping price levels stable. For the rest of year, we see the probability of an additional rate cut as low, given the sizeable OMO bills maturity profile in Q4 19 (c. NGN4.10 trillion) and the potential impact of increasingly less attractive naira assets on capital flows, and by extension the currency and price levels.
In Nigeria, sentiments in the equities market remained weak as the ASI extended losses from the previous weeks after declining by 2.3% w/w, to close at 27,919.5 points. Save for Friday, the ASI closed negative on all trading sessions of the week. Thus, the MtD and YtD losses worsened to 6.8% and 11.2%, respectively. Reviewing by sectors, the Oil & Gas (-5.7%) index was the worst performer, followed closely by the Industrial Goods (-5.2%), Banking (-4.3%), and Insurance (-3.8%) sectors. The Consumer Goods (-9.5%) was flat.
Our outlook for equities in the short to medium term remains conservative, amidst the absence of any catalyst to drive positive market returns.
Money market and fixed income
The overnight lending rate rose to 12.6% – a 971 bps w/w expansion – as the CBN resumed its liquidity mopping activities, taking out NGN75.00 billion from the system via OMO auction. Outflows for FX auctions at both ends of the week also compressed system liquidity, offsetting inflows from matured OMO bills (NGN41.69 billion) and bond coupon payments (NGN106.03 billion).
Next week, inflows totalling NGN157.89 billion — maturing OMO bills (NGN90.07 billion) and bond coupon payment (NGN67.82 billion) will boost system liquidity. However, liquidity mop-up and forex interventions by the CBN are likely to exert upward pressure on the overnight lending rate.
Bullish sentiments were sustained in the Treasury bills market as surplus naira liquidity continued to push local investors into short-dated securities. Consequently, the average yield declined by 63 bps w/w to 10.52%. At this week’s primary market auction, the CBN fully allotted NGN107.05 billion worth of instruments – NGN5.85 billion of the 91DTM, NGN26.60 billion of the 182DTM, and NGN74.60 billion of the 364DTM – at respective stop rates of 9.74% (previously 10.50%), 10.70% (previously 11.70%) and 11.14% (previously 11.91%). Rates declined by 83 bps on average amidst strong demand – NGN473.55 billion total subscription, the highest since 13th March 2019, resulted in bid-to-cover of 4.42x (vs 4.39x at the previous auction)
Yields are expected to be pressured next week, as the CBN is expected to continue its liquidity mop-ups.
Trading in the bond market was similarly bullish as market players (1) reacted to the release of the June Inflation figure (-18 bps to 11.22%), and (2) sought to reinvest NGN106.03 billion in coupon payments during the week. Consequently, the average yield across instruments declined by 18 bps w/w to 13.6%. The yield on the JUL-2021 bond declined the most, falling 58 bps to 12.75%, while the JAN-2022 bond recorded the largest increase in yield of 57 bps to 13.9%.
We expect yields pare further over the short to medium term. This is anchored on our outlook for (1) a sustained moderation in inflation, (2) continued currency stability, (3) relatively high crude oil prices and stable crude oil receipts, and (4) sustained FPI inflows amidst stalled monetary policy normalization in developed markets. At the FGN bond auction scheduled for Wednesday, 24th July 2019, the DMO plans to offer Treasury bonds instruments worth NGN145 billion – NGN40 billion of the APR-2023 (re-opening), NGN50 billion of the APR-2029 (re-opening), and NGN55 billion of the APR-2049 (re-opening) – to investors.
Nigeria’s FX reserves declined by USD20 million to USD45.09 billion this week. Meanwhile, the CBN resumed its FX interventions, selling USD210 million across the different segments of the FX market — USD100million to the wholesale, USD55 million to SMEs, and USD55 million to the Invisibles segments. Consequently, the naira was flat at NGN360.00/USD at the parallel market but depreciated by 0.2% w/w to USD361.62 at the I&E window. Elsewhere, total turnover at the I&E window increased by 76.8% w/w to USD536.53 million with trades executed within the NGN357-362.40/USD band. In the forwards market, the naira appreciated across the 1-month (+1.2% to NGN363.90/USD), 3-month (+0.2% to NGN369.55/USD), 6-month (+0.3% to NGN379.55/USD) and 1-year (+0.4% to NGN403.28/USD) contracts.
Looking ahead, we expect the naira to remain resilient over the short to medium term, as the still elevated crude oil price continues to underpin higher crude oil receipts, thereby supporting the reserves and potential interventions by the CBN.