February 21, 2020/Cordros Report
Japan’s economy is at the brink of a technical recession, as the sales-tax hike and the negative impact of typhoon “Hagibis” plunged the economy into its biggest contraction in five years in Q4 19. Specifically, GDP plummeted by 0.4% y/y (Q3-19: -1.7% y/y). Consumer spending which accounts for 60.0% of the GDP fell by 2.9% y/y after the national sales tax was raised in October to 10.0% from 8.0%. Also, business spending and exports slipped by 3.7% y/y and 0.4% y/y, respectively. For Q1-20, the uncertainty caused by the coronavirus outbreak has cast a shadow over the possible recovery of Japan’s economy. Also, the outlook for domestic consumption looks benign, given the negative ripple effect from the sales-tax hike.
In the US, consumer prices accelerated by 20bps to 2.5% y/y in January 2019 – the highest rate since October 2018 and the 5th consecutive month of increase –, primarily due to the unusually low base in the corresponding period of last year. The surge in inflation was on account of higher housing costs (+10bps to 3.3% y/y) and a significant jump in energy prices (+270bps to 6.3% y/y). Excluding volatile food and energy items, inflation rose slightly by 10bps to 2.3% y/y. Looking ahead, headline inflation is expected to retreat towards the Feds 2.0% target, especially as the low base effect dissipates. Meanwhile, the benchmark interest rate is expected to be kept on hold over 2020, following three rate cuts in 2019.
Stocks across the globe were set to end the week lower on Friday, as investors avoided riskier assets given fears about the global economic impact of the coronavirus outbreak. US (DJIA: -0.6%; S&P: -0.2%) and European (Euro Stoxx: -0.9%; FTSE 100: -0.3%) shares were down at the time of writing. Asian markets were mixed as Japanese (Nikkei 225: -1.3%) investors closed their positions ahead of the 3-day weekend amidst mounting coronavirus cases. Conversely, Chinese (CSI 300: +4.1%) stocks surged as Chinese policymakers vowed to help companies hurt by the fast-spreading outbreak. on expectations of further monetary stimulus to mitigate the impact of the coronavirus epidemic on the global economy. Emerging markets (MSCI EM: -1.0%) and Frontier markets (MSCI FM: -0.5%) were not immune to virus fears, with losses in South Korea (-3.6%) and Kuwait (-0.4%) weighing down the respective indices.
In our December inflation note, we had argued that consumer prices would rise, on account of (1) the sustained border closure, and (2) the unfavourably low base from the prior year. In line with our expectations, headline inflation rose to 12.13% y/y in January 2020 – the highest level since April 2018. The outturn is 15bps higher than the prior month (January: 11.98% y/y) and broadly in line with our estimate (Cordros Research est: 12.12% y/y). On a month-on-month basis, headline inflation increased slightly by 18bps to 0.87%. For February, we expect headline inflation to maintain its upward trajectory, largely on account of continued pressure from food inflation and a low-base driven uptick in core inflation. Hence, we forecast increases in food and core inflation by 12bps and 16bps respectively to 14.96% y/y and 9.51% y/y, respectively. Tying it all together, we expect headline inflation to print 12.30% y/y in February 2020.
According to the Office of the Accountant-General of the Federation (AGF), the balance of the Excess Crude Account (ECA) – the country’s stabilisation fund –, fell by 77.9% m/m to USD71.81 million. The utilization of the funds was not disclosed. However, we note that various administrations have used funds from the ECA for fuel subsidy payments, and augment state government revenue shortfalls, amongst other uses. Despite numerous recommendations by the Monetary Policy Committee (MPC) to the FGN to consider building fiscal buffers that can weather the storm of external shocks, the FGN has continuously depleted the Excess Crude Account (ECA). For a mono-product economy with little to no savings for rainy days, Nigeria is exposed to a downside risk of global crude oil prices declining and/or crude production disruption, especially from the viewpoint of economic growth, inflation, and exchange rate stability. Hence, accountability and transparency, with regards to the management of the oil fund, are needed.
This week, the bears dominated the domestic equities market, amidst continued risk-off sentiments and the absence of positive market catalysts. Consequently, after 4 trading days of losses, the benchmark index dipped by 1.32% w/w to 27,388.62 points. Analysing the performance by sectors, significant losses recorded in the Consumer Goods sector dampened the market performance, after the index plummeted by 6.8%. Also, the Banking (-2.6%), Insurance (-2.1%) and Oil and Gas (-1.28%) indices closed negative. On the flip side, a gain of 1.0% was recorded in the Industrial Goods sector.
Amidst continued weak market sentiments, we advise investors to trade cautiously, taking positions in fundamentally justified stocks.
Money market and fixed income
In line with our expectations, the overnight (OVN) rate expanded by 58bps, w/w, to 3.83%. During the week, the OVN was largely depressed as system liquidity remained buoyant against the backdrop of the significant inflows (NGN1.40 trillion) that came into the system in the prior week and inflows this week from OMO maturities (NGN627.22 billion). However, the rate expanded at the end of the week following outflows from OMO (NGN300.00 billion) and FGN bond (NGN100.00 billion) auctions.
We expect the OVN rate to remain depressed in the coming week, supported by a significant boost to system liquidity from OMO inflows worth NGN927.75 billion on Thursday.
The Treasury bills market remained bullish as the average yield across all instruments contracted by 80bps to 9.4%. This was driven by the OMO segment (average yield: -128bps w/w to 12.0%) of the market given the still buoyant system liquidity. On the other hand, the average yield in the NTB market expanded by 7bps to 3.9% as market participants unloaded instruments in anticipation of the FGN bond auction. There was an OMO auction held during the week, during which the CBN fully allotted instruments worth NGN300.00 billion – NGN10.00 billion of the 89DTM, NGN44.78 billion of the 180DTM and NGN245.21 billion of the 362DTM instruments at respective stop rates of 11.45% (on sale in the prior week), 11.59% (previously 11.60%), and 13.02% (previously 13.04%).
We expect the bullish trend to continue in the Treasury bills market, supported by relatively healthy liquidity.
Trading in the FGN bond secondary market was bullishly, as yields readjusted to the lower PMA stop rates. Consequently, the average yield across instruments contracted by 28bps to close at 9.8%. At the auction, instruments worth NGN140.00 billion were offered to investors through re-openings – 12.75% APR 2023 (Bid-to-offer: 1.7x; Stop rate: 8.7500%), 14.55% APR 2029 (Bid-to-offer: 2.1x; Stop rate: 10.7000%), and 14.80% APR 2049 (Bid-to-offer: 4.5x; Stop rate: 12.1500%). Despite subscriptions across instruments settling at NGN458.20 billion, the DMO eventually allotted instruments worth NGN100.00 billion (excluding an NGN60.00 billion non-competitive allotment), resulting in a bid-cover ratio of 4.6x.
We expect sustained demand next week across the bond yield curve, as market players seek to re-invest excess liquidity from incoming maturities.
As foreign outflows intensified, Nigeria’s FX reserves declined by USD380.2 million WTD to USD36.77 billion (21th Feb 2019), as the CBN maintained its support for the currency via its weekly FX interventions; USD210.00 million was sold across the different segments of the FX market – USD100.00 million to the Wholesale segment, USD55.00 million to the SMEs segment, and USD55.00 million to the Invisibles segment. Consequently, the naira appreciated by 0.1% w/w to NGN364.26/USD at the I&E window but closed flat at NGN360/USD in the parallel market. In the Forwards market, the naira appreciated across the 1-month (+0.2% to NGN365.94/USD), 3-month (+0.5% to NGN368.79/USD), 6-month (+2.3% to NGN373.87/USD) contracts, while the rate on the 1- year (0.1% to NGN392.47/USD) contract appreciated.
Looking ahead, we expect the still healthy foreign reserves to support the CBN’s currency defense over H1-20. Further out, the blend of tighter cash inflows, faster pace of capital repatriation, and possible resurgence of speculative attacks on the naira will force the CBN to throw in the towel in our opinion.