African Equity Markets - Aspirant Attractive Markets - May 2009

Africa
Aspirant attractive emerging markets
Olivier M. Lumenganeso
Economist and Emerging Market Strategist
May 2009
Key takeaways
¾ The continent has been usually disregarded by international investors.

Outsiders still perceive Africa as a continent in decline, ravaged by wars, disease, famine, authoritarian governments, etc.
¾ Most recently, however, African equity markets have enjoyed a noteworthy revival due to
recovering and encouraging macroeconomic fundamentals;
commodity boom and the continent’s huge commodity potential;
spreading equity culture evidenced by the rising traded volumes on these markets;
significant and positive lasting changes undergone by the political landscape;
very low correlation coefficients with global equity markets, offering very powerful opportunities for reducing portfolio
risk and volatility.
¾ Despite this increase, the average capitalization (excluding more active markets such as South Africa and
Egypt) is very low compared to most emerging markets.
markets
Market liquidity is also low, with lower turnover ratio.
Lower liquidity implies lower volumes and greater difficulty to support local markets with own trading system, market
analysis, and brokers.
¾Although immature (for some of them),
them) Africa
Africa’ss stock markets have performed significantly over the last
decade.
Studies show that the region’s stock markets have begun to help finance the growth of African companies.
Further development, nevertheless, is required to offer broader economic benefits (boosting domestic savings and
i
increasing
i ththe quantity
tit andd quality
lit off investment).
i t t)
¾ Agenda: the continent needs to
promote sound macroeconomic policies and investment climate;
establish transparent and accountable institutions as well as well-developed banking system;
improve adequate shareholder protection.
Africa: asprirant attractive markets 2
Persistent clichés
truth and reality
A continent forgotten …
… but not unknown
¾ Second largest continent on the planet, the continent has a total land mass of about 30.7 million km2 (20.2% of the Earth’s
land surface), a coastline of 30,539 km, and a population of 877,500,000 (2006).
It includes 53 individual countries, grouped into 5 sub-regions: North Africa (5), West Africa (16), Central Africa (12),
East Africa (10), and Southern Africa (10).
¾According to some observers, today’s messy situation on the continent began in 1881, with the attempts by different
European nations to colonize Africa. Africa: asprirant attractive markets 4
A continent of poor people …
… living in poverty …
¾The average GDP is USD 49 bn at PPP (2007 estimates).

¾ The median GDP(PPP) is USD 15 bn.
Excluding South Africa,
Africa the average falls to USD 41 bn.
bn
South Africa itself has a GDP (PPP) of USD 468 bn,
followed by Egypt with USD 431 bn, and Nigeria USD 295 bn.
¾ Most of Sub-Saharan Africa is in the World Bank's lowest income
category of less than USD 765 Gross National Income (GNI) per
person per year.
Ethiopia and Burundi are the worst off, with just USD 90 GNI
per person.
Even middle
middle-income
income countries like Gabon and Botswana
have sizeable sections of the population living in poverty.
¾ North Africa is generally faring better than Sub-Saharan Africa.
Here, the economies are more stable, trade and tourism are
relatively high.
high
An assisted and indebted continent …
… an economic tragedy
g y …
¾ Africa receives about a third of the total aid given by governments around the world, according to the Organization
for Economic Cooperation and Development.
The Heavily Indebted Poor Countries initiative (HIPC) was set up in 1996 to reduce the debt of the poorest
countries.
9Poor countries are eligible for the scheme if they face unsustainable debt (that cannot be reduced by
traditional methods). They also have to agree to follow certain policies of good governance as defined by
the World Bank and the IMF. Africa: asprirant attractive markets 6
An affected continent …
… by natural disasters …
¾Natural disasters are recurrent in number and frequency, and affect most countries in Africa.
The graphic shows the amounts of people, in millions, who were affected by drought, by famine, by flood
and by epidemics related to (natural) disasters in Africa over the period 1971 to 2001.
An affected continent …
… and health tragedies …
¾The continent is widely affected by AIDS. The overall rate of infection among adults in Sub-Saharan Africa is about 7%,
compared with 1% worldwide, according to the UN.
Ten countries in Southern Africa have infection rates above 10% and account for 30% of infected adults worldwide.
¾Also, on the continent, malaria kills a million children each year.
An continent of instability …
… affected by political tensions
tensions, (civil) wars
wars, and corruption …
A rich continent, full of natural resources …
… but low value of trade
¾Africa is rich in natural resources such as minerals, timber and oil, but trade with the rest of the world is often difficult.
Before the storm …
Unprecedented economic boom
Better economic performance in the recent past …
… in tandem with the rest of the world
¾ After many years of economic stagnation, and at times even

decline, Africa has experiencing an economic resurgence over
the last decade.
Real GDP growth picked up from a disappointingly
low rate of around 2% in the 1990s to around 33-4.5%
4.5% in
the early years of this decade, before rising to more
than 5.5% in 2004-2006.
¾ The recent growth performance has been very strong from a
historical ppoint of view.
Favorable macroeconomic policies
Controlled aggregate inflation
¾In aggregate, Africa has made significant advances in controlling inflation.

Inflation has fallen from 18.8% on average (GDP-weighted) in the 1980s to 6.2% for 2008e, according to IMF.
¾There are large differences between countries.
In fragile countries,
countries average inflation remains high
high.
In oil-exporting countries average inflation is expected to fall further, partly reflecting stabilization gains.
Improved fiscal balance
¾Compared with the 1970s, many governments in Africa have

shown a more prudent fiscal approach to the commodity price
boom in recent years.
years
In sum, the African fiscal position has improved from
a deficit of 2.7% of GDP at the start of the decade to a
1.9% surplus estimated for this year by the IMF.
¾The key driver has been better revenues for the oil exporting
countries. . .
Stronger external balances …
… with improving capital flows and FDI
¾The regional current account position has also shown considerable

improvement over the last seven years.
years
Over the 1980s and 1990s, Africa averaged a deficit of 2.6% of GDP.
¾Annual net FDI into Africa averaged USD 2.4 bn through the
1980s and 1990s, but in 2007 it came in at over 10x that amount at
USD 27
27.11 bn
bn.
Relative to GDP, net FDI into Africa is now the second-highest among the
emerging market regions.
¾ FDI inflows continue to be directed mainly into extractive
industries:
The IMF estimates that 70% of the gross direct investment flows to Sub-
Saharan Africa in 2006 went to oil exporters (Angola, Equatorial Guinea and
Nigeria).
Lower debt burdens
¾Most African countries have seen a significant reduction in

their debt burdens in recent years.
The drop in the debt burden was partly due to the
improved macroeconomic situation, above all in the
resource-rich
resource rich countries.
¾At the same time, many of the poorest countries in Africa
benefited significantly from the Heavily Indebted Poor
Countries (HIPC) and the Multilateral Debt Relief Initiative
pprojects,
j , two important
p international initiatives that aimed at
reducing the debt burden of the world’s poorest countries.
Sub-Saharan Africa has been catching up …
… with rising private capital flows and FDI
Building a potential client network 17
Main macro risks …
Too vulnerable to external shocks
¾The high prices of resources in recent years have no doubt contributed to

higher growth rates.
With the commodityy boom, investors were attracted to the region
g to
take advantage of the continent’s huge commodity potential.
¾In the past, however, when commodity prices were high (particularly for
oil), governments started to spend more than their economies could absorb.
And when commodityy pprices fell, the non-resource sectors failed to revive.
During the storm
Africa has hardly managed recent economic turmoils …
¾Note that the continent experiences a dual commodity shocks: a supply

and a demand shock.
The commodity exporting sector is the main channel through
which the actual crisis is hitting the region.
¾Thanks to better policy frameworks, significant international reserves,
African countries have hardly build a cushion in case of adversity.
During the storm
… but hard-won gains at risk with the current crisis
¾However, relatively weak financial linkages with advanced economies have not shielded African countries from the global
economic storm.
The main shock buffeting the continent is severe deterioration in external growth, which is reducing demand for
African exports and curtailing workers’
workers remittances
remittances.
¾ The sharp fall in commodity prices is also hitting the resource-rich countries in the region hard.
¾Moreover, the tightening of global credit conditions is reducing FDI and reversing portfolio flows, especially to emerging and
frontier markets.
¾These external shocks are causing a severe slowdown in economic activity
activity.
Source: IMF. PDI: private direct investment; PPF: private portfolio flows; OPCF: other private capital flows; OF: official flows.
African equity markets
The “new
new frontiers
frontiers”
African stock markets join global boom …
… aspiring next attractive emerging markets
Bourse Regionale Des Valeurs Mobilieres (BRVM). The BRVM is based in Abidjan, Cote D’Ivoire for Francophone
¾Only recently have Africa's financial markets attracted
West Africa and includes listed equities based in eight countries: Benin, Burkina Faso, Cote D’Ivoire, Mali, Niger, significant interest from institutional investors.
Senegal, Togo and Guinea Bissau. At the end of 2006, these 17 equity markets (including the regional BRVM
bourse) had a total market capitalization of USD 201.6bn, a CAGR of 22.9% since 2000 (USD 58.6bn). Just as first-generation emerging markets
welcomed institutional investors to their equity
q y
markets, African countries are doing so now.
Capital market structure
Who is trading what?
¾African equity market capitalization was about 20% of GDP in 2005, comparable to the level reached by ASEAN in
the late 1980s.
1980s
By 2007, Africa's equity market capitalization had surged to over 60 % of GDP.
Debt trading booms
¾ Coincident with this strong commodity export and FDI momentum, Africa has also benefited from serial foreign debt relief.
Most of Africa
Africa’ss debt relief was concluded in 2006.
¾ Africa's domestic bond markets are attracting interest in a way not seen in first-generation emerging markets.
Debt relief has facilitated sovereign risk ratings of African countries by the three major rating agencies,
especially S&P and Fitch, being sought and concluded.
While these ratings tend to be clustered at the low end of the sub
sub-investment
investment grade scale, they provide the starting
point for a cross-country and continental comparison of relative risk.
Debt trading booms
¾Trading of domestic and foreign debt in the international
markets has accelerated rapidly.
E
Emerging i M Markets
k t TTraders
d A Association
i ti ddatat show
h
that trading in Africa's debt markets (excluding South
Africa) more than tripled in 2007, reaching about
USD12 bn.
¾Ni i as th
¾Nigeria, the largest
l t country
t ini this
thi group, dominates
d i t the th
trade.
During 2005–06, Nigeria received Paris Club debt
relief and bought back much of the remainder of its
e ternal debt.
external debt
9Since then, trade in Nigerian debt has been
mainly in domestic issues.
Nigerian debt trading ranked 21st globally at the end
of 2007.
2007 This is equal to or exceeds many first-
first
generation emerging markets.
Using a variety of investment vehicles, Nigeria's
banks raised about USD 12 bn in capital over 2006–
07 much of it from offshore investors
07, investors.
¾Ghana successfully entered the international capital market in September 2007 by issuing a USD 750 mn bond issue.
It was more than four times oversubscribed; total bids exceeded USD 3.2 bn.
¾Gabon followed in December with a USD 1 bn bond issue to repay Paris Club debt.
The terms were similar to those for Ghana.
African equity markets are small with few listed companies
¾Egypt,t Ni
¾E Nigeria,
i S South
th Africa
Af i andd Zimbabwe
Zi b b are the th exceptions,
ti with
ith respectively
ti l 792,
792 207
207, 403 andd 79 companies i lilisted.
t d
The average number of listed companies on Sub-Saharan African markets, excluding South Africa, is 39, compared
with 113 if Egypt and South Africa are included.
Market capitalization as a % of GDP is as low as 1.4 in Uganda.
TheTh Johannesburg
J h b Securities
S iti EExchange
h iin South
S th Africa
Af i has
h about
b t 90% off the
th combined
bi d marketk t capitalization
it li ti off theth
entire continent.
Lack of liquidity limits foreign participation
¾Low liquidity remains the main obstacle to foreign

participation in the local equity markets.
It is true that most African markets on
average trade less than USD 5 mn a day.
¾ South Africa is the largest and most liquid market,
market
with an average traded value of USD 1.1 bn in 2007.
Performance has been strong …
… until recently …
Source: UBS, S&P.
While 2008 was a nightmare,
nightmare 2009 sees a new revival
The S&P Africa 40 index provides exposure to 40 of the largest, most liquid companies that operate purely in Africa. To provide broad exposure across several African countries,
the index limits the number of companies from any single country to eight and includes developed market listings of companies domiciled in Africa or that have the majority of their
assets and operations in Africa.
… though African equities are expensive
Source: UBS, S&P.
What drives performance?
A pure commodity play,
play less correlated with the world
¾High commodity prices and, to a lesser extent, better

macroeconomic policies have been behind the strong equity
performance.
¾Since 2004,, Sub-Saharan African

equities have even been negatively
correlated with emerging markets!
¾North African countries, Egypt and
Morocco, due to their inclusion in the S&P
Emerging Markets Index, however
show a stronger relationship with other
mature emerging equities.
g g market funds that can pplayy African markets directlyy will reapp the
¾Emerging
benefits of diversification.
Agenda
Better perspectives?
Any economic rebound just after the storm?
2009 will be hard and the risk is tilted to the downside
¾For the region as a whole, growth is projected to decline
from 5¼ in 2008 to 2% in 2009.
On average, the downturn is most pronounced in oil-
exporting countries (Angola, Equatorial Guinea) and in
key emerging and frontier markets (Botswana,
Mauritius, South Africa).
¾ Capital
C it l outflows
tfl are fforcing
i a sharp
h adjustment
dj t t iin assett
prices (mainly in equity, bond, and currency markets) and
in real activity.
¾ The deep downturn in economic activity across the
region
i andd ththe sharp
h ddecline
li iin ffoodd andd ffuell prices
i will
ill
temper inflation pressures.
Nevertheless, for the region as a whole, inflation is
projected to decrease only gradually from 10% in 2008
to 9% in 2009,
2009 since the pass-through
pass through of commodity
price changes to consumer prices is more limited.
¾Fiscal and external balances are expected to deteriorate
substantially.
As commodity
commodity-based
based revenues drop,
drop the overall fiscal
position of the region is projected to deteriorate (by
about 5¾ % points) to a deficit of 4½ % of GDP in 2009.
The current account balance of the region is also
projected to worsen, from a surplus of 1% in 2008 to a
deficit of 6½% of GDP in 2009.
Source: IMF.
Political stability
Nascent democraties
Economic freedom
There seems to be some progress in this respect
¾It is still difficult to do business with the continent, particularly with more fragile African countries.
Closing the gap in infrastructure
Some progress to be done in this respect
¾According to the World Bank, Sub-Saharan Africa lags behind the average of International Development Association
countries on almost all major infrastructure.
¾The region’s
region s unmet infrastructure needs are estimated at USD 22 bn a year (5% of GDP)
GDP), plus another USD 17 bn for
operations and maintenance.
Conclusion and agenda: the rise of “new frontiers”
¾Following the global surge in world stock markets overt the few
decades, African financial markets have also started to take off.
¾But, with some exceptions, African financial markets remain smaller,
less sophisticated and illiquid than those in the more advanced
emerging markets.
They qualified, however, to become part of the second generation
of emerging market, the so-called “frontier markets”.
¾As agenda,
g for the region
g to ggarner broader economic benefits from
financial markets, they need to
promote sound macroeconomic policies and investment
climate;
establish transparent and accountable institutions as well as
well-developed banking system;
improve adequate shareholder protection.
¾Successful emerging market countries feature the private sector as
the engine of growth.
African countries,
countries with developing financial markets have attracted
more international private and institutional capital.
9Studies show that, in these countries, stock markets become an
important source of long-term external financing.
But, institutional investors want to have confidence that policy will
But
continue to support private sector development and that private
property rights will be protected.
9 Africa generally fares poorly in measures of the attractiveness
of the business environment.
9 Stronger performance in this area is likely to be well
rewarded with additional investment.
Annex
Who’s who in Africa: a scorecard at glance
African equity performance
African equity performance
Selected statistics
Selected statistics
Source: IMF.
Selected statistics
Source: IMF.
Selected statistics
Source: IMF.
Selected statistics
Sub-Saharan Africa has been catching up
Export performance and terms of trade
¾A good proxy for the impact a country is enjoying or
suffering as a result of changing world market prices of
resources and other goods are the “terms of trade” (ToT).
The terms of trade are measured as the ratio of
(weighted) export prices to (weighted) import
prices of a country.
9A rise, i.e. an improvement, in the terms of trade
means that for each unit of exports, a country will
have to pay less for imports (or alternatively, for
each unit of imports a country needs to export
less).
)
¾The IMF database provides ToT data for 48 African
countries.
21 countries (44%) had experienced an
improvement
p in their ToT between 2006 and the
average of 1997-2001, while 27 countries had
suffered a deterioration.
The simple average of the group of 48 countries
has seen a ToT improvement
p of around 10.9%.
However, the median of the sample shows a
deterioration of 10.3%.
9This means that the average improvement of
10.9% was dominated by a small number of oil-
exporting
ti countries
t i which
hi h saw very sharp
h
improvements in their ToT.
FDI in Africa
¾Net foreign direct investment has picked up.up

¾Annual net FDI into Africa averaged USD 2.4 bn through the
1980s and 1990s, but in 2007 it came in at over 10x that
amount at USD 27.1 bn.
Relative to GDP,
GDP net FDI into Africa is now the
second-highest among the emerging market regions.
¾FDI inflows continue to be directed mainly into extractive
industries.
The IMF estimates that 70% of the gross direct
investment flows to Sub-Saharan Africa in 2006 went
to oil exporters Angola, Equatorial Guinea and Nigeria.
¾The Asian contribution to Africa’s FDI has picked up.
Traditionally FDI flows from developing Asia to
Traditionally,
Africa were mainly from the Asian newly industrializing
economies (Hong Kong, Korea, Singapore and
Taiwan).
More recently
recently, China and India have become more
significant sources.
Private capital flows
¾In Sub-Saharan Africa, private capital inflows have risen

rapidly in recent years, particularly to South Africa and Nigeria,
reflecting the favorable global environment and foreign
investment in natural resource production.
Although private capital flows to Sub-Saharan Africa
are still dwarfed by those to regions such as Asia, they
have nonetheless tripled since 2003.
¾In 2006, total gross private flows amounted to about USD 45
bn, almost 6% of GDP, compared with about USD 9 bn in 2000.
¾Since mid-2005, private foreign investors have been acquiring
government debt in local currencies, particularly in Botswana,
Kenya, Malawi, and Nigeria.
This surge reflects improved domestic fundamentals in
recipient countries as well as the favorable global
economic environment.
Foreign reserves and external debt
¾In aggregate terms, total African FX reserves increased from

less than USD 50 bn in the mid-1990s to USD 100 bn in 2002,
before rising exponentially to more than USD 300 bn by end-2006.
¾A relativelyy large
g majority
j y of 41 out of 46 countries ((for which
data is available) managed to increase the U.S. dollar value of
their reserves since 2003 – a development that was also
influenced by the decline of the U.S. dollar since 2001.
Top export product by country
Source: OECD
China as the superpower?
¾Note that China

China’ss trade in Africa reached some USD 50 bn in 2006,
2006 boosting growth rates on the continent and spurring
much needed infrastructure improvements.
¾Also, Asian contribution to Africa’s FDI has picked up.
Traditionally, FDI flows from developing Asia to Africa were mainly from the Asian newly industrializing economies (Hong Kong, Korea, Singapore and
) More recently,
Taiwan). y, China and India have become more significant
g sources.
¾Many African countries view Chinese investment as an opportunity and welcome Beijing’s “strictly business” policy of
noninterference in domestic affairs.
Corruption perception index

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Africa

Aspirant attractive emerging markets

¾ The continent has been usually disregarded by international investors.

¾The average GDP is USD 49 bn at PPP (2007 estimates).

¾ After many years of economic stagnation, and at times even

¾In aggregate, Africa has made significant advances in controlling inflation.

¾Compared with the 1970s, many governments in Africa have

¾The regional current account position has also shown considerable

¾Most African countries have seen a significant reduction in

¾The high prices of resources in recent years have no doubt contributed to

¾Note that the continent experiences a dual commodity shocks: a supply

¾Low liquidity remains the main obstacle to foreign

Source: UBS, S&P.

Source: UBS, S&P.

¾High commodity prices and, to a lesser extent, better

¾Since 2004,, Sub-Saharan African

¾Net foreign direct investment has picked up.up

¾In Sub-Saharan Africa, private capital inflows have risen

¾In aggregate terms, total African FX reserves increased from

¾Note that China

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