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Africa – more than just about commodities

Eric Kibe, portfolio manager of the Sanlam African Frontier Markets Fund, outlines the case for investment opportunity in Sub-Sahara Africa.

African equity markets

African equity markets have the potential to outperform the broader emerging market asset class.

Africa has traditionally been perceived as an insecure investment case, more closely associated with political risk, with the assumption being that its only prospects are in the commodities that fuel the growth of emerging markets such as India and China.

However, Sub-Sahara Africa (SSA) is showing apparent signs of opportunity, with its own internal growth drivers creating a dynamic that goes beyond natural resources. Despite the adversities the region has faced in previous decades, it is outperforming many developed economies.

Sub-Sahara Africa limped out of the 1970s with its economies struggling under the strains created by the two oil crises of that decade. The second oil shock of 1979 pushed the region into the 1980s, and into a period described as Africa’s lost decade. The ensuing economic crisis resulted in social unrest in many SSA countries, led to political instability and necessitated heavy borrowing. Their debt was exacerbated by the collapse of commodity prices through the 1980s as this further worsened their terms of trade.

The 1990s brought more painful transition, this time from chill winds of change in the form of liberalisation and structural adjustment across the continent. These programmes, championed by the IMF and World Bank, imposed austerity, budget and tax reform, institutional reorganisation and enhancement as necessary planks of reform. In addition to these governance improvements, the democratisation process, that created more transparent politics, improved SSA economic growth rates. Averaging in excess of 6%, this growth surpassed those of the G7 and the Central and Eastern European (CEE) economies, and coupled with these relatively strong macroeconomic fundamentals paved the way for resilient GDP growth throughout the recent financial and economic crisis.

It is against this background that the African opportunity stands out in contrast to the challenges facing several developed economies. The growth headwinds facing the G7 and the CEE countries include fiscal austerity, public finance reform and stronger regulation. In several parts of SSA however, having adapted to these principles, governments came into the crisis with relatively low debt levels, and with public spending capacity to compensate for the private sector’s slowdown. A considerable proportion of this spending, which also manifested in widened fiscal deficits, was on infrastructure and other public goods, while the private sector’s spending was observed in imports of capital and intermediate goods and explains a large percentage of the SSA countries’ current account deficits.

The African frontier markets were, however, crushed by the global financial meltdown. Through 2008 to the end of 2009, the MSCI EFM Africa ex ZA index lost 42.8%, while the MSCI EM and the MSCI World indices were down 26.5% and 20.6%, respectively. After lagging the global and emerging markets recovery in 2009, the African frontier markets have this year outperformed, with the MSCI EFM Africa ex ZA posting 5% YTD to August. The post-crisis rebound in SSA GDP growth illustrates the necessary growth environment to support strengthening corporate fundamentals, with such fundamentals suggesting a positive outlook for returns from the African frontier markets.

As attention turns to emerging market equities, and with the consensus that these will outperform developed markets, a sharper segmentation also suggests that the African frontier markets can potentially deliver sustained outperformance over the broader emerging market asset class. Following the dot com market shake-out, from January 2003 to August 2010, the MSCI World benchmark rose 40.8% compared with 234% of the MSCI EM. In the same period the African frontier markets’ cumulative return was 363.1%.

Kenya‘s recently released 2009 census results showed that two-thirds of its population lives in an urban environment, while the UNDP estimates that 35% of SSA’s population is under the age of 15. Other statistics point to 70% of the SSA’s population being under 30 years of age.

Though relatively small, the young, brand conscious middle class is expanding and the rapid growth of the formal retail and the FMCG industries all indicate investment prospect. Urbanisation and infrastructure development have created greater scope for agri-business players to reap more from the value chain, with conservative commercial banks innovating new ways to tap into the population, a large percentage of which still remains unbanked.

Domestic and regional champions with world-class capabilities have emerged in the SSA private and listed environment to promote greater levels of trade within and between the continent’s trading blocks. This intra-regional trade was crucial in shielding SSA from the full force of the global economic slowdown. As these regional markets develop and deepen, companies see their revenues and profitability expanding on the back of stronger volumes at relatively rich margins.

The growth of mobile telecoms has allowed commerce to flourish in rural Africa, spreading and empowering distribution networks for firms, while the bandwidth revolution is driving convergence of mobile telecoms, banking, and IT, as businesses find new home-grown models.

Africa, however, is not one homogenous country and contradictions abound and challenges endure. Equity markets reflect the peculiarities of the countries in which they operate, with relatively poor liquidity in many markets giving rise to amplified price movements. Most markets are characterised by a high proportion of retail investors, and this increases the degree of unpredictability and instability. Therefore, local knowledge and networks are vital.


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