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The Markets in Review: Markets are Starting to Correlate – Coronation Research

Oct 18, 2022   •   by Coronation Research   •   Source: Coronation   •   eye-icon 266 views

After several months with zero correlation, Nigerian equity and bond markets have begun to trend downward with global markets, especially US markets. 

 

Markets are Starting to Correlate 

After several months with zero correlation, Nigerian equity and bond markets have begun to trend downward with global markets, especially US markets. Recall that in our report, Coronation Research, Global Markets and Nigeria II (22 August ), we showed how Nigerian and US markets had shown no signs of correlation since the beginning of the year - indeed, they seldom correlate In the first half of the year, Nigerian markets rallied on the back of low short-term market yields in Naira and the rally in oil prices while US markets tumbled. By the beginning of the third quarter strong Q2 2022 earnings supported US equity markets, while Q2 earnings failed to lift the equity market in Nigeria. Now both markets are moving in a similar direction.

 

    

 

The reason for this is none other than expectations of further global monetary policy tightening, primarily in the US. Unabating inflation and strong economic data continue to undermine the efforts of the Federal Reserve to slow down the economy. The change in focus away from earnings and towards the Federal Reserve's problems has eroded all the gains from Q2 22 earnings season. The S&P 500 (-16.77%) has made a correction, while the NASDAQ composite (-21.38%) has entered a bear market from their mid-August highs. Year to date the NASDAQ is down 34.03% while the S&P 500 has shed 24.82%. 

 

In September, the US economy added 263,000 jobs, well above market forecasts of 250,000, which points to a tight labour market and pressure on inflation. The US headline consumer price index (CPI) for September came in at 8.2% y/y (versus 8.1% y/y consensus) while core inflation came in at 6.6% y/y (versus 6.5% y/y consensus). These data suggest further policy tightening by the Federal Reserve which arouses fears of an economy going into recession. Year to date, the Fed has raised its policy rate by 300bps keeping the Fed funds rate in a band of 3.00% - 3.25% and markets expect these rates to reach 4.00% - 4.25% by year-end. Consequently, the yield on the US 10-year treasury note has risen above 3.99% for the first time since April 2011 while the yield on the US 2-year treasury note has risen to a 15-year high of 4.47%, bringing the yield curve inversion to - 48bps

 

 

The dynamics of Nigerian markets are remarkably similar. Nigeria's NGX-All Share Index has registered a correction, down 12.05% from its 27 May high. Bearish sentiment reflects the implication of interest rate hikes and the pass-through to Naira fixed income yields. Across the curve, secondary market yields have risen by an average of 220bps between 1 January 2022 and 14 October 2022. 

 

As the Q3 2022 earning season begins, analysts expect aggregate annual S&P earnings growth of 2.8%, which is well below the 5-year average of 8.7%. There are expectations of some short-term support for US equity markets as at least some companies are likely to to show resilience in the face of high rates and high inflation. Nonetheless, in the light of stubborn US inflation, the likelihood of rate hikes and the possibility of a US recession, we cannot discount the possibility that US equity markets will continue to be under pressure. In fact, this seems to us to be the most likely outcome. 

 

For Nigeria, our view remains that continued policy tightening by the monetary authorities and elevated Federal Government domestic borrowing will continue to drive yields upward over the coming months amidst global monetary policy normalisation this year. Nonetheless, Q3 2022 results are also due to be released in the course of the month. These may give a degree of support to the market though we remain fundamentally cautious about Nigerian equities for the rest of this year, given the upwards trajectory of market interest rates

 

FX

Last week, the exchange rate at the Investors and Exporters Window (I&E Window) lost 0.50% w/w to close at N441.38/US$1. Elsewhere, the foreign exchange (FX) reserves of the Central Bank of Nigeria (CBN) decreased by 0.44% to US$37.91bn, a five-week low, as the CBN continues interventions across the various FX windows. 

 

The FX reserve position remains close to its historic high, and we doubt that the CBN wishes to see the exchange rate slip this year. Therefore, we believe that the current I&E Window rate, or something very close to it, can be maintained for at least several months.

 

Bonds & T-bills

Last week, trading in the Federal Government of Nigeria (FGN) bond secondary market was bearish following mixed reaction to the debt restructuring comments made by the Finance Minister. As a result, the average benchmark yield for bonds rose 22bps to close at 13.74%. Across the curve, the yields on the 7-year (+53bps to 13.82%) and 10-year (+45bps to 14.11%) bonds expanded, while the yield on the 3-year (-33bps to 13.75%) bond declined. At the FGN bond auction today, the Debt Management Office (DMO) is expected to offer N225.00bn (US$509.76m) across the April 2029, April 2032 and April 2037 bond maturities. Our view remains that the combination of thin system liquidity and elevated Federal Government domestic borrowing will continue to drive yields upwards overthe coming months. 

 

Activity in the Treasury Bill (T-Bill) secondary market was mixed, albeit with a bullish tilt as investors sought to recover lost bids at the T-bill auction. The average yield for T-bills fell by a marginal 1bp to 7.31%. The yield on the 335-day T-bill compressed by 2bp to close at 9.00%. At the T-bill primary auction, the DMO allotted N34.82bn (US$78.88m) worth of bills. The auction recorded a total subscription of N111.94bn, implying a bid-to-cover ratio of 3.21x (vs 1.90x average of the past auctions). Consequently, stop rates across the 182- day (+40bps to 7.90%) and 364-day (+100bps to 13.00%, implying a 14.94% yield) bills rose, while the stop rate on the 91-day (-2bps to 6.47%) compressed. Elsewhere, the average yield for secondary market OMO bills fell by 2bps to 10.27%; the yield on the 200-day OMO bill fell by 3bps to 11.06%.

 

Oil

Last week, the price of Brent ended two consecutive weekly gains, losing 6.42% w/w to settle at US$91.63/bbl, the lowest since 4 October. Nonetheless, Brent is up 17.81% yearto-date and has traded at an average of US$102.08/bbl, 44.00% higher than the average of US$70.89/bbl in 2021. 

 

Oil prices ended the week lower driven by heightened recession fears following the higher-than expected US Consumer Price Index (CPI) data at 8.2% y/y for September (versus the consensus forecast of 8.1% y/y), bolstering the case for continued tightening in monetary policy. In addition, an increase in crude Inventories of circa 10.0mb contributed to the bear run. Elsewhere, the Organisation of the Petroleum Exporting Countries (OPEC) cut its demand growth forecasts for 2022 to 2.64mbpd and 2023 to 2.34mbpd owing to global monetary tightening and ongoing supply challenges. Our view is that prospects of further OPEC+ production cuts and a price cap on Russian crude pose upside for oil prices for the rest of the year. Hence, we maintain that prices are likely to remain well above the US$73.00/bbl set in Nigeria’s government budget

 

Equities

Last week, the NGX All-Share Index gained by 0.46 w/w to settle at 47,569.04 points. Consequently, its year-to-date return rose to 11.36%. Honeywell Flour Mills Plc (+8.84%), BUA Cement Plc (+8.65%) and Guaranty Trust Holding Company Plc (+5.29%) closed positive, while Geregu Power Plc (-9.02), Cadbury Nigeria Plc (-6.94%) and International Breweries Plc (-5.26%) closed negative. Performances across the NGX sub-indices were broadly positive as the NGX Industrial Goods (+3.17%), NGX Banking (+1.93%), NGX Insurance (+1.72%), NGX-30 (+0.65%) and NGX Pension (-0.38%), indices closed higher while NGX Oil and Gas (-2.13%) and NGX Consumer Goods (-0.74%) declined. The Model Equity Portfolio will be back next week.

 



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