Nigeria’s economy has officially entered a recession following two quarters of economic contraction of -2.2% in Q2 and -0.4% in Q1 according to figures from the IIF, which also added that a shortage of foreign currency had contributed to sluggish growth in the country.
Despite the troubling trend, it is unlikely the news will have any substantial impact on investor sentiment regarding the country.
“I do not think that there will be any significant risk off as investors are already aware of the fact that Nigeria is currently going through a difficult economic period,” said Stephen Charangwa, portfolio manager at Aluwani Capital Partners.
Furthermore, a key driver behind the decline – falling oil production, from 2.11 million barrels to 1.69 million barrels in Q12016 – looks likely to begin a reversal in the coming months, meaning there could be some modest recovery in the second half of the year, according to Charangwa.
Despite predicting a contraction of 1% for the whole of 2016, the IIF expects Nigeria’s economy to rebound by 2% next year.
Nigerian local debt is unlikely to be impacted by the subtle risk off coming from the country’s recession, mainly due to the fact that domestic markets are being driven mainly by local sentiment and demand, and, according to Charangwa, are seeing all time low foreign participation. However, there has been some negative impact on Nigeria’s Eurobonds, which are widely held by foreign investors.
“In the Eurobond space, there has been a marginal selloff, albeit on thin volumes, but overall there is not a heavy shift in sentiment. I do not think there was anything that was too surprising about the news of the country’s entry into a recession, credit negative though it is.”
Nevertheless, investor sentiment regarding the country has been affected. The naira is weakening in the parallel markets, and whilst officially trading at 315.499 to the US dollar, is trading at 425 on the black market.
The Central Bank’s bid to exclude several banks from operating in the FX markets has also impacted investor confidence.
“These policies need to be sensitive to the broader macro-picture, or at least contribute to restoring the confidence that investors need to start looking at Nigeria again.”
The main concern for investors is the FX situation, which remains broadly unresolved. Nevertheless, investors are beginning to enter into the market again.
The very few investors dipping their toes back in are overlaying whatever local trades they make, meaning if they decide to go long naira bonds, they will tie that in with a futures contract, allowing them to lock in an FX adjusted yield.
Charangwa added that although there was one significant inflow into the local market last week, many investors will stay on the side lines until there is more efficiency in the FX markets. However, FDI is likely to pick up again, especially for projects that have been on the side lines for a while as stakeholders struggled to manoeuvre around the FX problem.
The story is different for portfolio investors. There could be some movement on the equity side, but for fixed income investors there would need to be a substantial improvement in confidence around Nigerian monetary policy, especially as inflation is on the rise too, which reached 17.1% in July.
Charangwa noted that stronger local support would also increase the confidence of international investors: “Overall, it comes down to the outlook on the naira for foreign investors, so they will be much more cautious in coming back to the market. Unless the situation changes swiftly, such as a benign inflation outlook and growth picks up or efficiency in the FX markets surges significantly, I do not think there will be substantial support from foreign portfolio managers, especially in the local debt markets”.