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OUTLOOK FOR 2017
NIGERIA AND THE
NEW ECONOMIC REALITY
12/13/2016
By Bismarck Rewane
CEO, Financial Derivatives Company Ltd.
13 December 2016
Nigeria’s Economic R ecov ery
We have to run faster to stand still
Oliver Wyman
Ou tline
Economic Snapshot
The New Global Order
Outlook for 2017: Indicators, Proxies & Markets
Impact on the Economy
Policy Response: Choices & Actions
Political Imponderables
Combative Regulation: A Constraint to Investment
Economic Snapshot
Diag n os tic S n ap shot - Decemb er 2016
LEADING INDICATORS
Data point Direction
Oil Prices
Oil Production
CBN PMI FAAC Allocation
Revenue
$53.72pb
1.6mbpd
46.40
N410bn
Source: EIU
Indicators
Diagnos tic Snap shot - December 2016
COINCIDENTAL INDICATORS
Data Point Direction
Exchange Rate (Parallel)
T-bills (91 days)
MPR
LAGGING INDICATORS
N485/$
14.49%
14%
Source: EIU
Indicators
GDP (Q3’16)
External Reserves
Vacancy Factor
-2.24%
$24.96bn
Commercial : 34%
Residential : 49%
Commodity Boom
Slow down
Stagflation Recession
Slow Recovery
Sharp Recovery
Pat h to R ecov ery
Slow but difficult
Things t hat w ill change slow ly
Rent Seeking Structure Imperfect Markets Crony Capitalism
The New Global Order
Uncertainty and Irrationality
Ne w World Order in 2017
GEOGRAPHIC
CONTAINMENT
PRE-EMPTIVE
ACTION
ISOLATIONISM CO-OPETITION
LIBERALISM NEO-
CONSERVATIVE
UNPREDICTABLE &
ABERRATIONAL
Ne w World Order in 2017
t he good, t he bad and t he dou btf u l
United Kingdom
Russia
South Africa
Venezuela
USA
Nigeria
Ne w World Order in 2017
o Global shift in power (producers to consumers)
o Globalization to isolationism
o Rural anger vs. urban indolence
o Bigger markets giving way to efficient markets
o Bilateral trade superseding multilateral trade
o Swiftly changing regional patterns in SSA
o Regional integration will be on hold
US on t he R ebou nd
2017 OECD (%) IMF (%) Fitch (%)
Growth 2.3 2.2 2.2
o Trump’s expansionary fiscal stance will encourage US growth
o Proposed tax cuts and heavy infrastructure spend will boost private consumption
o Fastest growth in healthcare and construction
o Unemployment: 4.6% from 4.9% in 2016
o Inflation to rise to 2% from 1.3% in 2016
o Fed interest rates 1% from 0.5% in 2016
Eu rope - growt h forecas ts
2017 OECD (%) IMF (%) EU (%)
Growth 1.7 1.5 1.5
Inflation 1.2 1.3 1.4
o Brexit will threaten legitimacy of EU
o Rise in anti-European sentiment
o Immigration and security concerns
o Strong core of presidential campaigns in Netherlands, France and Germany
UK - R ecession Fears on Uncertainty
o Britain to expand by 1.4%
o Growth forecast slashed from 2.2% in March
o Driven by orderly Brexit, strong borrowing and investment plan and
retention of strong trade connections
o Yet, Brexit will drive unemployment to 5.8% from 4.9% in 2016
ASIA
o Asian development bank forecasts 5.7% growth for Asia in 2017
o Expansion is expected to be primarily driven by India at 7.8% in 2017
o China remains a risk factor for the region
o Growth to slow to 6.4% in 2017
o Japan expected to grow 1%
o Bank of Japan (BOJ ) to continue its easing policy till inflation is above 2% in 2018
SSA
o SA Central bank forecasts GDP growth of 1.2% in 2017
o Fitch Rating revises South Africa’s outlook to negative from stable
o Default rating of ‘BBB’ for all long-term foreign and local currency IDRs
o Inflation to rise to 6.1% in 2017
o Elections in Kenya have proven to be a systematic threat to the
economy
o Growth to reach 6% in 2017
Outlook for 2017
Indicators, Proxies and Markets
Commodities
Oil
• U.S. oil consumption growth to decelerate in 2017
• European demand will retreat in 2017/18
• China’s demand growth to slow down sharply
• Price target of $60pb (downside of $40pb and upside of $70pb)
Liquefied Natural Gas
• Usage to expand rapidly
• Surge in price of major substitute - coal
Commodities
Cocoa
• Currently trading at a 3 year low around $2200/tonnes
• Prices reversed bullish trend due to improved supply in Ivory Coast &
Ghana
• Favourable weather conditions in West Africa to ease pressure on prices
Commodities
Rubber
• Prices will continue to rise slowly in 2017
• From $1,691/tonne in 2016 to $1,860 in 2017
• Robust growth & vehicle production in India
Palm Oil
• Prices to fall to $676.7/tonne in 2017 from $690.1/tonne in 2016
• Stocks to recover on improving yields
• China demand hindered by competitive soybean oil
Commodities
Wheat
• Prices likely to remain weak in the near term
• Target price of $195/tonnes down from $197/tonnes
• Food use of wheat to expand
Sugar
•Prices will increase by 16.9% to $21.6/pound
•Expected to trade horizontally as lower import demand from China
offsets tight supplies
•Recent heavy rains in Brazil remains a threat to 2016 crop harvests
o Will Nigeria accept private sector participation & leadership?
o Oil & gas
o JVs & refineries
o Railways, roads & ports
o Will the markets be allowed to be efficient?
o In pricing and allocation of resources
o Subsidy elimination or not??
o Will Nigeria eat the humble pie and accept an IMF program?
Qu es tions t hat Need Sincere Answ ers
o Will Nigeria accept and adopt an aggressive borrowing plan to address:
o Infrastructure gap: $360bn
o Debt service burden:N1.36trn
o Trade gap: -$2.9bn
o Budget Deficit: N2.2trn
o Will Nigeria accept to be a collaborative rather than a combative
regulatory environment?
o Will Nigeria accept a low tax but high revenue market?
Qu es tions t hat Need Sincere Answ ers
o Will Nigeria be able to contain and combat or constructively engage
the Niger Delta militants?
o And its impact on oil production, revenue and government expenditure and deficit
o How will the engagement of Boko Haram and Islamic
fundamentalists in the North East & North Central progress?
o Both zones make up 28% of the population
Qu es tions t hat Need Sincere Answ ers
The Ne w Economic R eality
o 2017 will be a make or break year for Nigeria
2011 2012 2013 2014 2015 *2016 *2017
GDP Growth (%)
Nigeria Ethiopia Ivory coast
Source: NBS, *: EIU, FDC Think Tank
The Ne w Economic R eality
o Growth is and will be a function of oil output and market efficiency
o Commodity windfall and shortfalls will catalyze or suppress growth
o Oil sector output will go from -22% to 5% in 2017
o Corruption, waste and inefficiency will remain a drag on government
expenditure
o Meaning sub optimality in output and national income
o Real GDP will continue to underperform
The Ne w Economic R eality
o Labor productivity will be boosted by :
o Increased power supply (from national grid and alternative electricity e.g. solar power)
o Technology and internet penetration
o ICT investments to increase in 2017
2012 2013 2014 2015 2016 2017 2018
Labour Productivity Growth (%) GDP Growth (%)
Labor Productivity vs. GDP Growth
Source: NBS, EIU
More lik ely macro -economic
scenario
o Policy reform in the oil sector
o New JV cash call alternative arrangement will unlock $6 billion of cash
o Reduce production interruption
o Eurobond of $1 billion will take at least 3 months to close
o AfDB – final tranche of $400m and likely $1bn
o World Bank concessionary: $2bn inflow
o Exports: $40bn
o Remittances: $22bn
o Others: $11
o Total: $73bn
More lik ely macro -economic
scenario
o Liberalized currency regime will push naira towards
o T1 – N400 (IFEM), N430 – N450 (parallel)
o T2 – N380 (IFEM), N420 (parallel)
o Interest rates: 14% pa (T/bills), 13% (MPR)
o Inflation: 20%
o Government spending: 30%
o Supplementary budget: 20%
o Deficit: N3.1trn from N2.3trn
Impact on the Economy
Imp act of Ne w R eality
o Expenditure on road and rail will reduce distribution expense
o Companies spend up to 40% of revenues on distributing their products
o Petrol pump price is likely to increase
o Due to forex depreciation
o Rise in global oil price
o Subsidies could be reinstated
Impact of Ne w R eality
o Minimum wage likely to be reviewed
o Increase of 60% to N30,000
o Oil production to reach 2 million barrels per day
o Sale of non-strategic assets
o Accretion of external reserves to start in 2018
o FDI from FMCG, Upstream Oil, ICT
o Up from $1.7bn to $3-4bn
B ase Case Scenario: S timu lus &
R ef lation Plan
o Oil Price: $55pb; Oil production: 2mbpd
o JV activity uninterrupted
o FGN and state expenditure spike of 30%
o Liberalized floating exchange rate
o Terms of trade up to 17.1
o FDI up to $2bn-$3bn
o Govt borrowing of $5bn-$6bn
o Minimal subsidy
Impact on Indicators 2017
GDP Growth (%) 1.5 – 2
Inflation (%) 15.3
Money Supply (M2) Growth (%) 9.0
Net FDI ($’bn) 4.5
External Reserves ($’bn) 30
Exchange Rate (N/$ avg) 350
Fiscal deficit (N’trn) 2.3
Assumptions
Wors t Case Scenario: T riggered by
Polit ical Crisis
o Oil Price: $40pb
o Oil production: 1.1mbpd
o No increase in govt spending
o No increase in borrowing
o Fixed exchange rate
o Partial subsidy on petroleum
products
Impact on Indicators 2017
GDP Growth (%) -1.2
Inflation (%) 18
Money Supply (M2) Growth (%) 15
Net FDI ($’bn) 0.6
Gross External Reserves ($’bn) 20
Exchange Rate (N/$ avg) 310
Exchange Rate Parallel market (N’$) 560
Fiscal deficit (N’trn) 3.1
Assumptions
Inflation
o Y-o-Y inflation will remain high, 12.5% by 2017 year-end
o 15.3% (avg) 2017, down from 15.7% in 2016, but still far from 2015 avg of 9%
o Driven by:
o Lingering effects of naira devaluation
o Forex unavailability will keep imported items scarce and highly priced
o Proposed increase in electricity and phone data tariffs
o Base year effects
o Government spending, import substitution and increased economic activity will
push prices down in Q4’17
W hat is t he R eal Valu e of t he N air a?
Purchasing Power Parity Dec-16
=N= US $ PPP ('=N=/US$)
Bottle of Coke (50cl) 120 2.65 45.28
Heineken 500 2.82 177.30
Hamburger (Johnny Rockets) 2,900 4.59 631.81
Uncle Ben's rice (S. Pkt) 1,585 3.65 434.25
Toyota Camry 19,000,000 23,070 823.58
Bottled Water (1.5ltr) 150 1.31 114.50
Big Loaf Bread 350 2.39 146.44
Irish Spring Soap (1 cake) 250 0.86 290.70
Chicken Drumsticks ( 1 kilo) 1,680 4.15 404.82
Eggs (One dozen) 550 3.29 167.17
Average PPP 323.59
Naira Price at IFEM 305.50
PPP (%)
Decision: Naira is Over valued 5.92%
Int eres t R at es
o Growth vs. price stability rhetoric will prompt move towards accommodative
monetary policy
o MPR at 11% (year-end)
o Boosting private sector borrowing and investments
o Spike in debt servicing burden will drive down high rates on government securities
o T-bills 91 days 13% (from 14.9%)
o 182 days 14.5% (from 19.6%)
o Slowing down movement of hot money as other asset classes (e.g. real estate, business)
become attractive
FAAC to Increase in 2017
569
572
637
638
446
415
500
0 200 400 600 800
2011
2012
2013
2014
2015
2016*
2017*
Average FAAC (N'bn)
o 2017 average FAAC forecast of N500bn
o N415bn in 2016
o Output curb deal by major oil producers
positive for future disbursements
o Oil to remain dominant source of FGN revenue in
2017
o Petroleum Reform Bill (PRB) expected to boost
investor sentiment
o Dialogue with militants will drive output resumption
o Appreciation projected in 2017 on:
o Gradual uptick in oil production
o Higher oil prices
o PRB passage
o Increased indigenous participation
E a r ly R e c ov ery S i g n s i n M a n u fa ctur in g
40
42
44
46
48
50
52
54
56
FBN PMI
50.0 threshold
Growth Region
Contraction Region
o The manufacturing sector is expected to show early signs of recovery in 2017
o Exchange rate liberalisation will boost business and investor sentiment
o Easier access to forex for imported inputs will bolster manufacturing output
Ships Awaiting B er t h to T rend Higher
o Ships awaiting berth expected at an
average of 49 in 2017
o Compared to 39 in 2016
o Manufacturing recovery will spur
import demand for inputs
o Further deregulation of exchange rate
and downstream sector will boost fuel
imports
150
200
250
300
350
400
450
500
550
10
15
20
25
30
35
40
45
50
55
60
Para
llel
rate
(N
/$)
No
of
Sh
ips
Ships Awaiting Berth Parallel Rate (N/$)
Real Estate Industry
Urban Renewal, Traffic Congestion &
High Vacancy
R eal Es tat e Ou tlook 2017
o High interest rates will continue to lead to more properties “For sale”
o Only properties that offer great value for money will sell
o Bargaining power of buyers will gain momentum
o Forcing down rental prices
o VFIX will increase to about 80% in 2017
o From 74% in 2016
o Forex scarcity will further increase cost of building
o Will encourage innovation and import substitution
Imp act on t he real es tat e mark e t
o Gradual recovery from Q4 2017
o VFIX likely to increase to 80% in 2017
o Vacancy rates are a lagging indicator and will follow
the trend of the business cycle
o More market driven where rents will find their true
value
o More opportunities will unfold as industry players
become desperate
o Market players will find local alternatives of building
materials to remain profitable
Aviation Update
Nigerian Aviation ou tlook - 2017
o Nigerian airline revenue expected to grow at 20% to $3.5bn in 2017
o Passenger airline market is dominated by few domestic and international airlines and will
continue to decline in 2017
o Dominant airlines are part of strong alliances: One World, Sky Team and Star Alliance
o Nigerian international cargo market processes ~200m kg, growth has been stunted due to:
o Reduced activity in oil sector
o 41 banned items
o Domestic traffic sector accounts for 80% of the market but has low sector profitability-
driven by high operational costs
A s p ir ing a i r l i nes w i l l h av e t o fa c e
m a jor r i s ks i n 2 017
o Aspiring airlines will have to face risks to do with:
So
urc
e: B
ain
& C
o
Aviation Op er ations
o High interest rates and forex issues will be a stumbling block to airline operations
o Non-repatriation will remain an issue
o OPEC deal means increased costs of jet fuel
o Domestic airlines will switch to cheaper and smaller planes
o Modest economic recovery by H2’17 will bring about increased demand for air
travel
o Marginal uptick in load factors
o Tighter monitoring from aviation authorities will reduce uncontrolled flight
cancellation and delays
Aviation Inf r as tructure
o No allocation for aviation sector in Budget 2017
o 4 airports are to being concessioned: Port Harcourt, Abuja, Lagos, Kano
o Private aviation sector investment will increase
o Will increase landing cost and other airport charges
o Private investors will require high returns on their investment
Source- Nigerian Budget Office
N32.2
N12.2 N8.45
N0 0
10
20
30
40
2014 2015 2016 2017
Aviation allocation in budget
Aviation Inf r as tructure
Port Harcourt Airport Kano Airport
Auto Industry
Au to Indu s try in Nigeria
o Tariff on car imports increased from 20% to 70% on July 1, 2014
o Impact of policy:
o Increased smuggling through porous borders
o Government revenue from tariffs & duties down
o Compliant companies have suffered a hit on their income
Au to Indu s try in Nigeria
o Cotonou import volumes were 25% higher
than Lagos in 2013
o In 2015, Cotonou volumes increased to
166% higher than Lagos
o Fallout of hike in tariffs, increased
smuggling
o Economic recession has significantly
reduced number of cars discharged in 2016
300000 324000
288000
180000
240000
312000
108000 84000
0
50000
100000
150000
200000
250000
300000
350000
2013 2014 2015 2016
Cotonou Lagos
Impact of
Recession
Challenges Encou nt ered
o No affordable financing
o High interest rate environment
o High cost of duties and levies
o Duties + levy of 70% for passenger cars and SUV
o Compared to ECOWAS CET of 20%
PAN - Sep t ember 2016
o Peugeot 301 fully assembled in Spain
o Engine & gearbox removed and
shipped to Nigeria
o A car being “assembled” in Nigeria
Road be tw een Ap ap a and T incan
Island – October 2016
Stock Market
Forex Losses and Cost Pressures take a Toll
N i ger ia’s m a c ro p i c t u r e a n d p o l i ci es
n o t q u i t e s u p p o r tiv e o f e q u i t ies
120
0
80
90
100
110
Nov’16 Oct’16 Sept’16 Aug’16 Jul’16 Jun’16 May’16 Apr’16 Mar’16 Feb’16 Jan’16 Dec’15
Industrials Banking Consumer Goods NSEASI Insurance Oil & Gas
-10.1%
-3.3%
-14.1%
-29.6%
-5.3%
-13.7%
… ECONOMIC CONTRACTION, CORPORATE EARNINGS & MYRIAD OF
OTHER REASONS SEE MARKET INDICATORS REMAIN IN NEGATIVE
TERRITORY
YTD RETURN
(%)
Source: NSE, FDC
Think Tank
2 017 E qu i ty M a r k e t
MACRO TRENDS MARKET TRENDS
o NSE ASI to oscillate around “28,293.23 –
29,000”
o Market volatility likely to increase
o Market correction will lead to a rally
spurred by monetary easing and
expansionary fiscal policy
o Sectors likely to witness increased activities
– Agriculture, Industrials and Oil and Gas
o Accommodative monetary policy –
Interest rate (12% )
o Modest economic growth (0.5% - 1.7%)
o Currency pressure persists; exchange
rate hovers around $1 – N400/N560
o Commodity prices stabilize – Oil price
‘Brent’ - $56/barrel
o Proposed 2017 budget of N7.2trn
o Inflation at around 15% - 20%
o Market sentiment focuses squarely on the outlook for interest rates and exchange rate
regime
M a r k e t s e n t i m e n t f o c u s e s s q u a r e ly o n t h e o u t l o o k
f o r i n t e r e s t r a t e s a n d e x c h a n g e r a t e r e g i m e
Co
nsu
mer
Go
od
s
o Accumulated debts to weigh on profitability levels
o Foreign exchange scarcity, rising cost of inputs, smuggling and
challenging business environment to persist to HY’17
o Positive earnings after economy adjustment phase
o Efficient companies to ride on economies of scale
Ban
kin
g
o Regulatory scrutiny intensifies
o Increase CAR for SIBs in July 2017 – to increase cost of funding as
banks need to optimise capital structure
o Oil price recovery gives banks room to breathe (loan risk) as 29%
of nation’s debt is towards O&G sector
o Asset prices are exceedingly attractive as sector trades on a 1-year
forward P/B ratio 0.5x
& G
as
o Fuel price increase imminent
o Subsidy arrears payment and end of subsidy regime likely to result
in market inefficiency reduction, profitability surge as downstream
SECTORS OUTLOOK JUSTIFICATION
M a r k e t b o u n c e b a c k a s e c o n o m i c d a ta
s o o t h e s i n v e s t o r c o n c e r n s
Insu
ran
ce
o The industry remains largely underpenetrated
o Economic downturn increasingly making consumers consider risk
protection
o Cost of future claims to increase
o More M&A activities - Interest of foreign players is forcing
existing players to improve products and services
Ag
ricu
ltu
re
o Supportive government policies – Liberalized foreign exchange
market and agriculture intervention funds (CBN)
o Making agric exports more competitive
o Necessitating a switch to local input materials – FX illiquidity
lingers
o Local supply deficit supports sector demand
Ind
ust
rials
o Renewed government spend
o Earnings growth remains negative however, the pace of decline
will slow
SECTORS OUTLOOK JUSTIFICATION
Ou tlook
o Market drivers will be earnings growth and currency movement
o Profits in the NSEASI over the next twelve months will face similar headwinds
faced in 2016 (currency and macro)
o Estimated earnings growth rate for the NSE is 10.48% to ~N8.26trn
o Banking and Oil & Gas sectors to be major drivers
o PBT to decline at a reducing rate by ~11.8%
o Scott-Free performance indicators at year-end
o Volatility 20.29%
o Sharpe ratio -0.33
Policy Response,
Choices & Actions
Think Before You Act, Or Act
Before You Think
Mos t Lik ely Macroeconomic Scenario
o Policy reform in the oil sector
o New Petroleum Reform Bill in Q1’17
o Joint Venture alternative cash call arrangement a done deal
o Unlocking $6bn of cash
o Exchange rate regime reform
o Full liberalization of the forex market (free float)
o Removal of controls
o Debt
o Accretion of public debt: Multilateral loan, ECA, Eurobond by Q1’17
o Widening debt to GDP ratio hits 22%
Mos t Lik ely Macroeconomic Scenario
o Monetary Policy
o Shift to an accommodative stance as fiscal stimulus is implemented
o Trade & Investment Policies
o Import substitution initiatives, particularly food and fuel
o Fiscal incentives to export producers (real sector)
o Emphasis on private sector participation
Mos t Lik ely Macroeconomic Scenario
o Gradual U-shaped recovery
o Early signs of rebound in manufacturing sector
o GDP growth to return to positive territory: 1.2%
o Labor productivity growth to improve to -1.6% from -3.5%
o Net FDI of $1.7bn from $1.6bn in 2016
o Inflation will moderate to 15% by year-end
o Trade balance to swing back to surplus by Q3’17
Political Imponderables
Polit ical u p dat e: imp onder ables &
flashpoints
o 2017: a year of political realignment
o Geographical, ethnic & religious tendencies will recede
o Economic hardship, class, urban and rural solidarity will prevail
o Economic and financial suffering or prosperity will drive political loyalty
o Organization, mobilization and communication at the grassroots will be
the main drivers
Polit ical u p dat e: imp onder ables &
flashpoints
o New electoral law that allows only party members to partake in
primaries
o Increase the cost and the need for a ground game
o Niger Delta militancy and amnesty can be monetized
o As a political proxy could become incendiary
o APC will engage with militants, political godfathers and war lords
Polit ical u p dat e: imp onder ables &
flashpoints
o Anambra state likely to witness party shifts before 2017 election
o Current Governor is a political realist
o Will do all that is necessary to be re-elected
o Anambra state is one of the far viable states
o Fiscal consolidation, growth and economic diversification is evident
Corpor at e Hu mou r
I wish I could lose weight as easily as I lose my patience – T.J.
Chocolate, fries and wine are all weapons of ass destruction – Diet tip
Corpor at e Hu mou r
Your pants won’t get too tight if you don’t wear any – Anonymous
Askhole - A person who constantly asks for your advice but always does the opposite of what you tell them
Corpor at e Hu mou r
Chocolate is cheaper than therapy - Anonymous
The truth may be out there, but lies are in your head - Hogfather
Corpor at e Hu mou r
If you don’t turn your life into a story, you just become a part of
someone else’s story – The Amazing Maurice
If your eyesight is failing at 40. Its natures way of protecting you
from the shock of seeing yourself in the mirror - Anonymous
Corpor at e Hu mou r
Some people are like trees, they take forever to grow up –
Anonymous
Nothing fails like success – Gerald Natchman
Corpor at e Hu mou r
People who work sitting down get paid more than people
who work standing up – Ogden Nash
If you have a job without aggravations, you don’t have a job
– Malcolm Forbes
Corpor at e Hu mou r
The only time a woman really succeeds in changing a man is
when he is a baby – Natalie Wood
Three out of four doctors recommend another doctor -
Graffitto
Bismarck J. Rewane, MD/CEO Financial Derivatives Company Ltd.
Lagos, Nigeria 01-7739889
© 2016. “This publication is for private circulation only. Any other use or publication without the prior express consent of Financial Derivatives Company Limited is prohibited.”
Thank you!
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