24 August 2018 : Second quarter figures from the National Bureau of Statistics (NBS) show a 13% dip in capital imports into Nigeria during the period, although at $5.5 billion, capital imports for the second quarter were still 3x higher y/y and larger than total imports in FY’17 ($5.1 billion). Looking at the half-year period underscores the year-on-year improvement: H1’18 capital imports ($11.8 billion) were 4x larger than H1’17 ($2.7 billion). 

This improvement has been driven by a surge in foreign portfolio inflows (8x higher y/y) and other investments (2x higher) as foreign direct investments were comparatively flat y/y. As a result, FPI constituted the bulk of capital imports in H1’18 - 73%, while FDI share declined from 18% to 4%. Therefore, although capital imports were weaker q/q in Q2’18, capital inflows to Nigeria have been reasonably strong in 2018, albeit with most of it classified as hot money in the form of portfolio flows. 

SEZs are a panacea to low FDI 

FDI grew just 6% q/q and actually declined 5% y/y, but these movements mask the stickiness in FDI over recent years—excluding a more pronounced dip during the 2016 recession. Despite higher federal government capital spending and policy pronouncements in the Economic Recovery & Growth Plan and ease of doing business initiatives, Nigeria’s business environment remains unattractive, judging by weak FDI. 

The EY Attractiveness Index ranked Nigeria 17th out of 25 African countries in 2017 (2016: 15th), with the country notching first place in market size but scoring very low in economic diversification and business enablement. As analysts have mentioned before now, special economic zones (SEZs) are a trusty mechanism for encouraging FDI as they appeal to prospective investors by promising to insulate them from some of the challenges that hamper businesses in the country. Nigeria has been sluggish and rudimentary in developing SEZs, often resorting to tax incentives in lieu of upgraded infrastructure, streamlined access to market, and network economies. 

Going by recent federal budgets, the Nigerian government is looking to build new SEZs in the six geopolitical zones in the country, even as a number of existing free trade zones flounder in states ranging from Lagos to Jigawa. Barring a significant improvement in Nigeria’s power situation and confidence in institutions, SEZs remain the most likely route to stimulating FDI. 

FPI relatively steady despite Q2 EM sell-off 

FPI fell 10% q/q but still 5x its level in the corresponding period of 2017. Looking at the composition, investment in bonds (10% of FPI) and equities (25%) rose 19% and 49% q/q respectively, while investment in money market instruments (65%) declined 24% q/q. Analysts note that the overall FPI data does not fully reflect the magnitude of selloffs observed in Nigeria and across other emerging markets in Q2’18. 

However, June data comes close as investments in bonds and money market instruments declined 50% and 34% respectively m/m, although equity investments were actually much improved (3x May level). Moreover, FMDQ turnover data does not provide much supporting evidence: daily turnover in T-bills declined 10% from May to June, but FGN bond turnover was flat. Nevertheless, yields on government securities rose during the period, indicating the bearish sentiment at the time. 

Elections and global conditions point to weaker capital imports 

Most of the improvement in FPI in the last 12 months has been hot money, and these flows would likely slow down (or reverse) as uncertainty deepens ahead of the 2019 elections. In the near-term, there is very little to excite investors in the equity market, although fixed income yields are set to become more attractive amid a hawkish monetary slant and rising inflationary fears. 

Meanwhile, the global picture is unwelcoming, darkened by a brewing trade war and ongoing monetary tightening in the United States (another rate hike expected in September). Therefore, analysts expect capital inflows to take a hit in the rest of the year, but given its recent composition, the biggest impact of this development would be felt in foreign exchange liquidity and the capital markets.

Reporting for EasyKobo on Friday ,24 August 2018 in Lagos, Nigeria

Source: Michael Famoroti from Vetiva Capital Management Limited