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Fri 28 Nov 2014 01:12 AM

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Africa: The final frontier

$32.5bn of foreign direct investment will flow into Africa this year. So why are investors ignoring the daunting headlines?

Africa: The final frontier
The continent has faced political instability, making investments into Africa risky.

Ebola, terrorism and political upheaval — headlines from Africa over the past year seem a far cry from the inspiring ‘Africa Rising’ story. But many newly found investors are sticking with the plot.

Even against the additional headwinds of falling commodity prices and the prospect of higher US interest rates, funds active in sub-Saharan Africa insist they still see a compelling growth story, driven by an uptick in regional trade, growing investment and a bulging middle class — the basis of the ‘Africa Rising’ thesis.

“The most consistent growth that we see across the globe seems to be coming from Africa,” says Boston-based Asha Mehta, who manages Acadian Asset Management’s $380m global equity frontier fund. “And it’s likely to play out over the next five to ten years.”

Emerging markets at large have had a torrid couple of years, fearful of a cresting of China’s economic boom and higher US interest rates. The more esoteric frontier markets typically weathered this storm, however, as they drew in a different sort of investor — one more atuned to diversification, tolerant of higher risk and locked into long-term themes.

But even for Africa optimists, the news has been trying.

Security threats posed by the Boko Haram and Al Shabaab militant groups, political upheaval in Burkina Faso or the devastating Ebola outbreak that has killed thousands in West Africa, reminded investors of the risks that have led many to steer clear of the continent for decades.

China’s slowdown also jars African economies, whose fortunes have been tied heavily to minerals and oil exploration and which have soaked up swathes of direct Chinese investment.

But investors like Jonathan Stichbury, CEO of PineBridge East Africa which has $2.2bn under management in the region, excluding South Africa, say growth in sub-Saharan Africa is much less reliant on commodity prices and much more driven by developments on the ground.

“These countries are enjoying a period of growth which I think is almost unstoppable,” he says, citing factors like falling trade barriers, the elimination of currency controls in many countries and the emergence of a middle class.

For instance, the number of middle-class households in 11 of sub-Saharan Africa’s top economies, rose by 230 percent in the past 14 years to 15 million, according to a Standard Bank report. That number is expected to swell to 40 million by 2030.

Sub-Saharan African growth should top 5 percent this year, the International Monetary Fund says, rising to 5.8 percent in 2015. Nigeria, Africa’s biggest economy, should grow 7.3 percent next year, whilst Kenya is in line for a 6.2 percent boost.

Compare that with global growth forecasts of 3.9 percent.

Only a quarter of African countries actually produce oil, data from the African Development Bank shows. Some of the continent’s poorest countries such as Liberia and Sierra Leone spend 15 percent of their income on oil imports, the AfDB says. For them, oil’s 25 percent fall this year will be a boon.

Yet exporters like Nigeria and Angola will be hard hit. If US oil futures slip towards $70 a barrel — around $6 lower than current levels — and stay there a while, Angola and Gabon would face a three-notch ratings downgrade, while Nigeria risks being downgraded 1.1 notches, BNP Paribas calculates.

Fund flows paint a somewhat mixed picture. Recent months have seen a slowdown in equity investment flows, with funds dedicated to sub-Saharan Africa but excluding South Africa clocking outflows of $77m in 2014, adding to last year’s $23m losses, according to EPFR Global.

MSCI’s emerging and frontier Africa ex-South Africa index has gained 1.2 percent this year, almost on a par with global shares.

Nigerian equities, however, have slumped, with the all-share index down 20 percent this year as falling oil prices have dampened investors’ appetite for stocks in Africa’s top oil exporter.

Acadian’s Mehta says after adding to her sub-Saharan equity holdings over the past years, she was not planning to increase her exposure, despite firmly believing in the growth story.

“African markets, as compelling as they are, do just have significantly less liquidity than other frontier countries.”

The main share index in Africa’s largest economy, Nigeria, has a market cap of $70bn compared to the $749bn in India’s main index or $476bn in Russia.

Meanwhile, bond funds show net inflows of $106m in 2014, reversing some of last year’s $371m outflow.

After many African nations received sweeping debt relief in 2005, debt ratios across the continent remain relatively low compared to some other emerging economies such as India, even though IMF data shows the median has crept up to around 40 percent of annual economic output from 27 percent in 2008.

African sovereigns have emerged as keen borrowers on global capital markets, and that is unlikely to die down, says Matt Robinson of Moody’s Africa Sovereign Ratings Team. Yet due to the limited exposure most funds had to the continent, Africa’s frontier markets were less vulnerable to sentiment swings than their bigger emerging market cousins, he adds.

“It is not for the faint hearted to invest in sub-Saharan Africa, so you tend to get people who have done the math and run the ruler over it, and they are still willing to invest.”

Dollar bond yields across Africa offer investors a spread of 305 basis points over US Treasuries, compared to 287 basis points in emerging Europe or 191 basis points in Asia.

And bricks-and-mortar foreign direct investment (FDI) is continuing to flow in. FDI this year in sub-Saharan Africa will total $32.5bn, the World Bank predicts, forecasting $35.6bn in 2015. This compares with just $24bn in 2010.

True, the commodity price falls will endanger some mining and oil exploration projects earmarked for the continent. Just last week, for instance, Kinross Gold said it may not proceed with a $1.6bn mine expansion in Mauritania.

But consultancy EY notes that FDI increasingly has been shifting from commodities into consumer sectors such as telecoms, retail and banks.

Kenya, Ghana, Mozambique, Uganda, Tanzania and Zambia have emerged as investment hotspots, according to EY.

Intra-African investment is also on the rise. African investors have nearly tripled their share of investment in the continent over the past decade to 22.8 percent, EY says, and the rising trend should continue given the continent’s still solid growth rates.

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