Although often seen as too risky, David White finds that the continent could be a useful outside bet
Pliny’s observation that “there is always something new out of Africa” could have been applied particularly to 2007. The year saw a spate of funds investing in the African continent.
Fidelity launched an offshore Europe, Middle East and Africa fund in July. It was followed in September by Stanlib which launched an Africa ex-South Africa fund, and US asset manager T. Rowe Price with its Africa & Middle East fund. Finally, in November, UK-based New Star launched a Heart of Africa fund, a sub-Saharan excluding South Africa fund.
The African continent, excluding South Africa, belongs among the so-called ‘frontier’ emerging market markets, where the potential returns are as high as the risks - such investments are unlikely to attract the interest of European pension funds.
Yet Africa could be a useful outside bet within an emerging market equities portfolio. That is how AHV, the Swiss federal social security fund, sees its exposure to Africa. AHV invests in regional emerging markets equities mandates through funds, and has invested CHF40m (€24m) in a South African and Africa ex-South African fund.
A key consideration for investors is what should be the scope of an Africa fund. Should it include or exclude South Africa? Can a developed market sit comfortably alongside a frontier emerging market? Opinion is sharply divided among the current providers of Africa funds. John Mackie, the head of Africa investment at Stanlib, says that investors should exclude South Africa: “A lot of guys try to sell the Africa story by saying you should buy stocks in South Africa that have exposure to the continent because then you’ve got liquidity. I don’t think that works. Because you’re not close enough to it, you’re not going to derive the benefit.”
He cites Shoprite Holdings, Africa’s largest food retailer. “Shoprite probably gets 20-30% of its profit from the rest of the African continent, but is that enough to make a difference?”
John Green, managing director South Africa at Investec Asset Management, takes a diametrically opposed view. “Looking at Africa ex-South Africa detracts too much from the opportunity set,” he says. “We think the best way to express investing in Africa is to have a mandate covering both Africa ex-South Africa and South Africa.
“This is because South Africa is a relatively developed capital market which has attracted a lot of companies, and many South African companies are driving their growth strategies into Africa. The more that we engage with companies in South Africa, the more that we see them leverage the African story for their benefit.”
He cites the pan-African growth of South African telecoms firm MTN. “Stocks like these are benefiting significantly from their Africa operations,” he says.
One attraction of investment in Africa ex-South Africa is the immunity from global shocks such as the current credit crunch. African capital markets are uncorrelated with global markets, largely because of the nature of their investor base, Green says. “Global investors are not a significant component of the investment universe of Africa ex-SA, whereas local investors are a big component. The consequence is that there is very little correlation with other markets.”
The growth in pensions saving in Africa will maintain this situation, he suggests. “Increasingly what we are seeing across Africa is a process to monetise pension funds and pensions liabilities. The pension industries in many of these countries are beginning to be a funded industry as opposed to a PAYG industry, and that’s creating a lot of local demand.”
The lack of correlation with other markets also applies within Africa, says Mackie. “There are very specific fundamentals and very specific stories in each country, whether it’s oil and gas in Nigeria, copper in the Democratic Republic of Congo or elections in Kenya. Everywhere has specific big issues, and that does provide diversification within the region.”
The principal attraction of Africa is its economic growth. Africa’s GDP has been growing faster than the global average for the past five years. This has fed through to three sectors in particular - financials, infrastructure and consumer spending, says Joseph Rohm, vice-president and African expert at T. Rowe Price. “The growth in financials often
leads from very strong macroeconomics. The Nigerian bank sector is growing loans at 40% year-on-year. We’re investing in banks that are growing their loan book by 80% a year, growing earnings at 100% a year. A sort of growth difficult to find globally.”
Infrastructure spending has grown with inward investment, he says: “There has been a sea change in
spending on infrastructure and construction, and there is a very real spend.”
However, discretionary consumer spending, particularly on mobile phones, is the key area of growth, Rohm says. “Telecoms is an amazing success story in Africa. It is a business model that works because everybody pays cash up front.”
African capital markets have grown rapidly in the past three years and there are now stock markets in 22 African countries. Most are small and illiquid, and investible companies are concentrated in a handful of exchanges.
This limits the potential for stock picking, says Mackie: “Clearly the investible universe does paint you into a bit of a corner. The total market cap of African exchanges outside South Africa is, we think, in the region of $300bn (€206bn). Egypt, Morocco and Nigeria make up 80% of that. The same thing filters down into financial services. Banks and financial services make up 40-50% of the total market cap. On the Nigerian stock exchange, 70% of market cap is banks and financial service, and in Botswana it’s 80%.”
The main risk is political, but African funds are currently attractively valued, says Rohm. “There is real valuation support. Our Africa & Middle East fund is on a P/E of 12 and other emerging market portfolios are on P/Es of 20.
“We are finding stocks that I would feel comfortable for our global portfolio managers to own because they are very attractively valued and of a similar quality to what we’re finding in other parts of the world.”
He cites Safaricom, a telecom provider in Kenya that plans to list and which is 60% owned by the state and 40% owned by Vodafone Kenya. “It has to adhere to the same technical and disclosure standards as Vodafone, its management is world class and it’s going to be a large cap company. These are the kind of companies that are finding their way into the portfolio.”
Investors’ perception of Africa tends to be shaped by the performance of a few rogue economies. “There are 54 countries in Africa, yet three or four basket cases capture all the negative press,” says Rohm.
Zimbabwe is currently uninvestible, he says. “We wouldn’t invest in Zimbabwe because it’s very unclear which way the country is going to go over the next year or two.”
Stanlib’s Mackie suggests that Zimbabwe could provide an opportunity in the future. “You can’t just say Zimbabwe is a basket case and we’re never going to touch it, because nothing stays the same.
“My feeling is that any company that has survived what has been thrown at them for the last 10 years is pretty resilient and has probably learned a lot. It’s the type of thing you’ve got to keep a handle on.”
Yet the obstacles to investment are formidable, he says. “The problem with Zimbabwe is that you don’t know if you’re going to get what you paid for, and you don’t really know what you’re actually paying because there’s no exchange rate.”
On the upside, Africa has been targeted for investments by the one of the most powerful engines of growth - China. Mackie, says China’s input into the region is significant: “China is heavily involved in almost every country on the continent. Obviously they have an insatiable demand for resources and energy, but it’s not just about resources. They are involved in setting up an economic zone in Zambia, financial services in Mauritius and port development in Nigeria.
“People have got to understand how open Africa is to what the Chinese are doing. The reason is that there is no colonial legacy. What the West has been trying to do is all the right things via the World Bank and the IMF and good corporate governance. They’ve been doing that for 50 years and whether it’s been debt relief or whatever, it hasn’t delivered much of what was expected.
“Now African countries are getting the very simple proposition from China - you give us a million barrels of oil and we’ll build your railways and pipelines.”
The one fundamental problem with investment in Africa, however, is liquidity and the ease, or difficulty, of moving in and out of stocks. “Liquidity is an issue which has improved significantly in the last three years, but it’s a very tight game getting what you want, when you want it and at the price you want,” says Mackie.
Yet this should not be an issue for institutional investors, he says, since investment in Africa is for the long term. “I don’t think any investor that we have in the fund at the moment is really going to look at a number for 12 months. We emphasise from day one that Africa is a long-term growth story.”