The Central Bank of Nigeria (CBN) on Tuesday, September 27, 2022, once again raised the benchmark interest rate by 150bps from 14% to 15.5%, marking it the third straight rate increase so far this year.
The Apex bank on July 19, 2022, raised the benchmark interest rate to 14% from 13%, which is 100bps, following a 150 bps increase on May 24, 2022, from 11.5% to 13%. This brings the cumulative hike to 400bps this year.
The hike in interest rates has taken borrowing costs to the highest since 2006. The key reason given by CBN for the hike in interest rates is to curb the spiraling inflation against the backdrop of soaring food prices, higher energy costs due to COVID-19 fallout, Russian-Ukraine-induced supply chain disruptions, and the continued insecurity in the country. This has confined Nigeria’s inflation to supply-side-driven inflation and galloping dimensional inflation. The country’s annual inflation rate climbed for the seventh straight month to a 17-year high of 20.5% in August 2022. In 2021, it rose to 16.95%, a 3.71% increase from 2020 and rose by 1.85% to 13.25% in 2020 from 11.40% in 2019.
Interest rate changes affect the economy as well as the stock market. Generally, it causes borrowing to become either more or less expensive for individuals and businesses. For the economy, its impact takes more time to reflect, but the stock market’s response is often more immediate. Interest rates hike negatively affect companies’ earnings except for the financial sector companies. However, in the long run, it affects all as a hike in interest rates raises discount rates, which may result in lower future discounted valuations, and overall reduces the value of the company.
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How rates hike has impacted the stock market
In Q1 ’22, prior to the first hike in interest rates in May 2022 and amid the Russian invasion of Ukraine, the bourse closed bullish.
On a monthly review, the Bourse saw positive price movements leading to a bull-run throughout January 2022, during which the All-Share Index closed with an 8.3 percent growth in January 2022, and extended the Ytd (January – February 2022) gains to 10.1% and successively by 0.61% in February 2022.
Overall for the Q1 ’22 ended March 31, 2022, the market capitalization of the Nigerian Exchange Limited (NGX) gained N3.02 trillion, having closed on March 25, 2022, at N25.312 trillion, higher than the N22.297 trillion it opened for trading activities on January 4, 2022. The NGX All-Share Index (ASI), which tracks the general market movement of all listed companies on the Exchange, rose by +8.96 to close at 46,904.48 basis points as of March 31, 2022, from 43.046.78 basis points it started with on January 4, 2022.
Compared to the same period in 2021, it reflects a 20.13% year-on-year growth and a bullish run in Q1 ‘22. In Q1 ’21, the NGXASI closed at 39,043.15 basis points on March 30, 2021, from the 41,147.39 basis points it started the year with.
The stock market continued its overall bullish run and comparatively better performance in H1 2022. Market capitalization appreciated by N5.64 trillion or 25.3% to close at N27.935trillion in H1 2022, from the N22.297 trillion it opened for trading activities on January 4, 2022. Consequently, the ASI appreciated by 8,770.81 basis points or +20.36% 6-month YtD gains to close at 51,817.59 basis points as of June 30, 2022, from 43,046.78 on January 4, 2022, while for the same period in 2021, it depreciated by -7.87% or -3,240.11 basis points.
Breaking it down further, in Q2 (April – June 2022), the market overall remained bullish, as NGX ASI appreciated by 10.62% to close at 51,817.59 bps as of June 30, 2022, from 46,842.86bps it started with on April 1, 2022.
However, after the first hike in interest rates on May 24, 2022, the market from a monthly perspective (June 2022) witnessed a bearish run as the NGXASI declined by 0.3% to 51,817.59bps from 51,914.54bps it started with on June 1, 2022.
The overall H1 2022 bullish run was attributable to improved corporate earnings (2021FY, H1 ’22), dividend pay-out to shareholders in H1 2022, low yield in the fixed income market, and the growth from cyclical sectors due to the rise in global oil prices, which was able to offset the decline in the month of June 2022.
For instance, with the rise in global oil prices due to supply chain disruptions as a result of the Russia-Ukraine war, the NGX Oil and Gas Index outperformed other indices, gaining 58.06% to 545.34 basis points in H1 2022 from 345.01 basis points it opened trading. This was on the back of heightened uncertainties amid great policy unwind, the market dipped in the month of June 2022.
From the foregoing, the results showed that the impact of the hike in interest was yet to fully impact the market as of the end of H1 2022. The fixed income investment, which is supposed to benefit from a hike in interest rates, witnessed a decline. In other markets, investors significantly reduced exposure to risk assets by moving into fixed income assets due to hike in benchmark interest rates in response to spiraling inflation, but that was not the case in Nigeria, as fixed income market return was found to have settled at +8%, lower than the 10.1% return in H1 2021.
The market after second and third hikes on July 19 and September 27, 2022
In July 2022; the month of the second interest rate hike, the Bears set in. The NGXASI increased by +0.93% between July 1 and 19, 2022, but overall dipped by 2.82% as of the end of July 2022 from 51,829.67bps on July 1, 2022, to 50,370.25.
The market remained bearish up till the third interest rate hike on September 27, 2022, and declined further by 5.6% between August 1 and September 27, 2022. This is expected to continue in the 4th quarter of 2022 due to the expectation of improved yields in the fixed-income market, upcoming elections, and uncertainties surrounding the economy.
The above assertion is supported by the trend. Data sourced revealed that over the years, there has been a negative relationship between the monetary rate and the All-share Index and a positive relationship between MPR and fixed income yield. A hike in interest rate led to poor performance in the equity market, but an increase in yield, while a low-interest rate led to good performance but a decline in yield.
For instance, a retrospective looks into the reaction of the NGX ASI and yield on MPR showed that in November 2014, when CBN voted for a 100bps hike in MPR from 12% to 13%, the Treasury bill rose by 98 basis points. In contrast, when the MPR was reduced by 200 basis points in November 2015 the yields declined by 103 basis points.
In tandem with established trends, the equities market has begun to experience the outflow of funds as the hike in the MPR is beginning to take a gradual toll on the market as it dipped by 0.095% since the third hike in interest rates was announced by CBN on September 27, 2022. The market further ended in red by the close of business on September 29, 2022, as the ASI and market capitalization dropped by 0.42% to close at 48,964.83 points.
Already the fixed income market is experiencing growth. The bond market average yield edged higher by 2bps to settle at 13.43% as of September 29, 2022.
Our expectation is that with the hike in interest rates, the equities market will continue to be bearish, while yield will continue to rise until the rise in interest rates takes its full toll on the equities and debt market. Of course, with the increase in yields, the price of fixed-income securities will fall. Therefore, investing in fundamentally strong stocks, early profit taking in the equities market, especially overvalued stocks, and early shorting of bonds trading at a premium for reinvestment at a higher rate is key and necessary.
