The Central Bank of Nigeria’s (CBN) decision to raise its benchmark policy rate is set to reignite investors’ appetite for bank stocks as the current interest environment is expected to underpin fund managers’ preference for fixed income instruments.
“As a matter of fact, it may end up being a positive for the Tier 1 lenders as there will be an improvement in net interest margins,” said an equity research analyst.
Usually, when interest rates are higher, banks make more money, by taking advantage of the difference between the interest they pay to customers and the interest they can earn by investing or giving out loans.
The Monetary Policy Committee (MPC) of the CBN surprised the market last week by raising its monetary policy rate (MPR) from 11.5 percent to 13.0 percent for the first time in almost six years while keeping other parameters constant.
The apex bank joined other African countries who had delivered Jumbo rate hikes to tame rising inflation exacerbated by geopolitical tensions caused by the Russian/Ukraine war.
When interest rates were at 14 percent in 2018, the NGX Banking index traded at an all-time high of 600.34 points. It closed at 425.14 percent as at Friday, May 27, gaining 1.26 percent.
Banking stocks have posted 8.24 percent year to date gains so far this year, however it underperforms the 24.43 percent increase in the NGX all share index (ASI).
Nigeria’s headline inflation rate settled at 16.8 percent year on year (y/y) in Apr-22, from the previous print of 15.9 percent y/y in Mar-22, according to recent data from the National Bureau of Statistics (NBS).
The country’s Gross Domestic Product (GDP) grew by 3.11 percent (year-on-year) in real terms in the first quarter (Q1) of 2022, showing a sustained positive growth for six consecutive quarters since the recession witnessed in 2020.
On the flip side of the coin, a rise in inflation expectations and the ensuing hike in interest rates undermines the equity market and elicits a preference for fixed interest instruments as bond yields rise.
For instance, the United States Feds’ hawkish tone with a view to maintaining price stability has sent the stock market on a tailspin and there are fears of a recession.
Rising bond yields jerk up the cost of debt used in the calculation of weighted average cost of capital (WACC), which lowers the value of a company.
“Most of the growth in the net asset value (NAV) of traditional assets have been driven by growth in fixed income funds,” said Ayodeji Ebo, equity research analyst with Chapel Hill Denham Limited.
Banks have an attractive valuation, but they operate in a punitive regulatory environment which portends a downside risk to earnings.
Zenith Bank has a price multiple of 3.0; United Bank for Africa, 2.28; Guaranty Trust Holding Company, 4.2; Access Bank, 2.0; FBNHoldings, 3.50, and Fidelity Bank, 1.90 percent.
“With the expectation of seeing more activities in the fixed income market, investors would only focus on fundamentally sound stocks,” said analysts at CSL Stockbrokers Limited.
The Nigeria 10-year government bond has an 11.253 percent yield, according to data from World Government Bonds.
The 1 year treasury bill stands at 4.70 percent, according to data from United Capital.