Quarterly Update Q1 2019
INVESTMENT OBJECTIVE
GLOBAL ENVIRONMENT
The U.S. interest rate curve inverted as 10Y yields fell below 3 month rates, but the slope is still positive between the 2Y and the 10Y section. That move reflects both the increased probability of a recession in the coming years and the deeply distorted structure of the U.S. bond market. At quarter-end, sovereign bonds with negative yields represented several trillions globally.
Broad commodities rebounded 6.3% on surging energy and industrial metals prices while gold and agriculture posted small positive returns. The S&P 500 regained momentum and added 13.65% for the quarter as market participants favored technology and smaller companies which outperformed.
Other developed markets underperformed while global cyclicals rebounded from oversold levels. Global equities rebounded 12.2% while global emerging and frontier markets added 9.9% and 6.9% respectively. Global bonds continued to perform well and added 2.3% while high yield spreads tightened. Yield spreads in emerging market external debt followed global risk appetite momentum while gains in local debt stalled in March due to pressure on Turkey, Argentina and Romania.The U.S. dollar, as measured by the DXY index, added 1.2% and appreciated during February and March after it consolidated gains in January. Emerging markets FX rebounded significantly during the first half of the period before profit taking caused Latin American currencies and the KRW to decline towards quarter-end. Front month crude oil prices surged more than 27% while longer dated contracts added 1% and backwardation increased significantly.
PERFORMANCE REVIEW AND PORTFOLIO ACTIVITY
The Silk Africa Multi Alpha Fund returned 3.15%, net of fees, for the period from December 31, 2018 to March 29, 2019 compared to the 5.23% (net) returned by its composite benchmark. As a reference, Global Emerging markets surged by 9.9% in 1Q’19.
On a monthly basis, the fund’s NAV increased by 3.4% and by 1.5% in January and February respectively and then retreated by 1.76% in March.
The fund’s under-performance relative to the benchmark is attributable to off-benchmark positions in South Africa along with negative selection in Kenya and in Egypt.
FRONTIER AFRICA
Nigeria
Kenya
Contained inflation, less pressure on the Balance of Payments and the strengthening Shilling attracted both local and international investors. Mid-March, Kenya’s High Court ruled that parts of the rate cap law were unconstitutional. Prospects for further revisions to the law increased investors’ risk appetite and helped the benchmark Nairobi All Shares Index to increase 13.5% during the quarter in USD terms. Banks outperformed significantly other sectors. Kenya was also the most positive contributor to the Fund’s performance during Q1, adding 2.2% to the overall return of the fund. SAFARICOM PLC rallied sharply and closed up 25%, as its newly launched overdraft facility - Fuliza – drew praise from customers and shareholders alike.
Ghana
The Central Bank of Ghana’s surprise interest rate cut of 100 bps to 16% in January 2019 exerted pressure on the Cedi, which depreciated by 12% versus USD during the Q1. Market expectations for additional rate cuts in the coming months was the main reason for investors to remain on the sidelines despite the fact the local consumer demand is rising as it is being supported by the new government’s expansionary policies. The Ghana Composite Index declined by 13.7% QoQ in USD (but lost only 3.3% in local currency terms). Ghana Commercial Bank (GCB) underperformed the market and declined by 19.5% QoQ.
Morocco
The economy slowed slightly in Q1 2019, growing by 2.9% compared to 3.0% in the previous quarter. With no major positive catalyst in sight and with lower than expected corporate earnings announcements, the local stock market declined with the benchmark MASI Free Float Index lower by 5.3% QoQ in USD. The country also had the most negative contribution to our fund’s performance during the quarter. Douja Promotion Groupe Addoha and AUTO HALL, crashing 32.3% and 18.6% respectively, were amongst the worst detractors to the Fund’s performance. ADDOHA’s net profit declined 50% YoY as sales fell by 31% YoY during 2018. The ongoing crisis in the local construction sector and company’s internal cash problems led to sluggish earnings in the outgoing year. The company also didn’t declare any dividend for 2018 as the management is focusing on its investment in Sub-Sharan Africa. For AUTO HALL, sales were down by 5% while net earnings declined 10% YoY as negative currency effect and Ford’s segment repositioning impacted negatively company’s operational performance.
EMERGING AFRICA
Egypt
The Central Bank, after reducing its interest rate by 100 bps in February, stayed on hold in its March 2019 meeting and defied expectations for another 100 bps cut. Monetary authorities cited accelerating inflation, weakening global economic activity, trade tensions and an increase in oil prices as main reasons for keeping the rates unchanged. The EGP strengthened against the USD, appreciating by 3.3% QoQ and helped the positive sentiment of the local bourse. The Egypt benchmark EGX 30 Index grew by 16.9% (in USD), reversing the negative momentum of the three previous quarters. IBNSINA PHARMA was the top performer, and gained 29.5% in USD terms in Q1, following the release of strong Q4 2018 results. Revenues increased by 12% QoQ and +36% YoY, driven primarily by improved performance across all business segments. In addition, the Economic Court’s final ruling and fine of EGP 160 million was much lower than the initial penalty of EGP 2.0 billion levied on Ibnsina Pharma for monopolistic practices.
South Africa
The country witnessed major blackouts during 1Q after the stated owned power utility Eskom Holding faced the faults. Besides the continued debt piling on its books hindered it operate at the optimum levels. The key rating agencies considered the company to be one of the major risk to the country’s overall economic outlook as more contribution is coming from the industries. President Ramaphosa vowed to restructure the company by splitting it into three units. Towards the end of the quarter, Moody’s deferred its country review keeping the rating unchanged, providing some respite to the local equities and the benchmark JALSH Index grew 6.8% QoQ in USD. In our portfolio VODACOM GROUP lost 15.8% QoQ due to the below expectations 3Q results, growth under pressure driven by economic weaknesses in the South Africa.
PORTFOLIO ACTIVITY
As the fund’s investment strategy has been redefined in December 2018 and is now focusing on investment opportunities across the African continent. The portfolio has been gradually rebalanced during the first quarter of 2019.
The portfolio’s current highest allocation is in Egypt with 25.2% followed by Nigeria at 17.6% exposure.
PORTFOLIO OUTLOOK AND STRATEGY
The outlook for African markets and risk assets in general is positive for the rest of 2019 especially after the significant shift in global monetary policies which are supporting additional investors’ flows and interest. Additionally we have seen an increase in infrastructure investments, urbanization, foreign direct investments and increasing political stability combined with economic reforms which will be supportive to equity Markets.
General elections have concluded in Nigeria with the incumbent Buhari emerging as the winner. With elections and political uncertainty behind, the focus can now shift to the economy. Most likely there will be a continuity on both the monetary and fiscal front. The current central bank governor’s term ends in June and most in the investment community are expecting a continuity in the macroeconomic policy. Listing of MTN Nigeria in Q2 would also be closely followed by investors.
In South Africa general elections will be held in May which will shift the focus on local politics. The economic outlook is not very positive for the country with growth expected at only 0.7% in 2019. The planned introduction of new taxes is likely to weigh on domestic consumption, however, the government is willing to address the structural issues of the country’s public enterprises. South African stocks with a large presence outside the country are expected to do well.
Early indicators suggest that the Kenyan economy maintained in Q4 2018 the 6% average GDP growth achieved in 2018, despite the private sector credit growth falling back to 2.4% YoY in December. The announcement by the High Court of a possible removal of the interest rate cap is very positive for markets however we await further details on what the new framework will be.
In Ghana, the economy ended 2018 on a healthy note against the backdrop of upbeat domestic demand and the momentum is also carried over into Q1 2019 due to lowering interest rates. Moreover, the country is also set to exit the IMF’s USD 1.0 billion loan facility in April 2019, which would provide further guidance on the government’s financial discipline and new possible reforms.
For Morocco, the consumer and real estate sectors are going through a tough phase as economic growth remains in the low single digits. Any hike in interest rates due to a rise in the commodity prices would have detrimental effect on the economy as a whole. The Egyptian government draft budget provides a positive economic outlook. The draft budget aims to sustain fiscal consolidation by bringing down the budget deficit to 7.2% of GDP from a targeted 8.4% in FY18/19, and maintain the primary surplus at 2% of GDP.
We believe that the Silk African and Frontier Markets Fund continues to offer attractive valuations and the stocks we hold in those markets maintain a solid earnings outlook. The current Price to Earnings (P/E) of the Fund stands at 11.0x and the Price to Book (P/BV) is at 1.4x.
Hifza Zia – Portfolio Manager, Frontier Asia & Latin America
Mohamed Bahaa– Portfolio Manager, GCC & North Africa
Adele Gikonyo – Portfolio Manager, Sub Saharan Africa
April 17th 2019
THE INVESTMENT TEAM
www.silkinvest.com