Why Nigerian stocks are getting pummeled

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Valentine’s Day is synonymous with the colour of love, red. Red roses, red wine, red baskets, and decorations and fashion with a touch of red.

During the week, Nigerian stocks got their own touch of red as investors intensified a sell-off that started last week. The Nigerian Stock Market All Share Index fell 3.04% during the week, dragging the YTD stock market gains to 0.42%.

All the major sub-indexes recorded losses during the week, pushing market capitalization down by 3.04% to close at N21.1 trillion. In terms of value, stocks lost a whopping N641.1 billion in market capitalization forfeited.

During the week, about 16 stocks posted marginal gains, the highest being Mutual Benefits Assurance (a penny stock) at just 10.52%. On the losing side were 63 stocks which cut across several sectors of the Nigerian Stock Exchange. This compares with 20 gainers and 64 losers a week ago.

The sell recorded last week follows the pattern recorded in the first week in February and at this rate, February is on track to be the first month of losses since June 2020.

So, why are stocks being pummeled?

Why the selloffs?

Investors look out for market signals when deciding when to buy, sell or hold stocks. Last week, there were three major signals, all of which were regulatory. They were the CBN’s Non-Deliverable Forward (NDF), OMO, and Cryptocurrency ban. We touched on this in detail in our Nairametrics Stock Select Newsletter (subscribe here).

Forex

The Central Bank of Nigeria released its revised Non-Deliverable Forwards (NDF) with the exchange rate expected to settle for N452.82 on February 23rd, 2022. The NDF is basically a hedging instrument that the central bank offers to foreign investors who bring in money into the country.

The CBN offered its forward rates for the period ending February 24, 2021 at N412.14 even though its current official exchange rate is N379/$1 and the NAFEX rate is about N395/$1. Thus, the bank is willing to cover a spread of N33 against the CBN rate and N17 against the NAFEX rate.

Analysts believe this is an indication that the central bank believes the exchange rate should be around N412/$1. True to word, the exchange rate closed above N400/$1 every day for the whole of last week. Forex even sold for as high as N422.59 during intra day trading on Friday.

OMO Bills

Two weeks back, the CBN increased its interest rates for the latest OMO Bills. The open market operation (OMO) is a major source of attracting dollars for the CBN which it achieves by offering foreign investors mouthwatering rates.

This policy worked between 2017 and 2019 when it offered rates as high as 18%, until it started winding it down when it booted local investors off the market. With that move, yield came crashing down, making the market somewhat unattractive for investors.

This, of course, drove local investors into the stock market precipitating into what is now one of the best performing stock markets in the country. So, when the OMO offering last week was reported to have yields of about 10%, a surge of about 4.7% from the previous day’s auction, this, of course, got investors suspicious of what the motive was. Could the CBN be trying to attract foreign investors again by offering them mouth-watering yields?

Treasury Bills

As investors pondered on what the increase in yields for OMO bills signaled, they got another shocker when one-year treasury bills sold for a whopping 4%, double the previous stop rate of 2%. The doubling in interest rates in just a week sent investors into a frenzy, pondering if this was another major signal that the great bull ride might be ending soon.

Just like OMO bills, when treasury rate yields spike, investors rethink their positions in stocks, comparing risk-free yields with dividend yields. Give any investor a choice between a risk-free yield of 7% when investing in treasury bills or OMO or any fixed-income investment versus a dividend yield of 9-10% for stocks, it is more likely that they will go for the former.

What should we be doing?

Should you be investing in stocks or exiting? Subscribe to Nairametrics Stock Select Newsletter to get instructive insights and analysis on how you should react to market signals such as the ones we mentioned above. In our latest newsletter, we dimension the market signals and recommend possible actions.