Sigma Pensions – Following on from a year with so much uncertainty about life, politics and markets, 2021 holds the promise of a return to a semblance of certainty and a vaccine aided V-shaped global economic recovery.
In response to the greatest health crisis since the Spanish flu, national governments adopted a cocktail of strict movement restrictions and border lockdowns in a bid to limit the spread of the COVID-19 virus, reduce burdens on stretched healthcare systems and contain the human toll.
These measures were accompanied by large scale economic stimulus programs to help households and businesses cope with the economic impact of movement restrictions.
In 2021, the focus will shift to how quickly countries roll-out vaccination programs to immunize populations from COVID-19. Politically, the world also appears to look to the hope that a new American president (Joe Biden) would work to normalize what had become unpredictable trade policies and geo-politics.
On the home front, amid an improved outlook for oil prices, Nigeria continues to grapple with the aftershocks of the coronavirus recession as external and fiscal imbalances propagate negative shocks across the exchange rate and inflation channel.
The resulting macroeconomic turmoil will require a return to credible policy settings, implying that more than ever before, the direction of policy responses will be crucial.
Overall, we believe that the investment landscape in 2021 will be shaped by:
- V-shaped global economic recovery and accommodative global monetary policy
- A weaker USD and tighter crude oil market supports optimism over oil prices
- Nigeria to exit recession, but external account imbalances pose downside risks to the Naira
- Higher inflation on account of food, electricity and fuel price pressures.
We set out key themes for investors to watch out for over 2021.
Global Outlook: V is for Vaccine and a V-shaped economic recovery
After the COVID-19 storm of 2020, 2021 holds the promise of a new day as increased vaccination raises the prospect of a return from the ‘new normal’ to the old way of doing things.
As vaccine coverage expands, the resumption of business activities across the globe informs bullish expectations regarding global growth in 2021 from the COVID-19 battered 2020 base year.
Another layer of a ‘return to the old normal’ is the political certainty associated with the start of the Joe Biden presidency in January 2021 and resumption of more predictable policy settings and global geopolitical arrangements.
Despite the prospects of a quick bounce from the recession, we expect monetary policy across major central banks to remain accommodative to deal with the more structural aftershocks of COVID-19 which will last for some time. We think ultra-low US interest rates anchor expectations for USD depreciation to continue in 2021.
In the near term, we see the second wave of COVD-19 intensity and likely political consensus as supportive of additional US stimulus (before the effective rollout of the COVID-19 vaccine) which should support further USD weakness. This backdrop suggests a rebound in capital flows to emerging and frontier markets and some support for commodity prices.
In particular, we view returning mobility as positive for crude oil demand, even as OPEC+ adopts a gradualist approach towards relaxing current supply curbs until H2 2021. Our base case is for oil prices to average USD57.50/bbl in 2021.
Nigeria: Growth returns but external and fiscal imbalances pose downside risks
As with the global environment, we expect Nigeria’s economy to experience a V-shaped bounce back from a recession in 2020 as the removal of most COVID-19 restrictions should benefit the non-oil sector where the restrictions hurt activities badly. That said, oil output is likely to remain in recession as compliance with OPEC+ curbs restrains oil production to 1.7-1.8mbpd, a development likely to remain in place until H2 2021.
The recovery in growth is where the good news ends. We view the combination of still weak oil exports and a resurgence in import demand pointing to large external imbalances over 2021.
Given current policy settings around the exchange rate, we see limited options for financing the looming current account deficit and expect Naira weakness over the year.
Alongside these FX pressures, we see soaring food prices, occasioned by an underwhelming 2020 crop harvest, border closures, higher electricity tariffs and petrol prices (following the move to remove gasoline subsidies) as fuelling a surge in inflation towards 16% levels in 2021 (2020e: Avg. 13.2%).
Though the CBN has ignored inflationary pressures and muddled through the FX situation over 2020, we think the economy’s return to growth and the need to stem the widening parallel market premiums will drive a shift to monetary tightening at some point over 2021.
Also, fiscal imbalances loom large for the second consecutive year with the Federal Government proposing another record deficit (NGN5.2trillion) to be financed via large foreign and domestic borrowings.
Shrinking liquidity and increased securities supply suggests an end to the Naira asset price rally
In 2020, the liquidity fallout from CBN’s decision to bifurcate domestic treasury bill markets spurred a rally across Naira assets. In 2021, we think financing the projected fiscal deficit alongside CBN’s recently introduced CBN Special Bills could help drain the remaining portion of the large liquidity overhang.
Accordingly, we expect the rebalancing across Nigeria’s financial markets to run its course over 2021, implying less-liquid conditions.
Against this backdrop, we think the current bullish run across fixed income and equity markets will top out in the first half of the year, giving way for the emergence of bearish sentiments over the second half of 2021.
Key risks: Weaker oil prices and a quicker than expected return to orthodox monetary policy
Key risks to our 2021 outlook include the emergence of a more bearish case in crude oil prices on account of weaker OPEC+ compliance with output cuts. Furthermore, a quicker than anticipated return to more hawkish monetary policy by the CBN to curb liquidity to deal with the external account pressures on the Naira could spur a sell-off in fixed income and equity markets.
This could take the shape of measures such as playing around banks’ cash reserve ratio or raising the discount rate on recently introduced CBN Special Bills on maturity. Lastly, following failure to complete the exercise in 2020, we highlight the conclusion of the planned re-basing of the Consumer Price Index (CPI) series used in computing inflation.
In the event of a re-set in the new inflation series to within CBN target range (7-9%), interest rates adjustments could be more muted than anticipated.
In summary, we view the prospect of increased vaccination across the world as helping to draw a line on the disruptive influence of COVID-19 on global economic activities. The return to mobility amid continuing unity among the OPEC+ alliance that helped rebalance global crude oil markets is positive for crude oil prices.
Despite the improvement in the external environment, Nigeria faces the prospect of twin deficits for another year with attendant implications for the exchange rate, inflation and interest rates.
While the lifting of most restrictions should be enough to restore the economy to the growth path, economic policy focus will shift towards dealing with the likely fiscal and external account imbalances.
In the capital markets, while equities are likely to remain favoured given limited investment options and near-zero short term interest rates, we think possible upward adjustments in the latter make for a volatile pattern across the two halves of 2021.