How and Where to Invest in Africa

By Jerome Audran, Michael Bolliger, Jonas David, Andrew Lee, Soledad Lopez and Lucy Qiu

Favorable demographics, rising urbanization and rapid growth make Africa an attractive investment destination for those willing and able to identify the opportunities these developments present. The easiest place to invest is credit, where many widely traded instruments exist. However, Mozambique’s default on its Eurobond in early 2017 and missed payments of state-guaranteed loans serve as an important reminder that high yields are typically accompanied by high risk, so exposure should be held in a diversified manner only.

Africa’s investment opportunities range across the main asset classes. For equities, South Africa is by far the most important market, but investors can also look at indirect ways to build exposure. Currencies and local bond markets are niches, but can present interesting opportunities for risk-tolerant investors. Finally, private markets are an important avenue to explore, as they can provide access to some of the most vibrant growth stories in Africa.

However, beyond South Africa, the development of capital markets is often low, and it can be challenging to find suitable assets to fine-tune a well-diversified portfolio. Credit opportunities exist in most markets, with several countries having liquid and investable Eurobonds outstanding. Although most countries have a stock exchange, their market capitalization is often very small, and instruments that provide a diversified exposure on a country level are hard to find, beyond a few exceptions. Nevertheless, as many African countries will continue growing at a much faster pace than developed nations, so will the size and liquidity of their capital markets gain in relevance over time. In the meantime, private markets may offer among the most interesting opportunities.

Several African issuers have issued new bonds in recent years, supported by a benign global environment, investor demand for yield and fundamental improvements at home including domestic reforms, rising growth and shrinking budget and trade deficits. Today, African countries represent more than 10 percent of the global US dollar-denominated emerging market (EM) sovereign market, and 6 percent of the emerging market corporate bond universe. Investors can select from more than 15 sovereign bond issuers, including South Africa, Egypt, Côte d’Ivoire (Ivory Coast), Nigeria, and Kenya.
Issuers’ ratings are mainly found in the B range. A few better-rated names are also available, including South Africa, which still has an investment grade rating from Moody’s.

In recent years, sizeable exchange rate devaluations have stimulated import substitution, leading to declining current account deficits and a pick-up in foreign investments. This should bode well for the quarters ahead, eventually paving the way for central banks to ease monetary policy. Pressure on public finances will remain in many countries this year, but will also likely gradually fade.

Examining individual markets, the deterioration of fiscal balance sheets will likely continue this year in Nigeria from a strong base, and South Africa, amid subdued economic growth levels.
In Egypt, higher fiscal spending to stimulate the recovery may result in higher debt ratios, although this trend is likely to roll over if growth continues to accelerate, and if Egypt maintains the pace of its reforms. Buoyant nominal growth and policies to reduce deficits in Kenya and Ivory Coast will likely end the deterioration in the public debt-to-gross domestic product (GDP) ratios in 2017.
Rising interest rates globally and social tensions domestically are important risks to monitor, since these could weigh on fiscal expenditures, and also put renewed pressure on those countries that still rely on foreign funding due to current account deficits.

These developments likely have further to run, and some issuers currently offer some of the most interesting investment opportunities in US dollar-denominated credit. However, given the low credit quality of these issuers, it is absolutely key to follow developments closely, and to hold exposure in the context of a diversified portfolio only.

This post was written by UBS Wealth Management’s Chief Investment Office (CIO) and is based on published CIO research.