Don’t Expect African Stocks To Outperform

I was featured in the July Edition of the Kenyan Institute of Management Magazine.

The full edition can be seen here with my article being on page 50-51.

Below I have copied the article.

South Sudan, Rwanda, Libya, Djibouti, Ivory Coast, Benin, Ghana and Ethiopia.  That list represents just a small percentage of the fastest growing economies in the world according to the IMF and World Bank.

Alongside South East and Southern Asia, African economies dominant the world’s fastest growing economies.  If this trend continues, we could some big economic powerhouses in Africa within the next twenty of thirty years.

PWC have predicted that by 2050, Egypt and Nigeria will both have economies worth over 4 trillion, putting them inside the top 15 economies globally, with Bangladesh, India, Pakistan and Vietnam also rising.

Many investors are naturally thinking that they can take advantage of this growth in emerging markets.  The problem is, many people have made the exact same mistake before. 

In 2006, the Shanghai Composite had risen 300% from 2000, and China was on the march according to the media, with the Beijing Olympics just around the corner in 2008.  

This was during a period where the US Stock Markets were struggling after the bust in 2000, with the S&P500 , Dow Jones and Nasdaq only picking up stream after 2003.

In the subsequent 14 years, the Chinese Stock Market has been one of the the worst performing indexes in the world, with the Nasdaq one of the best performers.  

If we look at a broader data set, we find a similar trend. In Pioneering Portfolio Management: An Unconventional Approach to Institutional Investment, David F. Swensen found that a diversified portfolio focusing on MSCI Emerging Markets and emerging markets bonds have (on average) underperformed their US counterparts over the long-term.

Many people have speculated about the reasons for this growth in US stocks compared to their emerging markets counterparts.

Some have said it is because countless emerging market giants have done IPOs in the US. To give just two examples, Alibaba from China and recently pan-African e-commerce company Jumia have listed on the New York Stock Exchanges. So if African firms continue to grow, more are likely to seek foreign IPOs.

Others speculate that the international nature of most multinationals, especially in the US, means that emerging market GDP growth can end up helping firms in developed markets.

International giants such as Amazon and Apple will further increase their overseas revenues, according to this theory, in a climate where international revenues already  outstrip their American-sourced revenue. 

Higher incomes will almost for sure result in more iPhones and Amazon products purchased in South East Asia, Africa and beyond.

Finally there is another theory and that is that technology has changed the rules of the game.  Increasingly international firms and even freelancers like YouTubers don’t need to physically locate themselves in Africa or in any other region to take advantage of its growth in a digital world. 

The could be the big lesson from coronavirus. The world has pressed the fast forward button, in a climate where we were already moving to a remote business environment, where people don’t care as much about face-to-face interactions or where providers are based.  

All of these facts might not result in superior stock market performance in the African continent even if GDP growth is impressive.

If you want to allocate some money towards a regional specific ETF targeting the African or indeed emerging markets more generally, keeping your allocation down to 10% makes a lot more sense compared to putting all your eggs in frontier markets that are risky. 

A globally diversified investment such as the S&P500 or MSCI World is always going to be safer than a regional or country-specific index which is mainly focused on one country or region.   

Ultimately, markets aren’t always rational but they aren’t stupid. If emerging market valuations seem cheap it is because the markets are pricing in that risk. 

And this isn’t to mention the problem with economic forecasting.  Ten years ago, many people assumed that the BRICS (Brazil, Russia, India, China and South Africa) would dominant in the years ahead, with Jim O’Neill, the former head of Goldman Sachs Asset Management, being the “inventor” of the phrase. 

If you would have told people then that in the subsequent ten years up to 2020, South Africa, Brazil and Russia would experience weak growth and even occasional recessions, they would have laughed.  

They would probably have found it even more funny to think that the Republic of Ireland and Spain, once part of the unfortunate PIGS (Portugal, Ireland, Greece and Spain) acronym to describe faltering European economies, would have experience better GDP results than many of these BRICS countries.  Ireland grew by 25% in 2015 and over 8% in both 2017 and 2018.  

Moreover, I have learned something very important.  Namely if too many people are preaching from the same rhymesrheet, meaning there is a “cosy census”, this usually means that the predictions are unlikely to happen.   

So don’t assume that just because “everybody” thinks China or Africa is rising, that this will automatically happen. 

Who would have predicted in the 1970s that Japan would have been stagnant for 20 years, that Communist China would become one of the most unequal places on earth or that General Electric, a company once so mighty that the US Government considered breaking it up, would need a bailout during 2008-2009?

So perhaps we should all stop listening to economic and stock market predictions for a while, remain globally diversified and stay the course.


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