The Finance Minister recently offered slight reprieve to stock market investors when he made changes to Statutory Instrument 96 of 2022 that did little to inspire a rebound in ZSE activity as the bourse remains downcast. The holding period for which a higher capital gains withholding tax (CGWT) of 4 percent applies was reduced from 270 days to 180 days. This came after several members of the parliament voiced their concerns over the crippling impact of several monetary and fiscal policy changes on the ZSE.
The first four months of 2022 were superb for investors as the ZSE returned 172 percent compared to CPI growth of 39 percent and a depreciation of the local currency on the parallel market of 49% over the same period. Up until this point, the stock market had been a fair hedge against the depreciation of the local currency.
According to an analysis done by Morgan&Co Research, exchange rate volatility – proxied by implied rates – between January 2020 and April 2021 explained 37 percent of the volatility of the ZSE All Share Index and provided empirical evidence of the strong and positive relationship between the two markets. However, structural changes in May 2022 have seen this relationship falter given that the stock market lost 33 percent while the local currency depreciated by a further 47 percent between May and August 2022.
Currently, the ZSE’s market capitalisation stands at $1.4 trillion, which indicates a USD market cap of US$2.3bn at current official rates against a fair value of roughly US$5-6bn .
Delta Corporation currently trades at a share price of $157.12 against a fair value of $887.43 while Econet’s current share price of $74.72 indicates a steep discount to a fair price of $426.01. Several other stocks have become grossly undervalued, and we unpack key drivers of the disconnect between the fair and actual prices below.
Gold coins: When the gold coins came into the market, they addressed a key problem among local investors – a lack of alternative investments. Given a defunct fixed income market, listed equity is the only asset class that falls within several institutional investors’ investment constraints that chiefly include a high liquidity requirement. The introduction of the gold coins, though relatively illiquid, offered investors a new but proven asset to invest into. Gold is a globally accepted store of value during times of global economic uncertainty and recessions, as is the current economic environment. With that in mind, it was likely that investors would pounce on these coins using the ZWL that they had in hand. However, for those that did not have ZWL lying around, they opted to liquidate their equity investments to fund the purchase of the gold coins. This had the impact of withdrawing liquidity on the ZSE, which is critical for price support.
Interest rates revision: The increase in interest rates from 80 percent to 100 percent for individuals and 200 percent for corporates significantly reduced speculative trading on the exchange which is necessary for the smooth functioning of any exchange.
The move succeeded in curbing speculative behaviour but even more so, it drove businesses to expunge their debts using internal funds as well as stock market investments. This compounded the liquidity drain on the stock market.
In addition, for risk-loving investors considering borrowing short-term funds and play the long game, the amount of Zimdollars available for loans in the banking sector has significantly declined from $15,5bn in Aug 2021 to $0.13bn in August 2022.
Trading Costs: A concoction of (i) the increase in the CGWT for a holding period of less than 270 days to 4 percent (ii) closing the doors on third party funding, and (iii) lower circuit breakers had a combined effect of making round trip transaction costs (commissions, exchange fees, bid/ask spreads, market impact costs, bank charges, and taxes) within 270 days infeasible especially for speculative and cost-sensitive retail investors.
In addition, the bear run on the ZSE amid sustained currency depreciation incentivised investors to liquidate their equity positions and hold foreign currency in order to cap their losses. Although the applicable holding period for which the four percent CGWT applies has been reduced by 90 days, we opine that this will not overwhelm the standing structural changes and change the ZSE’s odds of recovery.
While many hope for a quick recovery of the stock market, the odds look disheartening. We note that the Zimdollar that has been invested in gold coins to date (in excess of $8bn) will remain vested for six months and should the vesting period come to an end, investors will have to contend with the possibility of selling at a real dollar loss. The gold price has been weakening because of anticipated interest rate hikes by the Fed, and this has driven a negative return on the gold coins since their launch.
In addition, the growing increase in Zimdollar obligations amid the severe withdrawal of liquidity means that any additional Zimdollar injected into the system will likely be channelled towards servicing these obligations before being considered as capital for an equity investment on the ZSE.
The persistent global inflation pressures further add to the tight hold on money supply in the country. Continued supply chain disruptions and rising commodity prices warrant sustained supply-side inflation pressures which will likely cascade into a net-importing country like Zimbabwe.
As a result, there remains an incentive for the Government to contain any ripple effects of global inflation by any means possible. Given that the economy acutely responds to money supply, we opine that current measures on money supply growth will remain in effect, much to the detriment of the stock market.
Morgan & Co
14165 Saucer Road, Gunhill, Harare
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