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We should have seen it coming

By The Tetrad Group

IT is 20 months since the Governor took the oath and moved into the corner office at 80 Samora Machel and it would be fair to say that, during this time, the central bank has not favoured

the softly-softly approach to economic management that Greenspan and his European counterparts almost invariably prefer.

The shock treatment of December 18 2003 still has many waking up in a cold sweat in the dead of night. Exactly a year and a half later, it was the usual suspects who lobbed another grenade onto the stock market gravy train with an unexpectedly sharp rise in interest rates in the May 19 monetary policy statement.

The share market initially stumbled badly as buyers ran for the hills at a time that sellers desperately dug their own graves by attempting to offload their positions in a falling market – but it soon caught itself and regained its footing on the firm ground that is inflation such that the negative reaction was far more short-term than most players had feared.

During the last week of July we have seen a similar reaction – a perfectly understandable situation of investors banking gains after the industrial index’s massive 50% gain for the month quickly deteriorated into the controlled panic that often go hand-in-hand with a market which doesn’t really believe that it ought to be trading as high as it is.

So equities did not really need the news of a 10 percentage point hike in the RBZ’s overnight accommodation rate.

It is worth noting a subtle point here – while the rate increase itself was not dramatic it was the fact that it came so soon (all of a week!) after the MPS is really what spooked investors.

If the central bank can change its mind so quickly on what is a key lever of the economy, what then is the probability of another rate hike in the event of unflattering figures from the Central Statistics Office? And a return of the dreaded Capital Gains Tax on share transactions in order to curb the inflationary goings-on at the ZSE? Or…? When one does think about it, the possibilities are depressingly limitless – and with the line between the fiscal and monetary management of the economy becoming increasingly blurred, the market is unlikely to show any firm direction until the mid-term fiscal review has been cleared off the table on the 16th of this month.

This is despite the reporting season beginning in earnest over the next couple of weeks or so. So investors do have a reasonable amount to time to scheme and ponder on the prospects of various listed companies and take a clear-eyed view ahead of the crowd.

Our view is that with high inflation expectations now back firmly entrenched in the national mindset, assets will continue to run although the weakening consumer demand outlook and hard currency and fuel shortages would seem to suggest that the pace of earnings growth will not be a sprint – whether share prices will be held back by this reality in the short-term is debatable but sure as night follows day, come results day, the earnings chickens always come home to roost. With that perspective on domestically-driven set out, where do we see value in the troubled times?

We are of the opinion that the pendulum has definitely swung back to exporters. In his 20th July address, Dr (Gideon) Gono reached out in a big way to this crucial sector with a huge 94% devaluation and a clear commitment to move the rate in line with monthly inflation outturns.

Although the FCA retention rate was decreased to 50 from 55%, he categorically stated that no questions would be asked on the utilisation of these funds so it would be fair to assume that companies would enter into structures which enable them to receive exchange rates closer to fair value on a significant proportion of their revenues.

Those exporters in the agricultural sector are even better placed with the 20% money on offer; out of this subset we see Cottco – which buys over half of the national crop and sells about 80% of this intake offshore – as being the single biggest beneficiary of this cheap financing.

Rising international oil prices will provide another windfall as cotton is a substitute for synthetic fibres manufactured from oil – dearer crude means cotton become a more attractive alternative and hopefully this should be represented in hardening lint price assuming the global supply situation does not suddenly go pear-shaped.

As with all agricultural concerns, there is the risk of adverse weather condition lowering production and output – this is certainly true for Cottco with this year’s national forecast more than 41% down to 193 000 tonnes from last years 331 000 tonnes; challenges in securing inputs for growers have also contributed to this expected sharp decline.

Barring a catastrophic policy U-turn on the exchange rate, the potential pothole is a recurrence of the huge finance costs of the 2005 financial year – these were a massive $191 billion, dwarfing an operating profit of $71 billion. Like PGI and CFI, a pair of former highfliers who were once also spectacularly crippled by debt before becoming remarkable turnaround stories, management is painfully aware of this and maintain that, even in the absolute worst case of them being unable to access the 20% money occurring, they have in place more-than-adequate offshore credit lines (at a cost of around 6,5% pa) for crop purchases with borrowings peaking in September before sale proceeds start coming in.

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