SIMS Monthly Economic Report_October 2011

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[MONTHLY ECONOMIC UPDATE] November 8, 2011

October 2011Economic Update

Issue Date: 8th

November 2011


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Equity market

The equity market performance improved this month. The NSE 20 and NASI indices gained 7.7% and 5.7% to close the

month at 3,540.03 and 73.37, respectively. Market capitalization increased by 4.6% to KES 927.0 Bln. However, volumes

remained relatively low depicted by the decline in market turnover to KES 4.4 Bln from KES 5.4 Bln the previous month.

The reversal in performance was partly supported by the stability of the local currency and better than expected quarter

three banking sector results. Foreign investor participation increased supporting increased bullish sentiments from

investors.

Equities have increasingly come under pressure mainly due to macro-economic imbalances particularly a volatile

currency and rising inflation. The former has seen declining foreign participation while the latter has negatively affected

disposable incomes.

Meanwhile, the Nairobi Stock Exchange Limited (NSE) announced plans to change its name to Nairobi Securities

Exchange Limited. The bourse is also expected to introduce a new segment dubbed General Enterprise Market Segment

(GEMS) to enable Small Medium Enterprise companies to raise capital through the stock exchange. Additionally, the

NSE announced plans to introduce Exchange Traded Funds (ETFs) in collaboration with FTSE International.

Source: Reuters

Outlook

Market performance remains hinged on macro-economic stability specifically; currency stability and a let off in

inflationary pressures. Continued monetary tightening is likely to skew local funds to higher yielding money marketinstruments.

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Equity markets performance Vs Currency volatility

NSE 20 (LHS) KES/USD


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Interest rates

Liquidity tightened in the money markets as the Central Bank embraced further monetary tightening. Treasury bill rates

continued to ascend. The 91-day and 182-day Tbills were up 2.12% and 2.74% to 15.313% and 15.36% respectively.

Treasury bill subscription rates were consistently low for most auctions. Tighter liquidity conditions pushed the

interbank rate to average 21.77% at end month.

The MPC hiked the CBR rate by 4.0% to 11% in the month of October. This was in line with market expectation. The rate

was further increased by 5.5% to 16.5%. This represents a 10.5% hike so far this year. The Cash Reserve ratio was also

raised by 0.5% to 5.25%. These measures were critical to lowering inflation, and restoring consumer and investor

confidence.

Further to the adjustments in rates, the MPC signaled other significant shifts in monetary policy. Going forward, the

MPC will set growth targets for money supply, and will amend CBR depending on the speed of credit extension. In

addition, with new monetary policy framework, all Central bank operations will henceforth be based on the CBR in order

to enhance clarity and certainty. Monetary policy has now begun to yield to market expectations. On its part, to mitigate

the impact of tightening monetary policy on interest rate, the Government has committed to review fiscal expenditure

with a view to cutting back on non-priority areas.

The downward trend in lending rates continued to reverse. As at end of September, the weighted average commercial

bank lending rate stood at 14.79%. This is much higher compared to 13.87% at the beginning of the year. Banks seem

keen to raise their base lending rates with an almost similar margin to the CBR hike. Similarly, costs of funds are

expected to rise. Banks are likely to result to cost management measures to maintain margins.

Source: Central Bank of Kenya

Outlook

The upward pressure on yields will persist as monetary policy tightens. The inflation outlook and pressure on CBK to

meet domestic borrowing targets remain key determinants of the direction of interest rate.

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25.00 Prevailing market interest rates

Lending rate Interbank rate 91-day Tbill rate


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Currency

The recent monetary policy bias has provided the much needed support and stability to the shilling. It closed the month

trading at KES/USD 99.77 levels against the US dollar. The shilling had earlier touched a low of KES/USD 107.00. Year to

October the shilling has lost ground by about 23.5% against the US dollar. The shilling continued to weaken against the

euro and the Sterling Pound closing the month at levels of KES/EUR 139.6 and KES/GBP 159.50 respectively.

CBK took a number of responsive measures to stem currency volatility. Key among them included the reduction, by half,

the minimum limit of foreign exchange held by banks to 10% of core capital. By this, CBK hopes to encourage banks to

realign their portfolios, stem capital outflows, and boost foreign exchange reserves. This should restore price stability

and support the local currency. CBK set new repo rules with a minimum interest rate equal to its key lending rate. It also

restricted borrowing through the discount window, noting that banks borrowing through the discount window more

than twice a week would be scrutinized.

The International Monetary Fund (IMF) approved Kenyas request for an extra US dollar 250 Mln under the already

existing Extended Credit Facility. The initial amount was set at US dollar 500 Mln. The new funds are expected to boost

central bank reserves and significantly support the local currency. The balance of payment position has deteriorated in

recent months owing to increased fuel and capital goods imports. Export earnings have remained relatively stable.Twoof Kenyas key exports and foreign exchange earners, tourism and horticulture, still depend largely on European

markets. Agricultural forex earnings have come under pressure as the Eurozone grapples with sovereign debt issues.

The usable official foreign exchange reserves held by the Central Bank currently stand at USD 3.723 Bln (equivalent to

3.42 months of imports) down from USD 3.778 Bln (equivalent to 3.47 months of imports) the previous month. CBK

intervened periodically in the money markets by selling dollars as demand outweighed supply.

Source:

Central Bank of Kenya

Outlook

In the near term, we expect current monetary tightening bias to support the shilling. Additional balances of payment

support measures are likely to improve reserves and limit further depreciation pressures on the local currency.

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Currency volatility

KES/USD KES/EUR KES/GBP


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Inflation

Headline inflation rose to 18.91% in the month of October. Higher food and fuel prices remained the key drivers of rising

inflation. Majority of the CPI indices were on an upward trend. The yearly Food & Non-Alcoholic Beverages index

touched its highest level for the year, up 26.02%. The index went up by 1.68% between September and October 2011.

Price increases were observed in respect of a number of food products such as sugar, beef, wheat flour, milk, rice and

cooking fats. The rise in food inflation is despite the good rains the country is experiencing.

The Transport index also increased to reach a year high of 26.22% year-on-year and increased by 1.52% from the

previous month. This was partly a pass through effect from a weaker currency. The current account has widened

significantly owing to increased demand for imports. This has put pressure on the exchange rate, and thereby fueling

inflation further.

The downward trend on the Communications index has since reversed. The index was up 6.38% month-on-month. The

Alcoholic Beverages, Tobacco & Narcotics index was the only index down to 11.82% down from 11.85% in September.

Unrelentingly high inflation has continued to put pressure on disposable incomes and by extension consumer spend. As

a responsive measure, the CBK has most recently tightened monetary policy and focused on demand side factors; net

domestic assets and thus money supply, to tame rising inflation.

Source:

Kenya National Bureau of Statistics.

Outlook

In the absence of any additional shocks; we expect moderation in inflation. Key support factors include a stronger

currency, and lower commodity prices. Tightening of monetary policy will help tame inflationary pressures. The

downside risk to the current outlook is the implication of passing the proposed new VAT bill in to law, which might put

pressure on key CPI items.

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Inflationary trend

Overall Inflation Food Index Transport Index


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Offshore markets

United States

Real GDP rose 2.5% in the third quarter of 2011, an improvement from 1.3% in the second quarter. This was mainly

supported by a rebound in consumption, a strong gain in fixed investment and positive net trade position. This marked

an important milestone in the current cycle: the point at which, based on current estimates, the level of real GDP rose

above its pre-recession peak.

Global capital markets continue to view the US as a safe haven, despite rising concerns over its long-term fiscal health.

The Treasury Department reported that net foreign purchases of US Treasury notes and bonds totalled US dollar 16.2 Bln

in July, a turnaround from net sales of US dollar 4.6 Bln in June. This is a measure of increased global risk aversion. The

stock market has been volatile due to fears of another financial meltdown and a weakening global economy.

Outlook

The US economy is squarely anchored on domestic consumption which accounts for about 70% of GDP. We expectdomestic demand to remain subdued informed by the current low consumer confidence.

Euro zone

European Central Bank cut interest by 0.25% its main refinancing rate to 1.25%. Its clear that the most pressing concern

for now is the rapidly weakening economic environment. Inflation has remained elevated and is likely to stay above 2%.Rebuilding confidence has been a major objective to solving the sovereign debt woes. Among solutions offered in the just

concluded EU summit include; additional flexibility in the European Financial Stability Facility (EFSF), higher capital

cushions for European banks exposed to risky sovereign debt and bank funding support for unsecured term funding, and

significant debt relief for Greece.

Outlook

The risks to the economic outlook for the euro area remain on the downside in an environment of particularly high

uncertainty. Downside risks notably relate to the ongoing tensions in some segments of the financial markets in the euro

area and at the global level, as well as to the potential for these pressures to further spill over into the euro area real

economy.

China

Global recession is the biggest risk facing the Chinese economy. Chinese policymakers would likely respond quickly to an

external recession, through expansion of monetary and fiscal policies and a reversal of housing policies, which would be

supportive of investment and commodities. The ultimate test for China lies with fiscal sustainability. For now, the

government still has enough room to stretch policy to prevent a systemic meltdown of the economy. The latest

escalation of hard landing fears was triggered by developments in a number of areas : a double-dip recession in the

global economy and Europes debt crisis.


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Outlook

Generally, we expect the Chinese authorities could still do a number of things to mitigate the potential impact of a

global recession, including: cutting the reserve requirement for large banks, reducing interest rates as inflation pressures

ease, and increasing fiscal speeding on rural infrastructure and strategic industries.


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Company announcements in the month of October 2011

Company Sector Results Absolute PAT(KES) PAT Growth

Barclays Bank Kenya Banking Q3 2011 6.1Bln 11%

Co-operative Bank of Kenya Banking Q3 2011 6.4 Bln 43%

Housing finance Housing Q3 2011 241 Mln -3.3%

Equity Bank Banking Q3 2011 7.2 Bln 42.2%

Kenya Power Lighting H1 2011 4.2 Mln 13.5%

KenGen Energy H1 2011 2 Mln -36.7%

Source: Company Reports, SIMS Research Team

African market indices review, October 2011.

Country/Index YTD(Localcurrency terms)

YTD (USD termsreturn)

Index points (31stOctober 2011)

31st December2010

Ghana/ GSE ALSI 2% -6% 1,010 992

Zambia/ LuSE ALSI 12% 8% 3,695 3,303

South Africa/ JSE 0% -3% 32,212 32,118

Nigeria/ NSE -17% -20% 20,521 24,770

Egypt/ EGX 30 -38% -40% 4,424 7,142

Kenya/NSE -20% -35% 3,540 4,432

Source: Respective Markets, SIMS Research Team


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Sources:

Stanbic Investment Research Team

Stanbic Investment Management Services (E.A) Ltd. |P.O Box 30550-00100|

CfC House|Nyerere Road| Nairobi | Kenya|(: +254 20 3269511 | : +254 20 2247 285|

[email protected]

Disclaimer

This document was produced by Stanbic Investments E.A (SIMS) with the greatest of care and to the best of its knowledge and belief.

However, SIMS provides no guarantee with regard to its content and completeness and does not accept any liability for losses which

might arise from making use of this information. The opinions expressed in this document are those of SIMS at the time of writing and

are subject to change at any time without notice. If nothing is indicated to the contrary, all figures are not audited. This document is

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value against the investor's reference currency.

SIMS Monthly Economic Report_October 2011

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