"Kenya\u2019s stock market has suffered steepest losses in the world; an expert view on why and how to reverse it"

" Kenya\u2019s stock market has suffered steepest losses in the world; an expert view on why and how to reverse it \r\n\r\nKenya\u2019s\u00a0 stock market \u00a0 recently \u00a0suffered steep losses, making it the worst performing globally. The weak performance has persisted: the Nairobi Securities Exchange 20-share index stood at about 1420 on 10 November 2023, having\u00a0 fallen \u00a0from 1509 on 29 September 2023, a drop of 6% over the six-week period. In better days, the index has\u00a0 risen \u00a0above the psychological 5000 mark: for example, it was 5491 on 23 February 2015.\r\n\r\nThe stock market matters for the Kenyan public for several reasons. First,\u00a0 up to 70% \u00a0of the retirement savings of Kenyans may be invested in the stock market. So the market\u2019s\u00a0 weakness \u00a0might inhibit retirement funds from meeting their pension obligations. Second, many Kenyan companies use the stock market to raise capital and weak market performance discourages them from doing so.\r\n\r\nGiven these benefits, it is important to understand reasons for stock market value fluctuations. Here, I discuss some possible reasons for the market\u2019s dismal performance and suggest possible ways to reverse the trend.\r\n\r\n What moves markets \r\n\r\nStock prices move in response to new information that conveys signals about the risks faced by investors. The new information may be something that an investor has uncovered, or that is known by company insiders (although trading on that knowledge is usually\u00a0 illegal ), or that is announced publicly by an authority like the central bank.\r\n\r\nNew information may be about something unique to the company, or something that affects the entire market. New information about a company often affects the company\u2019s price without affecting the market index. However, in small markets such as Kenya\u2019s, where the market index may reflect the presence of a few large companies (such as\u00a0 Safaricom \u00a0and\u00a0 KCB ), changes in the price of one firm\u2019s stock may cause a noticeable change on the index value.\r\n\r\n What ails Kenya\u2019s stock market? \r\n\r\nAn important risk factor that affects the entire market is sovereign (country) risk. Sovereign risk may be responsible for the\u00a0 persistent selling off \u00a0of shares by international investors at the Nairobi bourse in recent months.\r\n\r\nWhen there are more investors selling shares than those willing to buy, share prices, and the market index, fall. This is because sellers must lower their prices to appeal to the few buyers. In 2022, Kenya\u2019s international investors\u00a0 sold \u00a0about US$158 million (KES 24 billion) worth of shares, slightly lower than the US$191 million recorded during 2020.\r\n\r\nThe sell-off may indicate deep-seated political issues affecting Kenya\u2019s economy. These include fears of possible instability post-2022 presidential elections. The country has previously\u00a0 experienced \u00a0election related violence.\r\n\r\nThe sell-off may also speak to economic factors. For instance, when US interest rates increase,\u00a0 as they have , international investors tend to pull their money out of developing markets and invest it in US debt markets, a phenomenon called\u00a0 flight to quality .\r\n\r\nIndeed, anecdotal evidence suggests that emerging stock markets\u00a0 slumped to their lowest \u00a0between March and September 2023 driven by expectations that US interest rates would remain high.\r\n\r\nThird, the stock market jitters may be explained by the weakening Kenyan shilling. For international investors, investing in a Kenyan stock means taking a\u00a0 risk \u00a0on both the stock and the value of the Kenyan shilling. If the shilling falls in value relative to the investor\u2019s domestic currency (like the US dollar), it may wipe out all the gains on the stock and cause the investor to lose money.\r\n\r\nThe Kenya shilling lost 21% of\u00a0 its value \u00a0between 13 September 2022 and 10 November 2023. This has been largely attributed to capital flight and\u00a0 reduced \u00a0inflow of foreign currency due to the low value of exports.\r\n\r\nThen there\u2019s Kenya\u2019s\u00a0 burgeoning public debt . It\u2019s the chicken-and-egg story: a falling shilling increases the burden of debt owed to outside lenders. And the rising cost of servicing debt in a foreign currency increases the supply of the shilling in the currency markets, weakening it further.\r\n\r\nIn an attempt to stem the slide in the shilling\u2019s value, keep domestic inflation in check, and respond to rising US interest rates, Central Bank of Kenya, like its counterparts globally, has chosen to restrict money supply.\r\n\r\nConsequently, the central bank rate, a policy interest rate that guides domestic loan pricing,\u00a0 has increased \u00a0from 7% in March 2022 to 10.5% in November 2023. When interest rates rise, returns (yields) on debt assets like bonds also rise, making them more attractive than stocks. This induces investors to\u00a0 move \u00a0their money from stocks to bonds, causing a decline in stock prices.\r\n\r\n Expectations \r\n\r\nAn important recent development is the enactment of Kenya\u2019s\u00a0 Finance Act \u00a0in June 2023. The Act imposes new taxes and tax increases. The World Bank\u00a0 has warned \u00a0that higher taxation may discourage investment and increase unemployment.\r\n\r\nSo there\u2019s an expectation of weaker economic performance and, concomitantly, weaker company performance (due, for example, to lower product demand). The expectation of weaker company performance causes investors to anticipate lower future cash flows (like dividends), which is reflected in lower company valuations today.\r\n\r\nExpectations about public debt also matter for companies. Kenya is expected to borrow more, which will increase interest rates on government debt, making it more lucrative for banks to lend to the government than to the private sector. Reduced private sector lending discourages private investments and lowers company valuations.\r\n\r\n What should be do ne? \r\n\r\nThere is no quick fix to a stock market collapse. Although stock market performance may be driven by\u00a0 sentiment \u00a0in the short run, it is more beneficial to think long-term.\r\n\r\nThere\u2019s a close relationship between the broader economy and the stock market. So, as a\u00a0 finance scholar , I offer only one recommendation: diversify and grow the economy.\r\n\r\nThere is clear evidence of the long-term economic growth benefits of investing in human capital, boosting a country\u2019s\u00a0 entrepreneurial orientation \u00a0and\u00a0 investing in infrastructure . To grow the economy, therefore, the government\u2019s policymakers should draw from such evidence.\r\n\r\nImportantly, the need to\u00a0 strengthen the country\u2019s institutions \u00a0has never been stronger. This will have the effect of improving governance and accountability as well as investor confidence. With such actions, the stock market needs no intervention."

"Kenya\u2019s stock market has suffered steepest losses in the world; an expert view on why and how to reverse it"

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