Why It might be time to buy stocks, and how (II)

This is further to the article I wrote two weeks ago. Based on that article many are still questioning; what good is a bargain if the market, as it were, has not recognized its value thus far? What if prices will never come back to their pick days? Why is it that it seems like everyone is fleeing the market? Well, much as I hate looking simplistic, but, these are normal mood swings. This is how markets behaves, there are always ups and downs – depends on the circumstances that causes such swings. By the way, this is not the case for our market only – it is for many developing markets over these past few years – just look across. And so, if you look at the East Africa region for example, the oldest, largest, liquid and sophisticated market is currently year-on-year down by Kshs. 272 billion (equivalent to TZS. 5,500 billion) – that is, it has recorded a drop-in market capitalization and so investors have lost about Tanzania equivalent TZS 5.5 trillion in paper wealth in these past 12-months. And if you decide to look on the trend during these past six-years, their market has tanked over half of its value since year 2013. Now, let us take a look on the DSE market performance, in the form of graphs, during the same period:

Even though investors have lost TZS 2,381 billion of paper wealth in terms of total market capitalization at the DSE in these past six-years, but in terms of domestic market capitalization the market has gained TZS 3,086 billion during this period. Well, so what? Total market capitalization is the total valuation of the market being a factor of number of listed securities and prices performance for these securities. For example, the DSE total market capitalization is a combination of volumes and prices of all 28 equity listed securities (including 7 cross-listings), while Domestic market capitalization is a basket of 21 domestic listed securities’ volume and prices. Hence, the decline in total market capitalization could be argued to have emanated from the decline in prices of cross-listed companies whose primary listing markets are Nairobi Securities Exchange and London Stock Exchange, as well as decline in prices for the domestic listed securities.
At the same time the increase in domestic market capitalization is mainly a result of the increase in the number of listed securities (there has been 10 new listed securities during this 6-year period) and whose impact has outweighed the decline in securities prices, as can be seen in the table below:

So, why should you invest? Reasons are many, but let us look on a few – GDP growth is expected to continue above 7 percent annually, interest and exchange rates are expected to decline, or at least stay the same and the political environment is envisaged to remain calm. Furthermore, bargains seem plenty – dividends yields are trailing at an average of 5 percent, etc.
As I indicated in the previous piece, if you consider yourself a “value-investor”, not a mere speculator, then just don’t be swayed by every opinion you hear and every suggestion you read. History records that whenever there are political, economic or social transformations — businesses and investments suffer hiccups, as they always have, but then comes long term prosperity for those who stay put. And so, by staying invested during this period – or by investing more – value investors can keep their portfolios on track in pursuit of their long-term goals. Sooner, or later the market will mirror the macro-economic strengths, bounces back and benefitting those stayed invested.
A final word: invest and stay invested in shares of a company not because you want their share prices to go up, but because of your motive to own that business. Value-investors have been successful not because they intended to be good in stock trading and speculating on stocks movements, but because they stuck with successful businesses.

Why It might be time to buy stocks, and how (II)

This is further to the article I wrote two weeks ago. Based on that article many are still questioning; what good is a bargain if the market, as it were, has not recognized its value thus far? What if prices will never come back to their pick days? Why is it that it seems like everyone is fleeing the market? Well, much as I hate looking simplistic, but, these are normal mood swings. This is how markets behaves, there are always ups and downs – depends on the circumstances that causes such swings. By the way, this is not the case for our market only – it is for many developing markets over these past few years – just look across. And so, if you look at the East Africa region for example, the oldest, largest, liquid and sophisticated market is currently year-on-year down by Kshs. 272 billion (equivalent to TZS. 5,500 billion) – that is, it has recorded a drop-in market capitalization and so investors have lost about Tanzania equivalent TZS 5.5 trillion in paper wealth in these past 12-months. And if you decide to look on the trend during these past six-years, their market has tanked over half of its value since year 2013. Now, let us take a look on the DSE market performance, in the form of graphs, during the same period:

Even though investors have lost TZS 2,381 billion of paper wealth in terms of total market capitalization at the DSE in these past six-years, but in terms of domestic market capitalization the market has gained TZS 3,086 billion during this period. Well, so what? Total market capitalization is the total valuation of the market being a factor of number of listed securities and prices performance for these securities. For example, the DSE total market capitalization is a combination of volumes and prices of all 28 equity listed securities (including 7 cross-listings), while Domestic market capitalization is a basket of 21 domestic listed securities’ volume and prices. Hence, the decline in total market capitalization could be argued to have emanated from the decline in prices of cross-listed companies whose primary listing markets are Nairobi Securities Exchange and London Stock Exchange, as well as decline in prices for the domestic listed securities.
At the same time the increase in domestic market capitalization is mainly a result of the increase in the number of listed securities (there has been 10 new listed securities during this 6-year period) and whose impact has outweighed the decline in securities prices, as can be seen in the table below:
NAME Dec-13 Dec-14 Dec-15 Dec-16 Dec-17 Dec-18 Today
TOL 310 550 760 800 780 660 660
TBL 8,100 14,090 14,800 12,000 14,000 12,900 11,400
TATEPA 650 650 650 650 600 120 120
TCC 8,600 16,740 15,950 11,500 16,800 17,000 17,000
SIMBA 2,020 4,500 2,670 1,600 1,200 640 600
SWISSPORT 2,680 5,010 7,350 5,450 3,500 2,660 1,600
TWIGA 2,660 4,000 3,000 2,290 1,460 2,060 2,000
DCB 490 720 570 400 380 340 340
NMB 2,620 3,400 2,500 2,750 2,750 2,340 2,340
CRDB 280 430 405 250 160 150 100
PAL 475 470 470 470 470 400 400
MAENDELEO 600 600 600 600 600 500 490
SWALA – 700 500 500 500 490 490
MKOMBOZI – 1,500 1,000 1,000 890 800 780
MWALIMU – – 665 520 500 500 500
MUCOBA – – – 400 400 400 400
YETU – – – 600 600 600 550
DSE – – – 1,000 1,120 1,400 1,080
VODA – – – – 850 800 800
TICL – – – – – 385 385
NICOL – – – – – 270 175
So, why should you invest? Reasons are many, but let us look on a few – GDP growth is expected to continue above 7 percent annually, interest and exchange rates are expected to decline, or at least stay the same and the political environment is envisaged to remain calm. Furthermore, bargains seem plenty – dividends yields are trailing at an average of 5 percent, etc.
As I indicated in the previous piece, if you consider yourself a “value-investor”, not a mere speculator, then just don’t be swayed by every opinion you hear and every suggestion you read. History records that whenever there are political, economic or social transformations — businesses and investments suffer hiccups, as they always have, but then comes long term prosperity for those who stay put. And so, by staying invested during this period – or by investing more – value investors can keep their portfolios on track in pursuit of their long-term goals. Sooner, or later the market will mirror the macro-economic strengths, bounces back and benefitting those stayed invested.
A final word: invest and stay invested in shares of a company not because you want their share prices to go up, but because of your motive to own that business. Value-investors have been successful not because they intended to be good in stock trading and speculating on stocks movements, but because they stuck with successful businesses.

Pre-IPO Financing for a Sustainable growth of Capital Markets

In our quest to develop, we use various financing tools to finance our economic agents, businesses and enterprises. As we know it, our business enterprises are financed via personal sources, and largely by borrowing from financial institutions – while all aspects of equity financing beyond family/friends for business enterprises is less considered. Rightly so, because of limited in awareness, but also given business growth cycle and maturity of businesses with the economy. And, because of this agents like the DSE has introduced capital raising platforms to enable Start-ups and SMEs to access public funding via issuance of financial instruments (such as shares and bonds) to accelerate their business expansion and hence creations of jobs and enhanced tax revenue to the Government, among other benefits – but with minimal success.
Whatever reasons for not growing the equity side of financing that we front – the fact is that for us to actively finance our growth and development, as long as development and financing goes hand in hand, we need a full range of capital raising options in our finance sector ecosystem. For instance, consider this sustainable and graduating form of financing SMEs: it should start with own sources, then banks and microfinance institutions, before seeking Government grants (if any—especially if in area of R&D), then pursue financing from venture capital and private equity funds before lastly engage the entire public via IPOs and listing to the stock exchange. This is how it is supposed to be.
Where are we in this, our start-ups and SMEs finance are over 90 percent by friends/family and debt finance from banks. There is less than 10 percent risk-based equity finance. This a key gap in our financing, and of course there are other gaps in Tanzania compared to many other markets. In the UK, between 30 and 50 percent of all IPOs emanates from venture capital funds and private equity exits, as it is in Korea, Singapore, etc. Based on the above, one will clearly see the structural gaps in the finance for Start-ups and SMEs to be are as follows:
• no local venture capital or other forms of private or public equity;
• almost no bank equity investment by Tanzanian banks, meaning there is no process for banks to grow companies via equity financing and achieve an exit multiplier as they are almost 100% focus on debt rather than equity;
• no crowd funding and there is minimal debt or grant funding direct to SMEs from Government or Donors.
These gaps mean there is no feeder to the DSE. Unless, all stakeholders work to fix these structural gaps, the capital markets will always face growth and sustainability challenges.
My colleagues and I were recently in Korea, to learn from their experience, as preliminaries towards establishing the Enterprise Acceleration Program at the DSE. We learnt that previous Korean had problem like ours, where it took at least 12 years before a company is potentially ready for listing in the Korean Exchange. This was until the Government pro-actively started working with the private sector to initiate Acceleration Programs (currently there are more than 200 Programs) that includes pre-IPO/listing financing by Venture Capital Funds (partly owned by the Government), Government owned Industrial and Development equity financing divisions as well as investment banks’ specific programs to finance acceleration of Start-ups and SMEs prior to their IPOs and listing in the Exchange.
As a result, the period from Start-up to IPO in Korea has been shortened to 6/7 years from the previous 12 years. Since then, there has been a significant increase in IPOs and companies that have listed in the Starts-up Market segment, the SMEs and technology market segment as well as in their Main Investment Market segment of the Korean Exchange. In a way, this approach by the Government to be hands-on in ensuring there is complete ecosystem in the financial sector and its supporting institutions is a sustainable way towards inclusive and sustainable financing of the economy.
Under normal circumstances, the business of ensuring there are structures and supporting institutions for the financial sector ecosystem could be fronted by both the private sector and government. But then, if one consider and compares cases like that of Korea – a country that moved from the GDP per capital of less than US$ 100 during their independence in 1958 to more than US$ 30,000 now; and Tanzania, which like Korea was with a GDP per capital of about US$ 100 GDP in 1960s, still at around US$ 1,180 – somehow it tells that the examples of countries such as Korea and their approaches where the Government pro-actively engage in not only developing policies and legislative actions but also compliment/supplement these by establishing the necessary supporting institutions and financing them is the right approach to pursue. In the context of our local capital markets growth and development – institutions like venture capital funds, public equity funds, development and industrial banks as well as investment banks for market making and liquidity creation are necessary for a vibrant capital market. These will feed into the current existing structures and institutions, like the DSE for the sustainability of financing our projects and enterprises, while minimizing risk to the less sophisticated well-meaning citizens

Why Persistence in Investing in the Stock Market Pays

Stockbrokers and dealers — collars unbuttoned, sleeves rolled up, yelling into several telephones at once, gesticulating as though their lives were on the line. The air crackles. Every now and again one of them slams a receiver down onto the table like he wants to break it. Then the traders start bawling at each other over their Bloomberg terminals, on which stock prices flash like carnival lights. You will be fair if you agreed with me — this is how the media depicts the world of finance, and the work of stock markets, relaying images from either the stock-market floor/gallery of a major stock markets, or the trading area of a major investment bank.
Let’s change the scene – here there is a dull office on the fourteenth floor of an unassuming high-rise in a sleepy Omaha, Nebraska, the most negligible state in the USA where there is no Bloomberg terminals, no computers, no emails, no nothing as impressive. Just an old-fashioned desk and a telephone, there he sits, day after day as he has done for nearly fifty years: Warren Buffett, the most successful investor of all time.
The contrast couldn’t be starker, on the one hand: hyperactive, sweat drenched, testosterone-laden stockbrokers, on the other a quiet silver haired Uncle Warren. Once you have grasped the difference between speculating and investing you will start seeing parallels everywhere and you will have a good mental tool to hand.
So, what exactly is the difference? the stockbrokers and dealers trying to make a profit through frenetically buying and selling shares and bonds. What’s behind the shares – it is neither the fundamental performances of a software firm based in California or somewhere in Seoul, nor is a copper mine located in Peru or Zambia – these are irrelevant in this case. What matters most to these stockbrokers and dealers is that the share or bonds prices move temporarily in the right direction.

Classic investors however buy shares in only a handful of companies, which they know as thoroughly as the backs of their hands. The opinion of the market reflected in the temporary ups and downs means nothing to them their commitment is long term. To avoid transactions costs they buy and sell as infrequently as possible. Warren Buffet and his long-term investment partner Charlie Munger don’t even seek out new investment opportunities to come to them. From the horse’s mouth: “Charlie and I just sit around and wait for the phone to ring.” So says Uncle Warren.
Who is more successful — speculators or investors”? I would be quick to admit that there are winners and losers on both sides, but the giants among the winners are to be found only on the side of the investors. Why is that? One major difference: investors take advantage of long timespans; stockbrokers don’t. Our brains love short-term, spasmodic developments. We react exaggeratedly to highs and lows, to rapid changes and jarring news — but continuous changes that we barely notice. As a result, we systematically overemphasize doing above not-doing, zeal above deliberation, and action above waiting.
Let’s consider these — what are the most purchased books of all time? not the ones on the current best seller lists or stacked highest on bookshop tables at the bookstores or airports, I mean the ones that have remained continuously in print for decades or even hundreds of years—the bible, Mao’s Little Red Kook, the Koran, the Communist Manifesto, the Lord of Rings, the Little Prince. These are known as “longsellers”, and no major publisher can live without them. The same goes for Broadway shows, tourists’ attractions, songs and many other products. And what is one of the most successful cars of all time? the Toyota Corolla, continuously available as new since 1966 now in its eleventh generation. It wasn’t the first years’ turnover that made the Corolla a superstar but the span of time over which it has been sold.
Such long-term successes often have inconspicuous ingredients that function like baking powder, producing incremental progress that builds up over a long period of time. Take the example of investment; if you invest Tsh.10 million at ten percent return, after a year you will be Tsh.1 million richer. Piece of cake, right. But if you keep reinvesting these modest profits, after twenty years you will have seen an impressive growth of more than Tsh. 40 million, that you could have imagined when you started with your humble Tsh. 10 million. Your capital will accrue not linearly but exponentially, because our brains have no instinct for duration, they also have no feel for exponential growth.
This, then my friends, is the secret of persistence; long term successes are like making cakes with baking powder — slow, boring, long winded processes, but which lead to the best results. The same goes for many aspects of our lives. Just reflect, make a careful observation around you, and you will see.
In our current environment we are meant to be convinced, forced to understand and embrace the idea that in modern times, disruptions, constantly changes of careers and companies, spouse, etc is the way to remain competitive and happy. This may be right and wrong, why? Because sometimes a peaceful and predictable life is what you need and is actually more productive –and what this says is that sometimes a less busy work, more endurance and perseverance, tenacity and long term thinking could be highly valuable, as Charlie Munger says: “only a little bit wiser than the other guy, on average, for a long, long time”. This how you become a value-based investor and not the one stressed with the temporal ups and downs of stocks. Afterall you are not a broker, a speculator or a gambler – you are an investor who looks into the future of yourself and your children, trying to lock into what is possible.

Market Liquidity for further growth and development

Recently, the DSE achieved the Frontier Market Status by FTSE Russell. Reading the FTSE Russell’s qualification criteria one will notice that the DSE currently meets criteria for an Emerging Market Status, except for one key criteria, namely the liquidity of the market. According to FTSE Russell the DSE liquidity is not sufficient to support sizeable global investments.
Furthermore, the recent OMFIF-Absa Africa Financial Markets Index 2019 Report painted the same picture with regard to our market. This report indicates we have made significant progress in many aspects to the extent that we were ranked number seven (7) from number fifteen (15) in 2018, out of the 20 benchmarked markets in Africa, but the one key impediments towards a better ranking is the lack of/limited liquidity in the market. The reason provided is that we lack or have limited local investors capacity. Whatever way one to look at it, liquidity seems to be the existing elephant in the room.
So, what is liquidity in the stock markets context?
Stock market liquidity can be broadly understood as the ability to facilitate large volumes of trade without causing excessive price movements, while still reflecting a steady and fair market price. This concept of liquidity encompasses multiple dimensions, namely: (i) breadth of the market: i.e. the case where the cost of reversing a transaction position over a short period is minimal; breadth is usually identified (and measured) by the bid/ask spread (the tighter the spread, the better); (ii) the depth of the market: a deep market has large numbers of pending orders on both sides of the bid/ask spread. This usually limits the influence of orders on price movements; (iii) the market resilience: this is speed at which stock prices return to stability levels after a shock; and (iv) immediacy of order execution: this is indicated by the speed at which trades can be conducted at a given cost.
Market operators, investors, regulators, and others use a range of metrics to assess liquidity. These include bid-ask spreads, turnover, and turnover velocity (value traded relative to the overall market capitalization). For example, is we consider these past five years, annual turnover on the equity (shares) segment of the DSE has been Tsh. 475 billion while on the bonds segment it has been Tsh. 580 billion. These figures are 5 percent and 6 percent of market capitalization for equity and bonds respectively. At any measure, these ratios are on the very low side. That’s why improving market liquidity in our securities market seems to be the only way to go if we want to make any further progress.
It is important to note that liquidity in the stock exchange, like in other trading venues, is the fundamental enabler of the rapid and fair exchange of securities between stock market participants. Liquidity enables investors and issuers to meet their requirements in capital markets, be it an investment, financing, or hedging, as well as reducing investment costs and the cost of capital.
Liquidity has a lasting and positive impact on economies. As it were, stock exchanges, regulators, and other capital market participants needs to take action to grow liquidity, improve the efficiency of trading, and better service issuers and investors in their markets. The indirect benefits to our market economies could be significant.
So, why does liquidity matter?
The importance of market liquidity and its relationship to financial market development could better be understood by examining the impact it has on various market actors: (i) For investors — more liquid markets are associated with lower costs of trading, an ability to move more easily in and out of the listed securities, lower price volatility, and improved price formation; (ii) Issuers — are attracted to more liquid markets, as they reduce the cost of raising capital and produce more accurate share price valuations; (iii) Stock exchanges — they value the increased attractiveness to issuers and investors, as this translates into greater use of the market, greater confidence, greater ability to attract new stakeholders, and greater ability to do business, which drives revenues both directly (through trading fees) and indirectly (through extending their product offering, for example); (iv) Economies/Countries — as a whole benefit, with companies able to access capital at a reasonable cost, subsequently increasing investment in their business and driving increased employment and their overall contribution to the economy.
There are many ways in which the market can enhance its liquidity. However, the difficulty by market stakeholders, such as institutional investors, to work with exchanges towards the direction of enhancing liquidity is a major hindrance for the DSE.
The case for increasing participation of local institutional investors:
In many early-stage markets like where we are the DSE, the size of the institutional investor base is usually relatively small and often highly concentrated, with relatively low levels of assets under management and limited participation in equity markets. The reasons for this vary between markets, but for us these include: (i) implementation of mandatory and defined benefit pension schemes that restrict the development of a competitive private pension fund sector; (ii) preference to invest in low-risk financial instruments, thereby limiting pensions participation in equity markets; (iii) restrictions on who manage pension fund assets, thereby limiting the emergence of a competitive asset/fund management industry; and (iv) other restrictions, including restrictions of pension fund investment in listed equity markets, in preference for assets classes.
Many frontier and emerging market jurisdictions have sought to address these by transforming pensions schemes by reducing the size of defined benefit pension schemes, the removal or relaxation of legislative and regulatory barriers to investment in equity markets, and the use of tax incentives to encourage both the allocation of funds to institutional investors and the funneling of investments into equity markets.

The Knowledge about Shares and Stock Markets

In the last week’s piece, I wrote about how family businesses may benefit from accessing public money and list their companies in the stock market. As a feedback, some readers requested that we cover the basics: what are shares, why we opine that it is beneficial for privately owned companies to sell shares to the public and why does that relate to listing in the stock market. Today we will cover just that, putting the historical context of stock markets to enlighten us on how far the world of stock markets have come and how fast we have to run in order to catch up with the whole concept of stock market in financing our enterprises, economic growth and development.

The historical context; so, back in the 16th to 18th century, slave trade was not fully controlled by states. It was rather an economic enterprise organized and financed by investors using stock markets in line with the ideas of free markets, private enterprises, private property, etc as aligned to laws of demand and supply. Private slave trading companies sold shares in Amsterdam, London or Paris stock markets to finance slave trade enterprises. Thus, middle class European looking for better investment returns bought shares of such enterprises. Having mobilized funds, companies bought ships, hired sailors and soldiers, purchased slaves from Africa transported them to the Americas. They then sold these slaves to plantation owners, using proceeds from such trade to purchase plantation products i.e. sugar, cocoa, coffee, tobacco, cotton, rums, etc. They returned to Europe with such merchandise, sold them for higher prices and sailed again to Africa to begin another round. As we can imagine, shareholders were very pleased with such arrangements. History records that, throughout the 18th century the yield on slave trade investment was about 6 percent a year. So, during that time and age, humanitarian organisation became business enterprises whose real aim was growth and profits financed by stock markets (and of course bank credits).

This wasn’t only related to Africa and its slave history — and so when in 1821 the Greeks rebelled against the Ottoman Empire, the uprising aroused great sympathy in liberal circles in Britain and other European cities. The London financier saw an opportunity on this as well — they proposed to the Greek Rebel leaders the issue of tradable Greek Rebellion Bonds on the London Stock Exchange. The Greeks would promise to repay the bonds, plus interest, if and when they won their independence. Private investors bought bonds largely motivated by the argue to make a profit, even though there may be some who bought these bonds out of sympathy for the Greek cause. The value of Greek Rebellion Bonds rose and fell on the London Stock Exchange in tempo with military successes and failures on the battlefields. In a way this war turned out to be a financial commodity listed in the stock market — fought, partly in the interest of investors.

In another development, one of the largest financial crises of the 18th century was the Mississippi Bubble. In 1717 the Mississippi Company, chartered in France, set out to colonize the lower Mississippi valley, establishing the city of New Orleans in process. To finance its ambitious plans, the company, which was in good connections at the court of King Louis XV, sold shares to the public and listed on the Paris Stock Exchange. John Law, the company director, who was also the governor of the central bank of France spread tales of the significant riches and unlimited opportunities in the Americas. French businessmen and members of the urban class fell of these promises and the Mississippi company share prices skyrocketed to almost 10 times within a month of its listing. This euphoria swept the streets of Paris, people sold all their possessions and took loans in order to buy the Mississippi Company shares, believing they had discovered the easy way to riches. A few days later, the panic begun, some speculators realized that the share prices were totally unrealistic and unsustainable. Investors started selling these shares, as the supply of shares rose — mainly caused by everyone wanted to get out quickly — their prices declined, setting off an avalanche. In order to stabilize prices, the central bank of France — at the direction of its governor, John Law — bought up Mississippi Company shares, but could not help either, the price of Mississippi shares plummeted and then collapsed completely.

The Mississippi Bubble was one of the history’s most spectacular financial crashes, the Mississippi Company that was financed by the selling of shares to the public and listed in the stock exchange that partly contributed to the fall of overseas French Empire into the British hands, when this company crashed and facilitated the crisis in the France’s financial crisis, the British could still access public money via issuance of shares and borrowing money easily by issuance of bonds and at low interest rates to finance some of their overseas business enterprises and its empire. That’s how powerful joint-stock companies and stock markets have been and can be. Some of us probably have heard other seventeenth century companies which were financed via joint-stock and listed on stock markets.

Companies such as the London Company, Plymouth Company, the Massachusetts Company, the British East India Company or the famous Dutch joint-stock company Vereenigde Oostindische Compagne, or VOC for short that was chartered in 1602. VOC raised money from selling shares to build ships, send them to Asia, and bring back Chinese, India and Indonesian goods. It also financed military actions taken by the company ships against competitors and pirates. Eventually VOC money financed the conquest of Indonesia by the Dutch. So, the concept and idea of stock market and what it is capable of doing to people, companies, institutions, societies, ideologies and values and economies is as big and old as some of these historical moments indicates.

Admittedly, for us, as individuals and collectively, as private sector or public sector have not given this idea the necessary attention it requires. Because of our hesitant to embrace it, at family and private related businesses to public and state-owned-enterprises, resulted into most of our economic institutions being not inclusive. GDP has been at been growing at an average of 7 per cent p.a in these past few decades but does not correlate well with the efforts of poverty reduction. Economists would say this better, but for me — lack of inclusive ownership in companies operating in sectors that contributes largely to GDP growth may be one of the factors. We will continue…

The Impact of Reclassification to “Frontier Market” Status of the DSE/Tanzania

Last week, Financial Times Stock Exchange — FTSE Russell, a leading multi-asset global index, analytics and data provider published the results of its Annual Country Classification Review for countries monitored by its global equity and fixed income indexes. According to FTSE Russell’s Press Release dated 26th September 2019, Tanzania was upgraded from unclassified to Frontier Market status.
FTSE Russell went ahead to acknowledge Tanzania on meeting the requirements for attaining Frontier market status, congratulated us for market improvements implemented.
In this article, I would like to inform and help our stakeholders understand the impact of the reclassification (Upgrade) from “Unclassified” status to “Frontier Market” status of DSE/Tanzania Market.
To start with, this reclassification is a vote of confidence by FTSE that the capital markets of the Tanzania have made good progress.
But what does this all real mean?
Equity Markets Enhancement and International Standards
Earlier in January 2019 the Dar es Salaam Stock Exchange (DSE) achieved the Full Membership of the Word Federation of Exchanges (WFE) from being an Affiliate member for a two-year period. WFE being the global industry association for stock exchanges and clearing houses, headquartered in London. DSE’s graduation from an affiliate member to a full members was a measure of confidence by this global industry group which by itself was s follow up to efforts by the DSE to adhere into international set of standards and criteria, including: the recognized legal/regulatory framework; providing equal opportunity to market access by all types of investors; put in place efficiency mechanisms to admit and list securities and members in the Exchange; an adequate disclosures and market transparency tools; possessing an efficient securities trading, delivery and settlement infrastructures; good corporate governance framework and practices, independence of trading infrastructure and structures from that of settlements, these are among other factors.
And of course, there are other aspects of the market that are also scrutinized i.e. size of the market, rate of growth over time, types of listed instruments, market liquidity, size of investor base, number and quality of market participants – stockbrokers/dealers, custodian banks, settlement banks, etc.
Therefore, having achieved WFE membership, and other factors DSE was in a better position to achieve the Frontier Market status, admission and classifications criteria are relatively similar by both WFE and FTSE. FTSE Russell has 21 qualification criteria for its four-classifications ranging from: market and regulatory environment; to custody and settlement; into the dealing landscape; and lastly the state of derivatives markets. DSE met 11 out 21 criteria. In order to achieve a Developed Market status, one must meet all 21 criteria and for achieving Emerging Market status should pass at least 15 criteria.
Why Does Reclassification Matter?
The immediate expected benefit of reclassification will result from an anticipated increase in portfolio investment flows with the entry of foreign/global institutional investors and passive or index-tracking investors that will have to rebalance their portfolios to include Tanzania.
Typically, institutional investors are restricted to investing in developed, emerging and frontier markets, so the reclassification highlights the entry of a new class of investors into our domestic market, who previously were not there because DSE did not have visibility and profile to fit their investment criteria.
The increased exposure to international investment might also lead to an increase in initial public offerings (IPOs) – particularly if we all could see this as an opportunity, thus potentially leading to a much-needed deepening of the equity market in the country.
Improve Corporate Governance
The reclassification is likely to raise the bar in terms of corporate governance in the DSE. Foreign institutional investors will not be as complacent or inactive as domestic retail (and sometimes institution) investors.
Corporate governance rules need stronger enforcement and the timeliness and content of management and financial reporting needs a major overhaul to now include matters such as sustainability reporting and ESG (environmental, social and governance) reporting.
Reclassification is an opportunity for DSE listed companies to improve their corporate governance and investor relations in accordance with international standards, improve disclosure and transparency and comply with international reporting standards.
Build an Institutional Investor Base
Sound, well-functioning capital markets require a broad base of institutional investors to anchor markets. While this reclassification will attract foreign investors, they are not a substitute for domestic institutional investors such as pension funds and insurance companies, which typically operate as the backbone of a market. In recent days pension funds have remained dormant and passive in our domestic equity and debt market to the extent that only 4 per cent of their Assets Under Management is on listed shares, relative to their 20 percent benchmark.
As a country, we will need to consciously encourage and probably develop the regulatory framework that will facilitate building a domestic resilience on the backbone of our pension system and its assets as well as for the insurance sector. Why? Because, as it were – the role of both domestic institutional investors such as pension funds and that of Foreign Institutional Investors are simultaneously key to the success of the capital markets system. They both pump mobilized savings into the market, as they channel investments to the most rewarding sectors of the economy. But we need to understand that Foreign Institutional Investors trading behavior is so much influenced by the investment behavior of domestic institutional investors i.e. pension funds.

Currently, DSE’s market size, liquidity, price volatility and price discovery are heavily dependent on the flow of investment portfolio from foreign investors, meanwhile, the role of domestic pension funds in the market has been on a declining trend. So, much as this classification is envisaged to enhance the level of foreign investors participation in our market. However, in the medium to long run, as pension funds remain in other asset classes, foreign investors may also start staying away from the market, with significant impact in the market performance i.e. low demand for new issuances, and inactive local exchange.

The Effective Dispersal of Ownership of Capital

The history of financial capitalism is to a large extent a history of deliberate government policies to disperse financial interests among the majority many in its economy, that is to disperse ownership across a wider segment of the population as the process of economic and financial inclusion as well as wealth creation. Such policies have helped democratize finance to many developed economies and emerging economies. Most developing economies are still in the nascent stage of this process.
People seldom realize to what extent that we live in a society that is structured by financial design to become better and better over time, and so the role of finance in creating a good society cannot be overemphasized.
In spite of the above, it also true that modern market economies seems to many observers increasingly to be run by a relatively small number of business, financial and investment leaders who are, by virtue of their financial and general business savvy, hold excessively influence on how matters of finance and its role in promoting economic growth and development is being pursued.
For us, with our history of socialism/communism, which similarly sought to equalize ownership of economic assets and interest, despite the change we made in pursuing our development via market based approaches; that previous system had control over property/factors of production, if not the actual ownership of rewards of factors, which are centralized in the government. But, as we knew it this centralize model has been falling out of favor around most parts of the world (except the recent trend), since such centralization of control does not allow people to use their diverse information, enterprise skills and innovations to actively direct the use of factors of production, including capital.
The above points towards the concept of an ownership society, referring to a society in which citizenship and responsibility are encouraged by the widespread ownership of and control over factors of production and essentially individual properties.
As we can learn this idea of ownership of capital can easily be related to ownership of land and homes – when agriculture constituted the bulk of nations product, policies to disperse ownership of capital were concentrated on land. Many governments had policies that encourage individuals living in rural areas to own farms, there were also policies that encourage urban individual home ownership – which still happens to this day in most economies.
However, such policies have discouraged the development of big companies that might have operated rental properties for the general public. Instead we have a substantial house owning population in many countries, developed, emerging and even developing countries. But this did not happen by accident – let consider the brief history into it.
The concept of property-owning democracy was developed in the UK since 1920s into the 1970s with a program to privatize and sale government owned houses to their renter inhabitants.
In recent case China, with its communist ideology, came later to the ownership society concept. China government eventually made, and still makes homeownership a priority among its population. So, the idea of encouraging homeownership seems to be popping up everywhere. Now, as it were, homeownership, in contrast to land ownership or stock/share ownership, does not usually directly involve people in many specific businesses. But it has been widely thought of as helping to create a market-oriented psychology that encourages other kinds of factors of production, specifically property ownerships well, and as encouraged a feeling of participation and equality in society. Under such circumstances it is apparent the ownership of stocks and bonds that contributes to a feeling of participation should be pro-actively encouraged by the state.
A real sense of participation in society and the economy may be promoted more broadly by policies that encourage more business and companies-oriented ownership, notably ownership of broad portfolio representing the real productive assets of the country. Now this can be executed using different approaches and strategies. For example, Singapore is known to lead the way to an ownership society with its central provident fund, which is a mandatory saving plan for its citizens, with both employers and employees contributions which allowed them to purchase both local and international shares and bonds and also housing to their members. It is being said that people who have substantial savings and assets have a different attitude towards life. And, so are many other nations.
These such policies are efforts to democratize and humanize finance, to make finance serve the people and to encourage people to consider themselves participants in a society built on the principles of finance.
To conclude – here at home we tried these policies during privatization, unfortunately just under 100,000 people participated directly in the ownership of the only seven entities that were privatized via issuance of shares to the public and listed in the DSE. We also have less than seven percent of our population that have indirectly invested in the 15 listed companies via their contributions in pension funds. As it stands, we are yet to make a dent into overall approach to democratize finance, creating an inclusive economy, and achieving economic empowerment for many in our society. So, what if we privatize a few more entities via the local stock exchange, what if we encourage supplementary pensions schemes, what if we encourage more collective investment schemes and independent fund managers, and what if we encourage more private companies to access public money in their capital raising strategies? Would we be closer to our ideals?

Employees Share Ownership Scheme for Democratization of Wealth and Finance

In the democratization of finance and wealth, ownership of shares by many in the society may help, especially in easing the tension between haves and have nots as it also helps bridge the wealth gap between the rich and poor. But, understandably despite many benefits that may be brought by a company accessing fairly priced capital from the public and hence allow for democratization of ownership, access to finance and wealth, most companies owned by individuals and families prefer not to allow strangers to part own their companies or to stand the scrutiny of the market. Hence, many companies would not pursue efforts to access capital via Initial Public Offering (commonly known as IPO) and/or thereafter list their companies to the stock exchange.
However, the key issue to contemplate and which is the topic for today’s article is that, we can somehow understand the idea and sentiments that it is difficult to share benefits and secrets of the company with strangers and outsiders, yes – even if we need that capital. But then, why is it that owners of companies do not consider giving access to ownership of their companies even to those who are not strangers and probably are closest to the company? i.e. employees –these are generally not outsiders or strangers.
And just in case, one would want to pursue this idea, how can it be implemented and why? I will explain.
The easiest way to allow employees into the ownership of the company is by way of Employee Share Option Plans, popularly known as ESOPs. This is a concept used by companies as a scheme of selling shares to the employees by which they become a shareholder in the company and thus hold a certain small level in the ownership of the company.
ESOPs are generally awarded to employees based either on performance or tenure of the employee with the company thus, it serves a two-fold purpose for both the company and the employees.
First of all, for employees it acts as a tool of motivation for a basic reason that once they own shares to the company that they serve, they therefore will feel even more responsible for the good performance of the company, which then determine the value of the shares of the company. If the company performs well, the value of the shares rises and vice-versa.
Second, it helps the employer to still retain the company but also being assured of a good level of performance from employees who are also co-owners of the company and who knows they direct benefit from the company not only in the form of salaries and wages, but also in sharing company’s profits. This will under normal circumstances enhance their efficiency and that of the company
So, in addition to ESOP being a tool that is commonly used by employers to either reward employees or as an exit mechanism from business ownership, what are other direct benefits? (i) it helps in aligning the interest of employees with those of the owners of the company; (ii) it is a non-cash compensation tool that helps the company to compete for the best human resources and attracting good talent to the company while also serving as a talent management mechanism; (iii) it gives an opportunity for corporates to pay its employees without necessarily reducing its book bottom line/profits; (iv) it provides a sense of ownership and belongingness amongst the employees; and hence (v) it significantly help in boosting the morale of employees and their commitment to the company. Further to these benefits ESOPs. as I indicated at the beginning, helps also in bridging the wealth gap and in democratization of finance and wealth.
In his research paper titled: “Employee Ownership, ESOPs, Wealth and Wages” of 2016, Jared Bernstein (the Chief Economist under Vice President Joe Biden), concludes that ESOPs do have the potential to equalize wealth and wage distribution. He further demonstrates that minimum wages, though a useful policy to reduce the gap between low and middle wages for the high-end inequalities it is found to be a n inadequate means. By this Jared suggests that ESOPs hold the potential to bridge the wealth gap.
He points the following key reasons in arguing for his proposal: (1) ESOPs have shown to reduce income inequality, he argues that since ESOPs transfer capital ownership to employees who in normal circumstances are less likely to own businesses via capital contributions; (2) companies in ESOPs appear uniquely resilient in recessions relative to companies that does not operate ESOPs schemes, Jared essentially argues that companies that do not operate ESOPs schemes its employees progress appears to be trapped in ways that may or may not improve the companies output and efficiency especially in the long run, and (3) he says – since wealth inequality is considerably less equitably distributed than wage inequality, ESOPs present the opportunity to less the overall inequality.
And when the company opts an ESOPs schemes it is recommended that it goes hand in hand with listing of the company to the stock market, even if it is by the way of introduction (i.e. listing shares in the stock exchange without IPO) which then provide a market, fair valuation and pricing for those shares issued to employees via ESOPs scheme.

Why It might be an Opportune Time to buy DSE Listed Stocks, and how?

Year-on-year the domestic market capitalization and Tanzania Stock Index is down by 13 percent following the sell-off pressure which is partly informed by some factors, such as the real liquidity need by some investors, market psychology for some, declining expected returns and looking for alternative better returns by some investors, and/or just following sentiments and becoming emotional to some investors. While this may be case especially on the securities supply side, such pressure hasn’t been matched by similar pressure on the demand side — hence the decline in stock prices almost across the board which then impact the market capitalization and indices, relatively — this is not a good sign.
As it stands the market looks vulnerable and should this pessimistic view and bear run continue, more market swings could become prevalent. But as I wrote a few weeks ago, there are many reasons to be upbeat on some of the listed stocks and for the market in general even as the market battles its way to stay optimistic and probably return to the bull run not long time to come.
Yes, though the sell-off may have knocked down a significant part of investors worth over this past one year or so, but the more extreme overselling conditions could actually put the market back on track – why? When darkness increases – the light is near, but of course this can be possible if also supported by other pro-active measures, such as the recent changes of DSE rules in order to motivate liquidity and volatility in the market.
All said and done though, this is actually the good time to be on the market, for those who understand the concept of “value-investment” – the Warren Buffet way. This is the time to put your money to work. And so, in this article I share a few tips on how to turn the current weakness into great opportunity, as you buy on the cheap.
First, do your analysis and a bit of research, if you can’t – request this from your stockbroker or investment adviser, then focus on picking those stocks which embed quality brand names but are selling at compelling prices. Look to buy on the dip, while concentrating on the underlying principle that behind that cheap stock is the strong business performance, growth in profits, strong balance sheet, stable cash flows, good management and foreseeable demand of that company’s products and services. I sometimes wonder, why don’t somebody see that it is too cheap to be true for one to buy stocks of a strong bank at a price earning ratio of 2 times. It is in very rare cases that your luck will meet such an opportunity. In such stocks, you may be in the pain for a short while, but you surely will come out of it strong – so then, why the run from it?
Secondly, I will encourage you to also take a deep look into those stocks which are currently undergoing transformation – whether a managerial transformation or an operational transformation or a strategic transformation – either way, just search and analyze, see what is around you – sector-wise, company-wise, etc. Some investors may have overbrowned their concerns and in the process have pulled many other investors through under the name of market psychology and/or market sentiments. The key point to note here is that, if you are not in some liquidity constraints and pressure, just stay positive and hang in there and if you are not under liquidity constraints accumulate your holding position on these stocks. As you do this, it fair that you also take a keen interest on companies that have lost their competitive advantage, these may not go back into their glorious days.
The third and last important point to note is that, during this time is also a time for rebalancing your investment portfolio. This can be achieved in two ways – one: selling some of the good stocks which still trades fairly relative to their fundamental values and buy those selling on the cheap; and two: if you bought stocks of a similar counter during the time when they were selling on the high, i.e. during bull run where the market was optimistic – you may now rebalance by buying on the dip targeting to achieve a weighted average value or price that is closer to the current underlying fundamental value of that company.
What have I just said, I was trying to draw our attention and submit into us that yes, these may seem like pessimistic moments for the market, but this same moment provides a good environment and opportunity to be on the buying side – that is what is called “value-investment”. You do not unnecessarily have to follow the village, the village may be on the wrong path, and just do not be emotional. However, as I say this, I also urge you to be deliberate in your choices. Your need to be selective, basing your selection on the fundamental analysis and research of the company and the stock you consider to be a good buy.