Investing in hyperinflation: is it worth it?

• Financial Market Report (August 23-29 2007)

• Financial Market Report (August 16-22 2007)

• Financial Market Report (August 9-15 2007)

• Financial Market Report (August 2-8 2007)

• Financial Market Report (July 26 -August 1)

• Financial Market Report (19 July - 25 July 2007)

• Financial Market Report (29 June - 6 July 2007)

By Lance Mambondiani

TWENTY years from now you will be more disappointed by the things that you didn’t do than by the ones you did do. So throw off the bowlines. Sail away from the safe harbour. Catch the trade winds in the sails. Explore. Dream. Discover. – Mark Twain

OVERVIEW

WHEN hyperinflation rocked post-First World War Germany and Hungary after World War II in 1920, customers eating at restaurants would pay the price posted on a blackboard when they had finished dessert, not the price quoted when they sat down.

Inflation, of course eats away at any form of investment linked to nominal value. According to the CSO latest inflation data, month on month inflation stood at 54.6% and 36% for June and July respectively. Year on year inflation was measured at 7,251.1% and 7,634.8% for June and July respectively.

On paper, the Industry and International Trade Minister can afford to celebrate a short and decisive victory on price controls, complete with a ‘Mission Accomplished’ sign. A decline in month on month inflation has been achieved and exchange rates have somewhat stabilised.

We must however warn against the long-term battle with ‘insurgents’ and suicide bombers in the form of price distortions, reduced productivity and negative growth. Inflation may also remain high owing to high money supply growth and weakening parallel market exchange rates.

When hyperinflation takes over and foreign exchange crises disrupt the price system, shortening the economic horizon to a week or a month, normal economic development is suspended. Difficult to reverse capital flight puts savings outside the economy and companies may also find it difficult to remain profitable.

Reports indicate that three fertilizer firms, Dorowa Mine, Iron Duke Mine and Zimphos have closed down citing viability problems and inability to access foreign currency to import raw materials. This will more likely affect the supply of fertilizer in the next farming season.

The Zimbabwe Revenue Authority (ZIMRA) is also reported to have failed to pay August salaries to its employees. The tax authority is now seeking a financial package from the Ministry of Finance. The later ministry has itself been silent on the presentation of the Supplementary budget, which is now overdue.

In hyperinflationary conditions, any analyst will tell you to buy tangible assets such as real estate, commodities or precious metals. Stocks can safely be added to that list, depending on the counters you buy. To invest or not to invest? That is the question!

Our research has consistently shown, historically the day-to-day changes in the value of stock market based investments become less of a problem if you're prepared to invest long term when you could benefit from general upwards trends. Beyond the international rhetoric, there are still a sizable number of British and American companies trading in Zimbabwe showing no signs of packing their bags. Do they know, what we don’t ? Years from now, investors will be disappointed they didn’t get in on the ‘buy one get one free’ opportunity. Diamonds may be forever, but bargains are not.

STOCK MARKET UPDATE

After the temporary rally mid-week last week, the key industrial index slumped to close the week at 31,913,883.69 on Friday the 24th of August. The mining index was up by 9.08% to close at 19,965,398.13 points. The market gyrations have remained without direction with investors folding their hands on the sidelines. After the Friday slump, the industrial index was pointing up on Monday recovering 1.81 % on Tuesday to close at 31,884,401.19 owing to widespread gains across many heavyweight value counters.

FIGURE 1: ZSE INDUSTRIAL INDEX TO 29 AUGUST

Source: Coronation Advisory

The rally continued on Wednesday up 2.29% to close at 32,615,042.60 on the back of active trading across most counters. Major drivers were counters such as the insurance giant, Old Mutual up $50 000 to $450 000 for the second consecutive day. Econet and Circem moved $10 000 each to close at $70 000 and $190 000 respectively.

The biggest gains came in the morning trade on Thursday, August 30 with the index up 7.77%, the biggest rise yet in weeks. Is it another false start, time will tell? Weak inflation data, good company earnings and the review of the blanket price controls appear to have been the major factors influencing market movements.

STOCK MARKET OUTLOOK

Investors, like taxi drivers, are born of the same woman, they are given to herd behaviour often panicking when analysts advise caution. During a stock market panic, the baby is often thrown away with the water giving seasoned investors the opportunity to scour the ground long after the fly-by-nights have vanished.

Market corrections are often an opportunity to upgrade the quality of your portfolio on the cheap. A correction is often short-lived and in the face of perpetually depressed money market rates, stocks remain the asset most likely to perform well in the future. Cash piles are still sitting in banks as companies resisted restocking at a loss.

The money market, forever subdued, is also battling with the effects of huge volumes of cash in circulation. Conditions are ripe for a rally. Oversensitive investors would have left the market; the recent shift may indicate that not all hope is lost after all.

Coronation Buy Recommendations: For long-term investors worried about the current gyrations we recommend Old Mutual, Econet, CIRCEM and PPC. Short and medium term buys: NMB, FBC, Kingdom, CBZ.

Other News

Old Mutual - As a consequence of the Zimbabwe Empowerment Bill currently under promulgation, Old Mutual Plc plans to dispose of 20% of its stake in OM Zimbabwe to staff to comply with the law. The law will require foreign firms to sell off 51% of its equity to locals. Empowerment disposals are likely to dominate the market in the third quarter as foreign companies seek to comply with the new directive, which is certain to become law in September 2007.

Old Mutual has its primary listing on the London Stock Exchange with secondary listings on the JSE, Zimbabwe, Malawi and Namibia stock exchange. As at the end of December 2006, Old Mutual had 84 473 136 shares in issue accounting for just over 1% of the group’s total issued share capital. Employees and Management would now be preparing for one of the biggest empowerment transactions induced by the empowerment bill.

Premier Finance Group – The RBZ is reported to be conducting inspections and forensic audits at the Premier Finance Group, the holding company for Premier Merchant Bank and Premier Asset Management. The group Chief Executive Officer and founder, Exodus Makumbe - a career banker formerly with the RBZ - has stepped down reportedly to pursue the group’s international expansions.

Raymond Chigogwada was appointed acting Chief Executive Officer and looks set to become the substantive CEO. The RBZ is said to have been investigating management methods and money movements amidst fears of the resurgence of corporate governance weaknesses, which previously threatened the financial sector with systemic collapse.

The group’s 28% purchase of a stake in CFX Financial Services is also under probe. Although the merchant bank is believed to be generally sound, the central bank will need to ring fence a ‘run on the bank’ which can cause a potentially hazardous contagion effect on a recovering financial sector. It is in the interest of ‘all banks’ that Premier remains afloat.

NMB – The recent weaknesses in the bank have resulted in lingering take-over rumours with a number of recapitalization proposals being discussed. There is news of a new investor having tabled a proposal to pump in US$7 million in the banking concern in exchange for equity.

Although the injection is said to cover the US$6,3 million defrauded from the company earlier this year, investors are after control of the besieged institution. The share price however, appear to have responded positively to the news recapitalisation news, closing at 660 from 550 on Tuesday with 274 000 shares changing hands.

Based on the company’s underlying value, the share price remains one of the most undervalued compared to its peers. Having withstood the worst, the bank can easily return to its blue-chip status in a short space of time.

EXCHANGE RATES

Alternative exchange rates surged significantly between Monday and Tuesday this week.

The ZWD: GBP traded high from Z$425 000 at the close of last week to between Z$490 000 and Z$500 000 on Thursday. This was the biggest rate movement since the introduction of price controls on June 25, 2007. The movement points to the relaxation of the price controls by the government and the increased demand for product from companies.

Some analysts point to the return into the forex market of major corporate or government players desperate to fund critical utilities at any cost. Importers were also in the market scrambling for currency ahead of the September deadline to pay duty for imported vehicles held by revenue authorities since the introduction of foreign currency denominated duty.

FIGURE 2: ALTERNATIVE MARKET RATES

Source: Coronation Advisory

The increased appetite for currency will see rates continuing to adjust upwards towards the end of the week. Currency appreciation is generally unavoidable in a ‘hard peg’ exchange rate regime. Because of structural and institutional reasons, the cost of a fixed currency is often high in the long run in terms of lost output and employment.

The usual academic argument of reducing inflation is often negated where fixed rate policy is not matched with policies that address the supply side. Judging by this week’s surge, rates will depend on the appetite of the corporate buyers. After weeks on the fringes, their appetite may be insatiable, with the unavoidable consequence of a significant increase.