Is Zimbabwe a Buy?

Michael Orme - Thu 17 Apr, 2008

The Mugabe regime will not last much longer and an investment opportunity is coming

The Mugabe regime will not last much longer says Michael Orme, and an investment opportunity is coming...

Is Zimbabwe a Buy? by Michael Orme Fund managers are under remorseless pressure to achieve alpha returns, which means exploring ever riskier, sometimes uncharted, territory.

A recent straw poll I took of hedge fund managers gave a clear signal as to where they're looking next for such returns: Africa. All of them admitted to their hunger for investment vehicles in Zimbabwe - a coiled spring if ever there was one - which could make the recent explosions of the Vietnamese or Kazakh stock markets seem unexceptional by comparison.

As the financial alchemy bubble deflates - leaving around $1trn of write-offs and defaults in its wake - the 'first world' economies are slowing. China and India are displaying asset bubbles of their own, but Africa shows up on more and more radar screens as a fair bet for those alpha returns - even though its stock markets appreciated by some 60% last year.

After all, compared to the 'first world' and much of Asia, its all action with seemingly limited downside. Sub-Sahara Africa's GDP is growing at 6%-7% a year; Foreign Direct Investment (FDI) reached nearly $25bn last year - twice the 2004 total, according to the UN. Also, there's some $5bn of private equity money looking for opportunities, Gulf Sovereign Wealth Funds (SWFs) are investing heavily. For example, Dubai World is investing some $800m in Dakar and Dar es Salaam to bring those ports up to scratch and create business and leisure zones.

Moreover, there's no prospect of a sub-prime crisis in any African country for decades to come, and a black middle class is emerging fast - demanding banking, telecoms, retail and leisure services. If ever there was a group mesmerised by money, afflicted with status anxiety and a craving for conspicuous consumption, it is the tens of millions of well-off newly middle class in the black populations of South Africa, Nigeria, Kenya and Ghana. This, even more than the continent's raw material wealth, is the real driver of current investor interest - the emergence of under-leveraged middle-class consumers.

Just look at the potential in the case of Nigeria, for example. A population of 150m people has only around seven million bank accounts, and fewer still have personal loans. This demonstrates the low base many of these countries are starting from, and how significant the upside and how dynamic the consumer sector could be.

Viewed on a pro rata basis, providing equivalent provision for Zimbabwe's 12m people, with lifestyles beyond subsistence, offers even juicier prospects. Zimbabwe has totally missed out on the African growth train; its economy has contracted by 40% since 2000, and is likely to shrink by a further 4.5% this year. This is the 'coiled spring', and the reason why Zimbabwe is popular with steel-nerved fund managers.

As one such Africa fund manager put it to me: "Africa is pregnant with potential but there's always the 'to hell in a handbasket' factor to allow for... as we saw with Kenya, which went from political stability to chaos and anarchy overnight. Zimbabwe is in hell, seemed about to be lifted out of it for a day or two, but could be back there again."

But it's better than even odds, if only on actuarial grounds, that it'll be endgame for Mugabe in Zimbabwe within two years, given his age, obvious ruptures among the ruling elite, growing public dissent and the widespread assumption among the native population that Mugabe's days are numbered. The odds are far better that what follows him will be, even in a worst case scenario, a lot less bad.

The end of Mugabe would almost certainly lead to an immediate injection of at least $1.5bn of foreign aid in short order, and the two million or so Zimbabwean diaspora who have fled would likely start to come home, bringing some $2bn-$3bn with them. Private equity and corporate investment would step up, and the tourist industry would revive quickly. It's just come to light that last year the Chinese invested $1.6bn in the country's mining sector, with its rich reserves of gold, platinum, palladium and ferrochrome - the latter used in steel making.

Within a few days of the formation of a new administration, sufficient funds would be injected by international financial institutions to enable the State bank to turn off the printing presses and start to get inflation, currently estimated at 100,000%, under control. It will be fascinating to see whether the Chinese will compete with the IMF/World Bank to be the one to inject the funds.

The consensus is that Zimbabwe's infrastructure can be got up and running for $5bn-10bn, and, again, the Chinese will compete with the South Africans and the British to get this done via the types of bilateral trade deals it's done in other parts of Africa. China has already made investments in Angola and Zambia to secure raw material supplies in return for building roads, power lines and telecoms networks. We can expect some interesting packages involving SWFs, private equity and government funds.

Meanwhile, outside mining, there's interest in mobile phone operator Econet, retailer and hotel chain Meikle Africa, London-based conglomerate Lonhro (currently planning to raise $140m to expand its operations in the country), and South African banking group Absa, bought by Barclays in 2005. It is also well noted that Citigroup is poised to invest $25m for a 20% stake in local bank, African Banking Corp.

In short, deployments are being made for a 'rush to get in' when Mugabe goes, and competition to unleash the country's potential is fierce. This can only be good news for asset values.

The single biggest challenge is to get what was southern Africa's breadbasket back into the farming big time, and this could prove tricky as there'll be a need to address the incendiary issue of land rights, which even under a new regime might prove anything but plain sailing.

And, of course, at the time of writing it is by no means clear whether Mugabe will not take the country deeper into hell.

Meanwhile, none of the fund managers I met could make a bullish case for neighbouring South Africa, with turmoil in the ruling ANC ahead of November elections. Not to mention the near stone cold certainty that whatever regime emerges from it will swing further left to appease growing black African anger at the lack of any post-apartheid reapportionment of wealth. Worse still, the rolling black-outs caused by a lack of electricity generating capacity pose a serious threat to the economy, which already has a 7.3% trade deficit.

Risk-loving investors beware, though. As we have already seen, hedge funds have well and truly played their part in the market, and have nearly $2.5trn under management, globally. The impact of this on the global economy is much bigger than assumed at first flush, when leverage is taken into account. One $5bn fund I know of turns over the value of its entire portfolio virtually every day. That's an annual turnover of around $1trn. Imagine what that total daily turnover of $1bn will mean when they get involved in Africa, as they undoubtedly will. Even in the largest and most liquid of emerging market stock markets there could be a white-knuckle ride ahead for investors. For while hedge funds are held to make markets more liquid and efficient, they also make them much more volatile.

Another of my fund managers sums up the potential of the dark continent thus: "Given the choice between investing in Africa - conflict or no conflict, corruption, epic or otherwise - and a basket of Western banks, Africa wins every time. No artifice, just superior growth at inexpensive prices."

Regards,

Michael Orme
for The Daily Reckoning