Garuba: Banks Have Failed in Their Intermediation Role

Mohammed Garuba is one of the founding Partners/Directors of CardinalStone Partners Limited, an Investment Banking Firm. In this interview, he emphasises that foreign exchange and not politics, will be a key determinant in the direction of the Nigerian economy ahead of the 2019 elections. He also expresses dissatisfaction over the delayed appointment of a board for the Securities and Exchange Commission. In addition, Garuba argues that banks have since left their traditional role of financial intermediation. Obinna Chima, GoddyEgene and Nume Ekeghe provide the excerpts:

There is this argument that the events we have seen in the political space in the past few days does not have any effect on the market, while some have said it does. What is your take on that?

There are two ways to approach this. Initially, we all felt it didn’t have any effect and that was because, we were seeing more international investors who dunderstand investing in Africa. And so,on the back of that, what they’ve done was because they understand investing in Africa, they have been able to know that we have this political cycle and they are no longer interested in running away because if they sell at a loss within a short while,they would see everything come back very quickly. So, instead of us saying it is a political issue per say, their primary focus is that they want to understand the flow of foreign exchange (FX).  FX to a large extent is a key determinant for them while political noise is a less important issue. Whether it is in Ghana, Kenya, and South Africa the cycles happen every four years in these jurisdictions, including North Africa. So, that is not the major focus.  Their major focus is your FX. Just like we saw in 2015 elections, to a large extent, it was was one of the most volatile. But it didn’t affect our market as much as when we had FX problem that caused a recession, and everything went down. So,we have more economic crisis on the back of FX than on the back of politics. And that starts to show you the strong impact of FX. As our reserves started going downthen, even the local economy, industries and banks were recording losses and it had more catastrophic impact. Right now, especially local banks are doing well. So,the political noise even for locals or even foreigners is not as much as FX. FX for us is key.  If politics would have an impact on FX then everyone would start to run.

Whether it is the All Progressives Congress (APC) or the People’s Democratic Party (PDP) government, everybody is promising that they would improve infrastructure and when they say all these things, especially when you announce a huge budget, the concern is how to implement that budget because you would need a lot of FX, especially for your capital expenditure. So, the view right now is, will government be able to implement the budget. We have seen budget implementation of about 40 per cent, so we are estimating a 40 per cent implementation on the capital expenditure side. We have now looked at the FX component of that to see where the external reserves would be at the end of this year. So, the real watch for foreign investors is still not the political space, but how does this whole politics impact on FX.

So, what will you attribute the downturn in the stock market to?

The rhetorics by Donald Trump were largely of him trying to make America great again. People did not see that. But it is a key element in economics because while globalisation is the new world order, a man came and said ‘I want to close my economy,’ which is a complete change from what we understood. And so, what we have tried to see is that as he starts to do this, it is affecting every other economies. So, what do we then do as he is increasing interest rate, which is affecting Europe not just Africa. Monies flew from the US from the last financial crisis in 2008, to emerging markets. From a risk management point of view, US investors felt there was no need leaving all their monies in US. So, on their own, they started changing their strategy to invest part of these monies outside the US. And then trying to get of the recession, interest rate completely went down to zero per cent. So, if I would get zero per cent or negative returns, why leave my money in the US. So, a lot of monies naturally found their ways out of the US.

And so, a lot of monies it started flowing to emerging markets and then got to frontier markets such as Nigeria and that impacted the Nigerian economy massively.

So, presently, a lot of monies are flowing back to the US and there is empirical data to show all these. Now what is happening is that the whole of Europe, emerging and frontier markets are struggling to breathe.

So, it is not even about the elections. The Nigerian markets lost over seven per centin May. Seven per cent is small, when you compare that to what is really happening across frontier markets. While it was seven per cent in Nigeria, in Venezuela, it was about nine per cent. The MSCI index which is a key indicator of frontier markets of various countries lost about 10 percent in May alone. Nigeria lost seven per cent and was the second best performing frontier market in the world, while Turkey lost about 17 per cent in one month. So, you find out that we are still doing well. Why only seven per cent? It was because we were still coming out from a recession. So, you see that the real impact is not just that Nigeria is losing, but everybody is losing.

Nigeria’s valuation has gone down, but so is it with every other frontier market. So, there is a positive correlation across other markets and there is a global world order. Stock markets are repricing everywhere.  So, while we see a fairly strong half-yearresults, the stock market is not moving forward because as a country, have failed to develop stock market.

Between 1999 when we went back to democracy, if you compared the Nigerian stock market to that of South Africa 20 years ago, South Africa was about $500 billion in 1999, but today the market is about $1 trillion. The Nigerian stock market which was over $100 billion, today has reduced to over $40 billion. The Nigerian market has gone smaller in 20 years. That is because the regulators failed in their primary responsibility to develop the market.  Every time foreign investors come into our market, we go up and when they exit, it goes down. That is not a market. A market is built around three core investors: retail which covers roughly 30 per cent of an average stock market; localinstitutional investors control 40 per cent. So, about 70 per cent is localised and the remaining 30 per cent goes to foreigners. When the Nigerian Stock Exchange (NSE)publishes data, sometimes you would see foreign investors controlling 50-70 per cent. With that, you do not have a market. We are now seeing regulators wake up. The new Pension Reform Act that has created a tiered system has started trying to solve that problem whereby local institutions must be made to invest in the market one way or the other because you create stability.  

What can be done to deepen the stock market on the retail side especially in a country with a population of about 180 million people?

This was why I was drafted to join the Council of the Chartered Institute of Stockbrokers. When I left school, it was a pride to become a chartered stockbroker because it was still a developing career. That I think is the bane of the problem. The institute did not develop and we all started pursuing the stock market, we ignored risks and a few other things. So, I joined the Council and I am heading the Research and Technical Committee and these are some of the things we are handling.  So, the career did not evolve and that is why you see courses like the Chartered Financial Analyst (CFA) coming to compete with us. Today, you have almost 78 per cent of the total chartered stockbrokers are above 50 years old. And less than 30 per cent are below 50 years. And out of that, only about 18 per cent are below 40 years. We are not grooming young people and the problem started almost 20 years ago. The Institute of Chartered Accountants of Nigeria (ICAN) for example, would have died, but they saw the Association of Chartered Certified Accountants (ACCA) movedfrom theory to objective and they started to change their syllabus to compete. But we left the CIS static and we were not dynamic and so not many people were subscribing because they didn’t see stockbroking as a viable career. So, you are straight jacketed and because of that, you have trained many stockbrokers to just know equities and you didn’t train them to learn research. Not until international firms started coming into Nigeria that we started seeing research improve. So, that is the bane of the problem and we only have about 2,000 qualified stockbrokers in the whole country.

So, the more stockbrokers you have, the more you can push awareness. The former Director General of the NSE, Dr. NdiOkereke–Onyiuke tried in her own way to encourage NSE branches around Nigeria which have been shut down now. That wasn’t the best strategy, but at least something was happening. But that was done almost too late and at the peak of the market. And once the market started going down, everything crumbled. So, we have not been able to create enough awareness and we need to sit with the Securities and Exchange Commission (SEC) to come up with a proper strategy. So, when some of this noise were made, SEC came up with a 10–year masterplan and even the implementation is way behind with so many extraneous forces. They have written a lot of things and for two years, there is even no board to approve some of those initiatives.

So, there are too any issues in the capital market. A lot of the initiatives are already in the works, but we are behind again. By now, we were supposed to have started introducing investing in primary education in collaboration with the Ministry of Education because it is what people know that they would do. We are also pushing entrepreneurship. When I graduated about 20 years ago, we were only trained to carry our CV to look for an uncle for a job and you don’t even think you can start a business. The more businesses we start the potential for companies to come and list on the stock exchange. In ten years, we have had only two initial public offers (IPOs), the market is literary dead. We have had a few other public offers – Seplat, while Sahara energy, Interswitch and quite a number of them are waiting on the sidelines to list, but nobody wants to list today. MTN wanted to list but not in this current market environment because they would be mispriced. So, I don’t blame MTN to go quiet because no sensible CEO would allow it. It is not just the right time for MTN. So, since they have not announced it, I know nothing would happen again this year. It just doesn’t make sense.

What are your thoughts about interest rate in the country, compared to other frontier and emerging countries?

Where interest rates are right now are not attractive enough for the risk premium. Right now, we have Fidelity Bank’s Eurobond and if I need to earn 10 per cent in dollars I can get an investment in Nigeria here that would give me 10 per cent in dollars. So, why should I leave my money in naira that is uncertain?

Before, when dollar was doing 11 per cent, naira was doing 20 percent. So, a lot of foreign investors are saying we are investing in frontier markets and it is not as if we like Nigeria. Ghana is doing 18 per cent, their FX is stable and worst case it is hovered around three percent because there’s is manage float system. So, I would invest in Ghana and I’ll still walk away with about 15 per cent return. Congo’s treasury bills rate is up 30 per cent. In fact,banks such as GTBank, Access Bank, UBA, FirstBank are all in Congo because of this guaranteed interest rate. All their respective audited accounts for 2017, their most successful subsidiary was Congo because they are all making crazy money from the country. So, why would I leave my money here when there are better opportunities in other frontier investors? So, because of that, most of the portfolio money are just going out and Godwin Emefiele is doing a yeoman job. Oil prices have helped a bit, but that is not a long–term strategy. You always need portfolio money and how you use it is very important.

As you release one intervention fund, let’s say the Central Bank of Nigeria (CBN)wants to do N500 billion in agriculture, what we are looking at is the effect on the external reserves. If the Babatunde Fasholais honest to fix all these meters, which I heard another N72 billion is to be released to the Discos, all that money would be converted to dollars and it has to come out of the reserves. So, while we have huge infrastructure deficit, where would that entire dollar come out from to fix some of these things? So, every time they shout ‘development,’ we are looking at the impact on dollars. So, for Emefiele to continue to meet the overall dollar demand, you need to attract foreign investors and so interest rates must remain high.

 So, are you insinuating that there might be another dollar crisis in the medium term?

If you observe, even with high oil prices the external reserves have been dropping. Yet, we haven’t started spending for capital expenditure. Almost every week, at the end of the Federal Executive Council (FEC) meeting, they would announce approvals running into billion and all these are from the reserves. While people are happy that they want to grow the economy where is the money going to come from?  So, the country needs to raise more Eurobond because if the reserves go below $46 billion, FX speculation may start again. So how we have kept the reserves at $48 billion, people don’t know.

So, while on one hand he is trying to encourage local businesses, it is still not working which is why at the last MPC meeting he was angry that even the CBN would start investing in Commercial Papers (CPs).

With all you have said, you seem to be supporting that the federal government should borrow more. Don’t you think excessive foreign borrowing poses a risk to the system?

 Not at all. There is no problem in borrowing. The technique in borrowing is that it must be well structured. For example, if I borrow and it is project tied, like borrowing to fix the rail system it doesn’t matter how I borrow so far it works and people start to pay every day for it, and the cash is coming in. Then, I have solved a major problem. If rails are fixed all those trucks on the road wouldn’t be there anymore. People are buying trucks every day because the Lagos ports don’t serve Nigeria alone. From here, goods are transported to Chad, Niger and other countries. So, if you have a rail system, people would be able to move goods out. Without a rail system, we continue to hear we have minerals in Nigeria, but we cannot mine them because of how to get them to our ports. If you fix rail today, the GDP would double or triple, it would have a ripple effect on so many things.

We are seeing renewed interest in the CP market, what is aiding this trend?

CPs have increased largely because the banks have refused to drop interest rate. Depositors are seeing very low interest rates. So, because of that, banks have failed in their primary intermediation process. Banks in every part of the world are set up to do intermediation, which is collect deposits and then give it out as loans. Since they aren’t giving out monies as loans and doing treasury bills themselves, they have created a new market for commercial papers. CP in any market is a rate higher than deposits rates,but lower than bank interest rates. So, theCP market is getting very viable now because depositors instead of going to banks to deposit their monies are going to the companies to invest in CPs. So, the more CPs we get, the possibility of banks coming to do their roles of intermediation.When banking consolidation happened was when banks stopped doing their intermediation role because a lot of people were promoted above their competence. There was too much money far more than the competence level of many of the people managing the monies. And this is not trying to belittle any CEO. I was in the bank then and I saw where people were promoted far above their competence. Within the last 15 years, we have not trained real bankers. They have been pursuing money and that is all they know. So, we failed in banking to do intermediation. Which is why the CP market is the way to go and every one is doing CPs. Even the banks are doing CPs. If I have some bad loans, one way to manage it is to take CPs and use it to reduce it. Every normal company is going to continue to do CPs until banks go back to their intermediation role. People are taking their deposits from banks and investing in CPs at slightly higher rates as opposed to doing fixed deposits with the banks. So, gradually, intermediation is gradually coming into the fore because many of these things are going to the private sector. Dangote did the biggest CP. He has never done that. Before, he would be begging bank CEOs for loans. Before, they would tell you to pay down, year-end is coming and many other things. So, Flour Mills, Nigerian Breweries, Lafarge, Guinness, Wema Bank, Sterling Bank, Stanbic IBTC, everybody is doing it. CP is the new order of the day.

Talking about the capital market, you raised an issue about SEC’s 10–year master plan and the absence of a board. What are the effects on the economy?

Sadly, we need to fix this because you know that once you put people there you would need to give them time to implement strategy. Once you call someone an interim DG there are limits to what that person can do. So, while this DG is competent, she is limited because she doesn’t know what will happen. So, there are many things she cannot start and that delays everybody. We need to take the capital market seriously because it is a structural issue where she has her strategies and she can communicate it properly and she can appraise herself and look at things whether on a periodic basis within her tenure. We already have a master plan strategy so whichever DG comes in, you must take from that master plan and implement your own section. So right now, she is limited in her ability to execute.

This must be fixed very quickly. Sadly, politics has taken over again and we might see this delay till next year so each of this has huge long–term impacts on the market.

You just mentioned politics, how has it affected foreign direct investments (FDIs) right now?

It is affecting because once there is no substantive policy maker in place, FDIscannot come and negotiate. As a firm, there are quite a lot of people we are trying to bring in, but you are not sure who the substantive Minister of Finance would be by this time next year. So, FDIs are all on standstill and everyone is waiting on the sidelines. The same way FDIs are waiting, is the same way Foreign Portfolio Investors (FPIs) are waiting because companies also cannot list. Today, companies cannot list, which is another smart way of attracting money in. FDIsusually do PEST (Political, Economic, Social, and Technological) analysis and Nigeria is already failing a lot of things from the first one which is political. By the time the current minister of finance tells you her plans, maybe the next time you want to meet her,she might be doing politics and by the time you finally get a meeting in another two to three months, she might not be there to continue the implementation. So, you start all over again because all the commitment made by this person has changed. So much policy summersault is affecting FDIs and they are frustrated. A classic example is Procter and Gamble (P&G). It was as if everyone involved in that project was crazy. They invested $400 million in that project and within one year, it was shutdown. These people were sincere, and they did their analysis, they understood the market and committed that amount and now they are literally shutting it down. Now the whole US market has heard, and nobody wants to come and risk that kind of money again. That is a classic case of why FDIs are scared of the policy environment. FPIs are even better, because they can run away easily but FDIs are stuck.

So, your advice is to have policies that would outlive every administration?

Yes exactly. Where I personally think we failed is that in the 70s, we used to have developmental plans where everyone was clear on what was happening. Since the end of the Second Republic, all these things died. Sadly, Buhari took over then and scattered a lot of things and since then, every successive administration even all the vision 2010 and vision 2020 they all failed. Today, we don’t have a master plan. Whether APC or PDP where is that 10–year strategic plan that everybody must take from? So, APC would start their own, PDP may come in and scatter it. Even within a party, former President Obasanjo had great policies, but late PresidentYar’Adua came in and reversed nearly half of them even though they were from same political party.

Can you tell us about CardinalStone, your projection for the company and some investments you done in the past?

CardinalStone was formed in 2008 by four partners who came together. The unique thing is that the four of us have specialties in four different areas of investment. So, it was a very unique association. And then we partnered with a man called Mr. Fola Adeola who founded GTBank. So, he is an investor and also the chairman of CardinalStone. We started at a wrong time when not many people would be starting a business because this was in 2008 in the middle of the financial crisis.

But I had always wanted to be an entrepreneur. I started my career with investment banking and trust company which is now called IBTC, with Mr. Atedo Peterside. Then I joined Zenith as the MD of Zenith Investment arm. I then moved to Renaissance Capital as the pioneer head of equities before we started this company. And we have been able to do very interesting things. Within five years, we became one of the top stockbroking firms in Nigeria till now. On the investment banking side, we are doing quite well. So,we do all the various areas of investment banking; principal investment, asset management, securities trading and private equity.

On investment banking, we are doing quite a lot of transactions. Notable this year, we are the ones helping AMCON to sell Peugeot Automobile. We are also helping them sell Consolidated Discount House. We helped Healthplus, a pharmacy chain by raising $18 million to help them become the number one pharmacy chain. They are now opening over 200 branches around the country and would be the undisputable number one.  Now, we are helping FIDSON raise $5.4 billion and the rights issue would start later this month. So, that is the investment banking side.

In asset management, from zero, we have over N100 billion under management. We would be launching our mutual funds later this year.

 And then on the principal investment side, because Mr. Fola Adeola would always tell us that ‘you must create long–term value,’ to build sustainable long–term business, invest your profit in real businesses. So, because of that, we went into high growth liquid businesses. We have the biggest cassava farm in Africa called Crest Agro, which is largely to process industrial starch. So, we are growing cassava to ensure we produce starch because the demand is phenomenal. And the most recent business we have done is a data administration business. We also bought a Registrar business, which was formerly CSL Registrars. We also have an archiving business which is unique. It is the biggest single storage factory automated in Nigeria. This year, we just closed a $50 million fund raising. So right now, we are looking for businesses to invest a minimum of $5 million and maximum of $12 million.  

Are there any final words for your stakeholders?

I think we should believe in Nigeria, the future is very bright. If we can get our policies right. Our country has tremendous opportunities. We only see opportunities in CardinalStone and that is because we spend a lot of time doing research.