Executive Summary

• Fixed Income: Treasury Bills were oversubscribed during the month as investors sought to lock in high yields before they declined. The 5-year bond issued by Treasury was highly oversubscribed;
• Equities: The market gained during the month with NASI, NSE 20 and NSE 25 rising 4.5%, 3.8% and 3.5%, respectively. Listed banks finished releasing their Q3?2015 results with average growth at 10.4% compared to 15.2% same time last year;
• Private Equity: Global firms continue to target Kenyan market, with attention shifting away from financial services towards retail and telecommunication;
• Real Estate: Kenya as an investment destination continues to attract international players into the real estate market.

Company Updates

• Duncan Lumwamu, our Senior Investment Analyst, discussed the Kenya Shilling and the closure of Atlas?s Kenya subsidiary: Duncan Lumwamu on CNBC Africa.
• We continue to beef up the team with the following ongoing hires.

Fixed Income

Subscriptions on Treasury Bills remained high during the month, with overall subscriptions at 345.1% compared to 357.2% in October. Despite the oversubscription, yields on T-bills declined drastically during the month, with the 91-day, 182-day and 364-day papers closing the month at 9.2%, 10.1% and 11.9%, down from 22.5%, 22.3% and 22.4%, respectively at the beginning of the month. The decline can be attributed to:

• Improved liquidity in the money market as can be witnessed by the reduction of the interbank rate from 12.8% in October to 6.2% in November,
• Support of small banks by the Central bank through reverse repos in the month of November as CBK injected Kshs. 81.0 bn,
• Participation by Foreign investors to take advantage of the high yielding government securities, and,
• Flight to safety from small banks after the closure of Imperial Bank, to ?safer? government securities.

The oversubscription and decline in yields has not carried forward through this week, with T-bills registering a subscription rate of 82.6%, and yields climbing to 9.2%, 10.6%, 12.2% for the 91-day, 182-day and 364-day papers, respectively, compared to 9.2%, 10.1%, 11.9% the previous week.

During the month, Treasury issued a 5-year bond to raise Kshs 20 bn for budgetary support, an indication that the Government is now willing to raise medium-term funds at the prevailing interest rates. With majority of investors (i) demanding a premium above a similar tenor instrument in the secondary market, and (ii) looking to lock-in the prevailing attractive yields, the bond was oversubscribed with overall subscription coming in at 165.0% with the yield averaging at 13.9%.

The shilling remained relatively flat during the month against the dollar, shedding 0.3% to close the month at Kshs. 102.1, from Kshs. 101. The forex reserves have remained healthy closing the month at 4.3 months of import cover. The improvement in reserves can be partly attributed to increased foreign inflows for government bond in the month, inflows from the syndicated bond issued by treasury and increased diaspora remittances.

The Monetary Policy Committee (MPC) met during the month and maintained the Central Bank Rate (CBR) at 11.5% noting (i) stable liquidity conditions in the money market, (ii) inflation is still within the CBK target of 2.5% to 7.5%, ( In November it came in at 7.3% against our target of 7.1%), and (iii) foreign exchange reserves, currently at 4.3 months of import cover, together with the USD 688 mn International Monetary Fund (IMF) facility, being able to provide sufficient buffer against unexpected economic shocks.

National Treasury revised their GDP forecast down to 5.8% from the 6.9% they had forecasted at the beginning of the year citing: (i) the effects of a tight monetary policy, and (ii) the negative impact that the El-Nino rains will have on growth. This came after the World Bank had revised GDP projections from 6.0% to 5.4% while the IMF revised their projections twice, first from 6.9% to 6.5%, then finally to 6.0%. At the beginning of the year, the growth of 6.9% seemed achievable, pinned on high government spending on infrastructural developments but over the course of the year, (i) weaker than expected company earnings which affects revenue collection, (ii) a depreciating shilling which has affected companies which rely on imported inputs, (iii) the high interest environment which discourages credit uptake, and (iv) increased cases of corruption and mismanagement of public funds made 6.9% growth unachievable. According to our projections we expect the economy to grow at between 4.7% - 4.9%.

The Government is ahead of schedule with its borrowing programme having borrowed Kshs 135.5 bn for the current fiscal year compared to a target of about Kshs 95.8 bn, assuming a pro-rated borrowing throughout the financial year of the Kshs. 219 bn budgeted for the full financial year. Interest rates have declined significantly during the month, however given (i) the pressure on the government to refinance their obligations, with Kshs 58.6 bn and Kshs 85.9 coming due in December 2015 and January 2016, respectively, and (ii) inflation approaching the 7.5% upper limit, currently at 7.3% this month, we are of the view that rates will rise again. We therefore maintain our view that investors should be biased towards short-term fixed income instruments given the uncertainty in the interest rate environment.

Equities

During the month, the market was on an upward trend with NASI, NSE 20 and NSE 25 gaining 4.5%, 3.8% and 3.5%, respectively, on the back of gains in large caps led by Safaricom, Co-operative bank and Bamburi which rose 8.5%, 7.7% and 6.9%, respectively. Since the February Peak, NASI and NSE 20 have shed 19.3% and 27.4%, and down 12.0% and 21.9%, respectively, on a YTD basis. NSE 25 index is down 0.2% from inception to date. This week, the market registered mixed performance with NASI rising 0.3% while NSE 20 and NSE 25 fell 0.1% and 0.3%, respectively.

Equities turnover fell by 25.7% during the month to Kshs 13.1 bn from Kshs 17.7 bn in October. Foreign investors were net sellers with net outflows of Kshs 1.5 bn, compared to net inflows of Kshs 871.5 mn witnessed in October. The sustained foreign investors net outflow can be linked to a shift in global investor portfolio flows based on the impeding rate increase in the US that has reduced their risk appetite for securities in emerging and frontier markets.

The market is currently trading at a price to earnings ratio of 12.9x, versus a historical average of 13.8x, with a dividend yield of 4.1% versus a historical average of 3.3%. In our view, given the challenging operating environment in 2015, which has resulted in low earnings growth, we expect market activity to remain subdued. The charts below indicate the historical PE and dividend yields of the market.

Listed banks released their Q3?2015 results, recording an average growth in earnings per share of 9.3%. This was lower than the whole banking sector?s growth in earnings of 9.8%. The key highlights were as stated in our Cytonn Report #45

Following the release of all Q3?2015 results amongst the listed banks, we shall be releasing our banking sector report on Monday 7^th December. Below, see an earnings summary for listed banks with normalised 2015 EPS growth:

*Core earnings growth excluding one-time items

Based on the above growth, we can bucket the listed banks into four main buckets:

• Negative growth banks: CFC and SC
• Anemic growth banks, with below 10% growth: HF, NIC, Barclays
• The stable growth banks with 10% and above growth: Equity, KCB, I&M, and DTBK.
• The strong growth, with above 20% growth: NBK and Coop. It is notable that all strong growth banks were mainly driven by expense containment and one-off gains, whereby revenue growth far outpaced expense growth, leading to strong PAT growth.

This week, we note that CBK has arrived at an agreement with commercial banks Diamond Trust Bank and Kenya Commercial Bank to allow depositors of Imperial Bank to access their deposits. In this arrangement, each depositor will be paid up to a maximum of Kshs 1.0 mn, out of which 44,300 depositors will be paid in full while the remaining 5,700 depositors who held more than Kshs 1 mn will get partial repayment to a maximum of Kshs 1.0 mn.

The remaining deposits (and loans) will be subject to a due diligence review by KCB and DTBK. This will inform what portions can be transferred to KCB and DTBK and under what terms, with the process expected to be complete by end of March 2016. We view this as positive in terms of (i) allowing depositors to access part of their funds, and (ii) restoring a sense of confidence back in to the banking sector. However, the CBK is yet to prove to Kenyans that a bank can be put under receivership, closed and re-opened successfully. The longer the time taken to reopen the bank the more likely that it shall not re-open. Despite assurances by the governor that Imperial would reopen, it obviously won?t reopen. Hopefully the lessons learned here are (i) not to close a bank if there are any intentions, however small, of reopening the bank, (ii) past shareholders cannot be constructively part of a plan to re-open a troubled bank. As mentioned in our past weekly, any reopening plan that is dependent on recapitalization from past shareholders without offering immunity from any future prosecution is not workable. When the US Federal Deposit Insurance Corporation (FDIC) dealt with troubled commercial banks during the financial crisis, they did not depend on the contributions of past shareholders and they were keen not to close banks, they gave them to the best bidders, some at throw away prices, the key was to keep banks open and operating. Imperial, based on what we know, could have been handled a lot better.

Uchumi Supermarkets reported Full Year 2015 results, posting Kshs 3.4 bn loss after tax, compared to a profit of Kshs 364.3 mn from the same period last year. Losses were driven by a 10.4% decline in revenue to Kshs 13.0 bn, while operating expenses rose 33.1% to Kshs 4.8 bn owing to a one-off Kshs 1.6 bn impairment provision for the closed branches in Uganda and Tanzania. The retailer also charged a Kshs 1.0 bn write off resulting from management misrepresentation of their previous financial statements. Despite these one off items, core operations were still in the red, with core earnings at a loss of Kshs 864 mn. Following the change of leadership, the company has embarked on a turnaround strategy to revive the retailer using a three point approach that includes (i) stabilization of their business by focusing on profitable and manageable stores, (ii) optimization i.e. ensuring their stores are optimally stocked, and (iii) growth phase by focusing on their niche which is the mass market. The execution of this strategy is still at its initial stage and Uchumi will have to work hard to catch up with its peers and unlock the value the retail chain possesses.

We remain neutral with a bias to negative on equities given the lower earnings growth prospects for this year. The market is now purely a stock pickers? market, with few pockets of value.

Private Equity

In the month of November, there was a heightened level of activity in the private equity space, across most sectors, including retail, real estate and telecommunications.

During the month, Choppies Enterprise, a leading Botswana Stock Exchange listed supermarket chain, was given a go ahead by the Competition Authority of Kenya to acquire Ukwala supermarkets at Kshs 1.0 bn. Choppies is set to acquire all 10 stores owned by Ukwala Supermarkets, 6 of which are located in Kisumu, 3 in Nairobi and a single outlet in Nakuru, effectively valuing each store at Kshs 100 mn. The Kenyan retail market has attracted several international players including the French retailer Carrefour and South Africa retailer Game. Choppies entry into the Kenyan market will spur competition to the existing players, particularly in the mass-market space currently dominated by Tuskys and Naivas.

Helios Investment Partners has signed an agreement with The Orange Group, for the sale of its entire 70% stake in Telkom Kenya for an undisclosed amount. In our view Helios seeks (i) to tap into the telco?s real estate assets, (ii) maximize value and optimize the telco?s 23% ownership in TEAMs fibre optic cable network and a 10% ownership in LION2 fibre optic cable network, and (iii) improve on the data/internet offering, having local exposure already through a strategic holding in Wananchi Group Holdings. However, as witnessed recently, Safaricom is seeking a court injunction to block the sale of the 70% stake in Telkom Kenya until it is paid a Kshs 639 mn claim against the telecommunications company. In as much as the case may or may not have merit, we view such cases as negative towards attracting foreign capital into the market, with Helios poised to complete the sale. The courts should fast-track such matters to increase ease of doing business by global players such as Helios looking to drive efficiency in the market.

Real Estate

This month has seen key international players coming into the real estate market in Kenya, mainly because of (i) growth in the middle-income segment of the market, which is driven by both the formal and informal sectors, (ii) growth of satellite towns in the Nairobi metropolis, which have been made accessible for development due to the infrastructural upgrades in and around Nairobi, and (iii) the emergence of institutional developers who are focused on catering for the inherent demand in the economy created by the housing shortfall and local Government?s inability to provide basic services.

South African firms have recently exhibited an increased appetite for sub Saharan markets such as Kenya and Nigeria markets:

• The largest listed REIT in South Africa is planning to enter the Kenyan real estate market via its Pan African Fund. Growthpoint will be targeting to raise USD 500 mn to invest in real estate across select markets in Africa. The Pan African Fund will be targeting to invest 80% of the fund in income properties with the remaining 20% being invested in development properties. Some of the properties that the fund will be targeting to invest in include shopping malls, offices, hotels and warehouses.
• Delta Africa Property Holdings has entered into an agreement to buy 45.5% equity in Buffalo Mall for Kshs 418 mn. The deal is estimated to be finalized by March 2016. The purchase at Kshs 418 mn values Buffalo Mall at approximately Kshs 1 bn.
• Hyprop Investments Limited (Hyprop) a South African Real Estate Investment Trust (REIT)and Attacq Limited (Attacq), a JSE-listed real estate capital growth fund have acquired Ikeja City Mall, Lagos? largest mall comprising of over 22,000m² and has a tenant mix anchored by Shoprite and several other global luxury stores, with their holdings at 75% and 25%, respectively.

This month, the results of the Stanlib Fahari I-Reit were announced and they raised Kshs 3.6 bn out of the targeted Kshs 12.5 bn, which is 71.2% below the maximum amount that would have been raised. The REIT is currently up 6.3% at Kshs 21.2, while on the first day of trading, each REIT unit was trading at Kshs 23.75 which is an 18% increase from the Kshs 20.0 IPO offer price. The Fahari I-REIT was, however, not well taken in the market as compared to previous IPOs. The REIT Manager will spend the funds raised from the IPO to buy Greenspan Mall. The mall has been valued at Kshs 2 bn and will consume 55.6% of the funds raised. In our view this will be a very high concentration, and investors will be looking towards the REIT manager to raise more money in the future to assist with the portfolio diversification. The current yield on Greenspan is about 8.1%. Stanlib also plans to buy Highway House, an office block in Nairobi?s Industrial Area and Bay Holdings Industrial Area Branch?a warehouse- for a combined Kshs 318 mn, with the possibility of investing in five other office blocks in Nairobi, a shopping mall and an office block in Mombasa.

In summary the Real estate market is undergoing a lot of transformation and we see institutionalization of real estate development being the new way and this is really good for the growth of the market as it helps attract foreign capital into the Kenyan Market.

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Disclaimer: The views expressed in this publication, are those of the writers where particulars are not warranted- as the facts may change from time to time. This publication is meant for general information only, and is not a warranty, representation or solicitation for any product that may be on offer. Readers are thereby advised in all circumstances, to seek the advice of an independent financial advisor to advise them of the suitability of any financial product for their investment purposes.