Avoid Nigeria ETF Amid Economic Challenges

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Includes: AFK, EEM, NGE
by: Zacks Funds

Nigeria is battling a contracting economy and surging inflation amid a rigid exchange rate environment. The largest economy of Africa's interest rate was kept unchanged at 14% in the March 20-21, 2017, MPC meet.

The economy maintains a managed currency float for its Naira, and has stopped importers from buying dollar on the official market, where the government thinks the goods imported by those companies are not essential to the economy. These measures have led to a rapid increase in consumer prices.

The economy contracted 1.5% last year. The country has limited foreign currency reserves to import essentials like motor fuel and food, which have driven inflation to its highest level in more than 12 years this January. The price growth slowed for the first time in 16 months to settle at 17.8% in February, but was still beyond the government's target of 6-9%.

Economists believe that last year's contraction was led by a slump in crude prices, the nation's biggest export. Although an OPEC deal to cut production was agreed upon, which gave a boost to crude prices initially, recent news has indicated that not all countries have successfully implemented the cut, which dealt a heavy blow to crude prices.

The government has proposed cost-reflective electricity tariffs and market-determined exchange rates. It also plans to boost the output of rice to cashew nuts in a bid to reduce the cost of food and provide some respite against growing inflation in the country. However, the increased electricity tariffs could decelerate the impact that rising food prices would have on inflation.

Owing to the growing uncertainty in Nigeria's economy and the bleak Naira prospects, it seems prudent to avoid a particular Nigeria ETF at the moment.

Global X MSCI Nigeria ETF (NYSEARCA:NGE)

This fund provides equity exposure to the largest economy in Africa and seeks to replicate the MSCI All Nigeria Select 25/50 Index.

The fund manages AUM of $39.4 million and charges a fee of 68 basis points a year. It bears significant concentration risk with over 76% allocated to its top 10 holdings. Financials, Consumer Non Cyclical and Basic Materials are the top three sectors, with almost 85% of fund assets allocated to them. The fund lost 5.6% in the year-to-date time frame and 33.1% in the past one year. As such, NGE currently has a Zacks Rank #4 (Sell) with a High risk outlook.

For comparison purposes, we will now compare NGE's performance to AFK, which is a broader-based African ETF having exposure to major African economies.

VanEck Vectors Africa Index ETF (NYSEARCA:AFK)

This fund has over 50% allocation to Africa, covering economies like South Africa, Egypt, Nigeria, Morocco, Kenya and Mauritius. It also invests in offshore listings of companies incorporated outside of Africa but that generate at least 50% of their revenues in Africa.

The fund manages AUM of $68.3 million and charges 80 basis points in fees per year. It is concentrated, with 43% of its assets allocated to the top 10 holdings. Financials, Basic Materials and Consumer Cyclical are the top three sectors, with almost 65% of fund assets allocated to them. The fund returned 7.5% in the year-to-date time frame and 11.9% in the past one year. As such, AFK currently has a Zacks Rank #3 (Hold) with a Medium risk outlook.

We will also compare the performances of these ETFs with a broader global emerging market ETF, EEM.

iShares MSCI Emerging Markets ETF (NYSEARCA:EEM)

This fund is most popular in the emerging market space with almost $30 billion in AUM.

China, South Korea and Taiwan constitute more than 50% of the fund's exposure. Around 20% of the assets are allocated to its top 10 holdings. It charges 67 basis points in fees per year. Financials, Technology and Consumer Cyclical are the top three sectors, with almost 60% of fund assets allocated to them. The fund returned 14.2% in the year-to-date time frame and 19.8% in the past one year. As such, EEM currently has a Zacks Rank #3 with a Medium risk outlook.

(Source: Google Finance)

It can thus be seen that the broader emerging market ETF, EEM, has outperformed both the broad Africa-based ETF and the Nigeria ETF. Amid the high uncertainty surrounding the Nigerian economy, investors looking to gain exposure to African companies should consider tracking AFK.

However, investors looking to gain broader emerging market exposure without any inclination toward Africa in particular should consider tracking EEM, as it provides a global diversified exposure, thereby significantly reducing the risks inherent in such investments.

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