Long term finance and capital markets in Africa

Considerable progress has been made over the past decade on access to financial services, especially mobile financial services, as well as on the development of financial markets. However, there is still a long way to go in developing long-term finance on the continent. While there is consensus on the need to continue reinforcing local financial markets as the main mean of intermediation, most countries and international institutions are exploring new mechanisms to increase the long term finance flows to developing countries.

Total domestic and external financial resources have traditionally fallen far short of the African continent’s financing needs. This resource gap in developing countries has been particularly exacerbated during the pandemic period worldwide. Beyond fiscal and external deficits, the gap is estimated taken into account the necessary expenditure to meet the Sustainable Development Goals (SDGs) of the 2030 Agenda. According to OECD (2020) estimates, the SDGs unmet financing needs annually before COVID-19 were US$2.5 trillion. On the other hand, the OECD has estimated that the pandemic has increased funding needs by an additional US$1 trillion, of which US$0.3 trillion is for the African continent. Given that the pandemic has reduced the availability of private funds from abroad by US$0.7 trillion, the gap caused by the pandemic has increased to US$4.2 trillion.

Overview of African Stock Markets (ASMs)

With the exception of just a few stock exchanges, most ASMs have emerged recently during the late 1990s and the XXI century and they are still small and fledging in comparison to their counterparts in other regions. The market capitalisation of the JSE alone accounts for more than 80% of the entire ASMs, while the rest of the stock exchanges are characterized by low market capitalisation, few domestic companies, small size of listed firms and low levels of liquidity with few shares mostly dominating total trading activity. However, the prospect for potential growth is significant.

It is important to point out that market capitalization in Africa has increased significantly over the last two decades. Constrained liquidity is a key challenge for many ASMs. African stock markets are also characterized by high transaction costs, which include clearing and settlement fees, brokerage commissions and exchange fees. While liquidity in ASM is low on the back of higher transaction costs, there are critical policy initiatives being implemented with the aim of improving the workings of the stock markets. For instance, the African Securities Exchanges Association (ASEA) is promoting cross-border trading of securities in Africa and the connection to other Stock Exchanges outside the continent through the African Exchanges Linkage Project (AELP). This initiative is contributing to enhance the liquidity and depth of capital markets while attracting new investors.

African Debt Markets (ADMs)

Overall, African countries have also made substantial progress in developing their debt markets on the back of new products, regulatory improvements and more responsive economic policy. At the country level, policies designed to strengthen public sector capacity are gradually improving transparency. African debt capital markets are dominated by government, corporate investment grade and corporate high yield debt. Government bonds represent the majority of long-term securities issued on the ADMs, accounting for more than 80% of all debt issuances in 2019. African governments issued over $200 billion sovereign bonds in 2019 alone. Also, the recent decade has also witnessed the proliferation of Eurobonds issued by African countries. The largest issuer of Eurobonds from 2010 to 2021 is Egypt, followed by South Africa, Ghana and Nigeria. However, the corporate bonds market is nascent and remain undeveloped in many African countries with the exception of South Africa that accounted for over 40% of corporate bond issuance in 2019.

The recent development of debt markets has benefited from the support of the African Development Bank (AfDB) and a group of African Central Banks. The African Financial Markets Initiative (AFMI) launched in 2008 contributed to improve the accessibility and reliability of information that was regularly updated through a network of liaison officers in 30 African Central Banks. Through this initiative, the Banks developed the African Financial Markets Database (AFMD) and launched the first ETF (Exchange Traded Fund).

Another important characteristic of the African debt market is the low ratio of outstanding debt to GDP. Most African countries bond outstanding to GDP is below 40%. The higher debt-to-GDP ratio signifies a greater exposure to credit risk. Although, there is no optimal debt-to-GDP ratio, IMF suggests a higher ratio can lead unsustainable debts levels.

Long-term finance

The current African financial markets infrastructure confirms that, despite the positive evolution over the past two decades, the size and performance is still not sufficient to meet the financing needs, particularly as regard to long term finance. There have been recent few public initiatives aimed at broadening and diversifying the sources of long term finance available in the continent beyond the efforts to expand and reinforce traditional financial markets.

Institutional investors

Institutional investors such as pension funds, sovereign wealth funds (SWFs), and insurance companies hold the necessary resources to enable the Multilateral Development Banks to scale-up from “billions to trillions” at a global level. As at the end of 2020, institutional investors, together with commercial banks, collectively have about US$ 120 trillion in assets-under-management (AUM), which are expected to grow at 5% annually. Only about 0.1% of the global assets and 12% African institutional investors’ assets would be needed to bridge the continent’s annual US$ 107 billion infrastructure gap. The African Development Bank (AfDB) started working on long term finance with a focus on institutional investors during the preparation of their first African Investment Forum held in 2018. Most issues that hinder institutional investors from entering the African market were associated with the lack of information on appropriate investment opportunities and their limited capacity to assess and mitigate risks related to their investments given the high transaction costs.

The Africa Long-Term Finance Initiative (ALTFI)

Information and data on the availability of long-term finance in Africa has been scarce, spread across numerous sources, or simply unavailable. MFW4A, along with FSD Africa, GIZ and the AfDB launched the Africa Long-Term Finance Initiative (ALTFI) in 2017 to take a more comprehensive approach to LTF. ALTFI brings together existing sources of information as assembled by third parties and augments the availability of data as regards long-term finance through collection of primary data. Their Scoreboard provides benchmarking that facilitates comparison of how countries are performing relative to others, thereby engendering interest in long-term productive finance and applying peer pressure among country stakeholders.

Financing infrastructure, capital markets and private equity

Most of the African countries have a deficit of basic infrastructure in transport, telecommunications, energy and water supply; which are essential to enhance the economic and social development of the region. Funds coming from the region are limited, but there is great interest from international investors, who have funds to finance all needs and are able to participate in these projects. African capital markets are not currently able to offer an adequate framework to channel the capital necessary to meet the potential demand for the development of infrastructure projects. However, there is a way for venture capital from foreign capital and institutional investors to provide resources to finance infrastructure projects. African Private Equity and Venture Capital Association suggest that, the number of projects financed with venture capital in Africa has increased in 2020. About, 319 projects have been financed in 2021, although there has been a decrease in the volume financed.

About the author

Albert A. Agyemang-Badu is a researcher for AMENET based in Spain. He is also a lecturer in the Department of Accounting and Finance at Spiritan University College, Ejisu, Kumasi, Ghana. He holds a PhD in Economics and Business from the Universidad Autonoma de Madrid, Spain where he examined the linkages between African financial markets and political uncertainties. He also holds an MPhil in Finance from Kwame Nkrumah University of Science and Technology, Ghana. His research focuses on African financial markets, econometric modelling, quantitative finance and development economics.