If you are particularly a Ugandan in the diaspora or have awareness of the interest rates in markets such as the US and the UK you will know that the Bank of England’s base rate is 0.5%. The Fed rate in the US is presently 0.25%. This is the rate that basically determines lending rates by commercial banks and thus the interest rates they pay on savings. The UK rate is not expected to change for say the next 3 years i.e until 2015, I expect the same for the US rate. You can therefore expect that the interest you will receive on your savings will be close to zero.
The search for investments paying a “good” return is never-ending in these challenging times. One option is to consider investing in stocks and bonds in the Uganda Securities Market (USE).
First the basics of what stocks and bonds are and how the stock market works.
Stocks (using an example)
Stocks also called shares or equities are a “slice” of the share capital of a company that are offered to the public. If a company has say UGX 1m in share capital and each share is say worth UGX 1 (nominal price), there are therefore 1 million shares. The company can then choose to say offer 20% of these shares to the public. It in other words offers 200,000 shares to the public. It however does not offer them at the nominal price but issues them at UGX 2 each (thus at a premium).
As an investor, you could buy say the 20% of the shares ie (200,000 shares) at Shs 400,000 (UGX 2 x 200,000). You can then choose to sell these shares say at UGX 4 each hence for Shs 800,000 and make a profit of UGX 400,000. The sale and purchase of shares is really how the stock exchange works, it connects buyers and sellers of a public company’s equities.
Bonds (using an example)
Just like shares are a means of a company raising financing (as usually the shares are issued at a premium) as in the above example, bonds are also another means of a company (or say government) raising finance. The difference is that a share gives you part ownership in the company whereas a bond is similar to an “IOU” in other words the issuer of the bond (say the company) promises to pay you on a future date (say 3 years) the principal amount of the bond (or the amount you are lending it) plus interest.
A “3 year 10.25% Treasury bond of UGX 1m” therefore means that the issuer of the bond (in this case the Government of Uganda (GOU) will in 3 years pay you back the principal of Shs. 1M plus interest of 10.25%. The interest is usually paid semi annually.
Just like shares, bonds can be traded on a stock market. In other words an institution such as National Social Security Fund (NSSF) will buy bonds during an auction but say in the unlikely circumstance that they do not wish to hold the bonds for the maturity period i.e. the 3 years, they can choose to sell their bonds on the stock market. The person purchasing the bonds will often buy them at a premium or discount (dependent on the market interest rates). If the investor purchases the bond at a discount, it means the investor pays less than the face value of the bond and will enjoy the interest on the bond for the rest of the maturity period plus the discount on purchase of the bond.
But what about investing in shares and bonds on the USE?
USE and its “bull market” phase
The USE has only been in existence since June 1997 and is now in its 15th year. It is still very much an emerging market as of course when compared to markets such as the New York Stock Exchange (NYSE) which was formed in 1792, the London Stock Exchange (LSE) which was founded in 1801 and the Tokyo Stock Exchange (TSE) in 1878.
This however works to its advantage. Emerging markets’ stock exchanges often have significant increase/growth in the early years as they develop and as such are typically “bull markets” (a market where prices are rising or expected to rise). The statistics for the growth of USE’s All Share Index (ALSI); a measure of all the companies listed on the exchange for example shows that the share price has generally been rising except for 2008 the peak of the credit crisis.
The bond market is also experiencing increased growth and per the 2010 USE annual report the activity increased 4%.
The above seems promising so is it worth investing in stocks and bonds via USE?
FIRST THE CONS (of course)
1. Low Liquidity owing to low volume of trading
Despite the increasing activity on the USE, as we are still an emerging market, the volume of trading is pretty low and some shares on the basis of the trading statistics in fact have no activity for a day or couple of days.
This means to consider investment in this, especially for profit purposes, the focus should most likely be on those shares which have the highest trading volumes as you can expect these will be most representative of an active market in which you can buy or choose as you wish without time delays in finding a seller or buyer.
2. Foreign Exchange (Forex) losses
A key consideration in investing in the USE especially if a Ugandan in the diaspora is to give consideration to the exchange rate movements. The shilling has over the last 5 years been depreciating against the pound sterling (GBP) and the US Dollar (USD) and therefore if you are investing say in a 3 year bond then you need to consider how the exchange rate depreciation might move and thus affect the value of your investment.
AND NOW THE PROS
1. Good returns for stocks owing to bull market tendencies
In light of the CONS highlighted, the clear advantage for the investor who has access to other stock exchanges but who wants to invest in the USE is to consider investing in holding stocks in the short-term i.e say a year before selling them as in a bull market (as happens with USE), it is expected that share prices will rise.
2. No capital gains tax
One of the key advantages of shares is that there is no capital gains tax (CGT) chargeable. Capital gains are the profit made when you sell shares at a higher price than you bought them. The investor can therefore enjoy their profit tax-free. It is not uncommon to pay CGT in more developed economies.
On the basis of the Pros above, I therefore summarise the financial model below.
- Start up Capital (A): Shs. 18,931,650
- Profit per year (B): 12, 586,182
- Other costs (C) (broker fees and Forex losses): Shs 1,145,357
- Return on Investment/Capital (years to get capital back) (A/ (B-C)): 1.65 years
Now the basics you must get right before investing.
- Act through a broker. As the clear winner is considering equity investments for a short while, it is most likely necessary to have an investment broker who will give you regular reports and guidelines so you can carry out your buy and sell strategy. Capital Markets Authority (CMA) the regulator for USE has a list of brokers, fund managers and investment advisors.
- Research. If you choose not to use a broker, then the least you can do is research extensively on information such as prices and qualitative information on your target. The financial statements and press reports/stories give you an indicator of the nature of the entity. There is of course a limit to this research; past performance does not equal to future performance. Your broker/advisor can most likely help you in this aspect as well.
Whilst you may not be a pro at the open cry auction system that the USE uses and considering you might not be interested in the intricate details of how stock markets work, there is definitely a lot of merit in investing in the USE considering that despite the CONS such as Forex movements, there can be returns in just over 1 year which can be much better than investment say in fixed savings accounts in the UK or US.