I met a returned Peace Corps volunteer a few years ago. He’d served as a school teacher in Kenya in the late 1960’s, and, like me, he’d felt an affinity for the continent ever since.
As we chatted, I told him about my interest in investing in African stock markets. He was intrigued by the idea but made clear that it wasn’t his cup of tea. “Something about profiting off of Africa doesn’t feel right to me,” he said.
The comment stung because it insinuated that I wasn’t investing — but profiteering.
It implied that the relationship between Africa and the rest of the world should be one of donor and recipient. A place apart where investors should not expect a fair return.
I’ve never perceived the benefits of investing in African stocks to be a one-way street. Quite the contrary, I believe participation in African markets is a vote of confidence in the continent’s future that benefits both Africans and investors. Unfortunately, I could muster no articulate defense of this belief at the time.
So, in the event that you meet a similar skeptic, I will try to make the case that investing in African stock markets actually precipitates economic development — and thus combats poverty.
African stock exchanges allow companies to grow more rapidly
Suppose a cement company sees an opportunity to expand into a market where concrete is in heavy demand. They will need to build a new plant to compete in the market, but building a manufacturing plant isn’t cheap, and the company doesn’t have enough cash on hand to finance construction.
So management is left with two basic options — seek a loan (debt) or sell a stake in the company (equity).
Debt is a straightforward option. The company takes out a loan from a bank or other lender and repays it over time. The disadvantage is that debt isn’t free. Interest charges will cut into the profits from the new plant. Plus, the more indebted a company becomes, the more difficult it will be get additional loans.
Equity, on the other hand, comes at a lower cost. Investors pay in capital to the company in exchange for partial ownership in the form of stock. The holders of these shares will have a say in the management of the company, but only in proportion to the size of their holding. The company essentially gets a free infusion of expansion capital.
The cement company opts to raise equity capital on the local stock exchange. It lists shares in an initial public offering (IPO), investors purchase the shares, and the company uses the proceeds to build its new cement plant. The cement plant employs hundreds of people and lowers the cost of cement in the region – combating poverty through job creation and reduced cost of living.
African stock markets help stem capital flight
A middle class African citizen has saved a small nest egg and is looking for a place to invest it where it can earn a return higher than the interest rates offered by banks. So, he or she invests in a UK or US-based mutual fund. In countries without formal tax collection processes, it’s likely that the government will miss out on tax revenue on dividends and capital gains collected by the investor. The investor’s home currency will also be weakened in relation to every pound or dollar he or she purchases.
If this same investor had the option of investing in a local stock exchange, the capital may never have left the country. Taxes could have been collected with each transaction and the depreciation of the currency would have been avoided.
So, a local stock exchange can put additional revenue in government coffers, which can, in turn, be invested in education or health.
African stock markets facilitate privatization
Let me be clear, that I have concerns about the privatization of certain services – like electricity, water, and health care. But many African governments run a host of enterprises that are probably best owned privately. Everything from breweries to farms to airlines. These companies, by and large, are not run terribly efficiently and, at worst, facilitate corruption and cronyism.
Stock markets provide a vehicle for these state assets to be sold to citizens and other investors. The state is rewarded with a big boost in revenue that it can redeploy to more essential sectors. And the privatized companies can begin to operate more efficiently.
It’s all about the liquidity
You may now be wondering how purchasing a thousand shares of Kenya’s Equity Bank and selling them a year or two later does anything to reduce poverty. You aren’t, after all, participating in an IPO or the listing of a formerly state-run company, and any taxes collected from your transactions would be minuscule.
But your transactions do create liquidity – the ability of a stock to be bought and sold quickly with little change to the market price.
See, most enterprises require long-term commitments of capital, but most investors don’t want to tie up their funds for long periods. Liquid share markets address both of these concerns. Through listing on a liquid stock market, a business can be reasonably confident of a capital base from which to grow. Investors, meanwhile, rest assured that they’re able to withdraw their assets whenever they wish.
A snowball effect soon develops. Higher levels of liquidity attract more investors, who, in turn, create more liquidity. As the demand for shares increases, so do share prices, which benefits the enterprise by allowing it to raise capital even more easily. Privately held businesses soon begin to see advantages to listing. They join the market; attract investors; and the process repeats itself.
It’s not difficult to see how this would promote economic growth over the long-term. But economists have gone ahead and tried to prove it anyway. And after accounting for a wide range of factors, including inflation, political stability, education, fiscal policy, and banking development, studies show increased levels of market liquidity to be a great indicator of future economic prosperity.
Given this evidence, I see little reason why socially conscious investors should abstain from participating in African markets. Find a company whose mission and practices you feel comfortable with and by all means invest. And then re-invest! The returns are greater than those appearing on your account statement.
What Do You Think?
Are stock markets a serious tool in the fight against poverty? Should they even be seen as such? I’d love to hear your thoughts in the comments!