Ncube’s fungible stocks trilemma (Part I)

The Brett Chulu

THE Exchange Control (Suspension of Fungibility of Certain Shares) Order 2020 published on March 15 by Finance minister Mthuli Ncube (pictured) suspending the cross-trading for 12 months ending March 12 2021 of three stocks, namely, Old Mutual Limited, Seed Co International Limited and Portland Pretoria Cement (PPC) Limited is part of the currency and inflation-stabilisation measures he announced last week in a knee-jerk and panicky reaction to the sudden spike of the exchange rate from about ZW$25 to the United States dollar to ZW$40.

There are three questions we cannot escape. First, what is share or stock fungibility? Second, why did Ncube suspend the fungibility of the three stocks? Third, does the suspension make economic and financial sense and is the suspension going to make the currency and inflation stabilisation agenda succeed? This article addresses these three questions.

Stock fungibility explained

Etmologically, fungibility is a word imported into the English language from medieval or 17th Century Latin. In medieval Latin, fungi means either to perform or to enjoy. Used as the Latin phrase fungi vice, it means having the ability to be used in place of another. The latter is the idea exported and seeded into the English thought.

The stock and financial markets have no monopoly over the use of the term fungibility; even quantum physics uses the term — David Deutsh — an Oxford theoretical physicist uses the term fungibility in his superposition theory. We even talk of fungible biofuels, fungible trade commodities and fungible international development loans.

Fungibility implies that the value between two assets classed as being identical in intrinsic quality is the same. This means that if two goods or assets in the same class are judged to be identical in quality and specifications, they command the same value, regardless of whether these goods or assets originate from different areas. In economics and finance, a financial instrument that can be freely bought or sold in one market or exchange and sold in another exchange or market without loss of value, is said to be fungible.

Money, in a normal economic environment, is fungible; if one is owed US$500, it does not matter if the loan is repaid in 10 fifty-dollar bills, one hundred-dollar bills or twenty-five-dollar bills. It follows then that a fungible stock listed in different stock exchanges will have the same value since it represents the same intrinsic value resident in the company that issues the share.

There a fully fungible stocks and a partially fungible stocks. A fully fungible stock can be sold or bought in both exchanges. A partially stock can be bought or sold in only one of the exchanges, not both.

So an Old Mutual share/stock listed on the Zimbabwe Stock Exchange (ZSE) and on Johannesburg Stock Exchange (JSE) and on the London Stock Exchange (LSE) has the same value. It is not only the Old Mutual stock that obeys this law. The Seed Co share is listed on both the ZSE and the Botswana Stock Exchange (BSE). Also the PPC share is dually listed (ZSE and the JSE).

Why suspend three?

On January 25, NMBZ — which is listed on the ZSE and the LSE — announced that it had been granted full fungibility to 40% of the shares held by its foreign investors.

Curiously, NMBZ is not mentioned in the fungibility suspension order issued by the Finance minister on Sunday. The minister has power to grant or withdraw the stock fungibility status.

The fact that there is no data currently on NMBZ share trades on the LSE (the LSE website says there is no data available on NMBZ trades) could expain why NMBZ is not mentioned in the order.

With foreign investors and individuals failing to repatriate forex out of Zimbabwe due to forex shortages, buying a dually-listed share using a local currency and selling it on either the JSE, the LSE or the BSE guaranteed them access to forex. Dually or multiple-listed stocks became a legal and innovative way of converting the ZW dollar into forex and legally repatriating value to a stabler economic environments.

Similarly, individuals could buy these three shares on the LSE, JSE and the BSE and sell them on the ZSE, and take advantage of the relatively lower multiple exchange rates (arbitrage).

The Old Mutual Implied Rate (OMIR) could conceptually explain why the order was issued. Since the Old Mutual share is fully fungible, but the stock exchanges quote in the local currency, there is an implied exchange rate. We need to be clear; the suspension order is about banning the buying and selling of the dually/multiple-listed shares in the different exchanges — it cannot ban the implied exchange rate. So we can have the OMIR as well as the Seed Co Implied Rate (SIR), the PPC Implied Rate (PPCIR) and the NMBZ Implied Rate (NMBZIR).

At the time of writing, the OMIR was ZW$56,10 to the US dollar, the SIR at ZW$19,98 to dollar and the PPCIR was at ZW$79,9 to the dollar. The NMBZIR could not be calculated as the LSE website did not provide the data for NMBZ trades. It is very clear that the implied ZW$:US$ exchange rates cover a very broad range. The SIR is very close to the interbank market rate. The OMIR is 24% ahead of the black market rate.

The PPCIR is 77% ahead of the black market rate. The thinking has been that the OMIR is the lead indicator of the direction of the “true” exchange rate and it was erroneously thought Old Mutual was setting the rates. The dually-listed companies are not the drivers of the share price — buyers and sellers of their stocks are.

The point is: even after banning the cross-trading of the dually-listed stocks, the implied rate remains elevated. One would have thought that the OMIR and the PPCIR would rapidly recorrect and converge towards the interbank rate or the ZW$24,1 to US$1 the International Monetary Fund (IMF) forecast for 2020.

Ncube wants one converged reference rate. It is still early days. However, the stickiness of the elevated implied rates cannot be wished away — it suggests matters much deeper than the desire by certain economic players to use the legal route to convert their Zimdollar incomes into a stabler currency via fungibility.

The RBZ governor John Mangudya last week mentioned what he called the X-factor, by which he meant that there are factors outside the central bank’s monetary activities that are pushing the exchange rates beyond what the central bank econometric models forecast. The IMF’s Article IV report provides the clue.

The report gave a forecast of an M2 supply ratio of ZW$24,4 to every US dollar for 2020, a significant fall from the ZW$127,5 per every US dollar. This is why the implied econometric model would forecast December exchange rate of ZW$24,5 to the US dollar. The shock spike of the black market exchange rate from the mid-20 level to 40 threatened to make a big mockery of the inflation and currency stabilisation forecasts. It would appear that the fungibility factor is part of the X-factor — whether that hypothesis is correct remains to be seen.

The Sunday ban had all the hallmarks of panic, very much similar to the June 24 2019 multi-currency ban.
Chulu is a management consultant and a classic grounded theory researcher who has published research in an academic peer-reviewed international journal. — brettchuluconsultant@gmail.com.