Government borrowing cost to rise on reduced subscription

as naira pressure continues on back of capital flight

The borrowing cost of government is expected to rise at the next auction this week as subscription level may likely reduce while investors will seek additional premium to compensate for the increased risk perception and liquidity, Ayodeji Ebo, head, investment research and his team of analysts at Afrinvest Securities Limited, said.

The FGN bonds market commenced the week on a bearish note as sell-offs observed in some short to mid-term tenors (FEB 2020, JAN 2022, MAR 2024) and the 20-Year benchmark JUL 2034 instrument pushed yields up 7bps on average. Sentiment stayed the same on Tuesday, as investors continue to price in macroeconomic risks.

A major development however occurred on Tuesday, which appears to have swung sentiment. Following JP Morgan’s announcement of the removal of Nigerian bonds from its GBI EM indices, the bonds market resumed trading bearish on Wednesday, but sentiment swung bullish towards market close due to strong demand from domestic institutional investors. The bullish sentiment was sustained on Thursday, especially at the short end of the curve. Average yield on bonds declined 42bps Week-on-Week on Friday.

“We imagine that the mild reaction that greeted the JP Morgan’s announcement suggests that the risk had already been priced as most risk averse foreign investors may have already exited the market before now. It also suggests that the level of domestic institutional investors’ participation in the market is higher than commonly acknowledged,” Ebo said in a report.

Also, the pressure on the naira is expected to continue this week due to capital flight as foreign portfolio investors exit their naira holdings following the JP Morgans Bond Index decision, analysts at Cowry Asset Management Limited, said.

Last week, the naira traded flat at the interbank market (N199.10/$1), while the CBN maintained its intervention rate at N197/$1. In the parallel market, the naira depreciated 1.1 percent to N223/$1 from N220.50/$1.

The depreciation that has persisted this week is on the back of the increased demand for the greenback to fulfil obligations such as overseas tuition fees and other similar transactions. In a bid to significantly close the spread between parallel market and the interbank market rates, the apex bank has since the beginning of August 2015, supplied dollars to the BDC operators twice a week.

However, foreign investor confidence in the naira has been on a slide given that the liquidity was tight and the local unit was deemed overvalued based on the interbank market and parallel market rates spread.

To this effect, JP Morgan announced the gradual phase out of the Nigerian instruments from its GBI-EM index from September 30 to October 31, earlier than expected. Although the phase out may not directly affect domestic investors, an official delisting is anticipated to pressure the value of the naira dramatically given a huge sum of $2.8 billion estimated to exit the Bonds market.

“We expect exchange rate in the interbank market to remain at the same next week while the parallel market rates may depreciate further on scarcity and willingness of customers to purchase the hard currency to fulfil primary obligations,” Ebo said.