Cost of servicing $6.2bn FGN, corporate Eurobond to rise on weaker naira

Following hike in US interest rate to 0.25 percent by the FED, analysts say the cost of servicing FGN and Corporate Eurobond worth $6.2 billion ($2.5bn & $3.7bn) is expected to hike as a result of stronger dollar and weaker naira.

According to analysts at Afrinvest Securities Limited, higher interest rate in the US and a stronger dollar will increase cost of foreign debt. Nigeria’s recently released Medium Term Expenditure Framework (MTEF) for 2016 shows that fiscal arm is budgeting an expansionary 2016, with a total budget of N6.08 trillion relative to N4.48 trillion in the 2015 budget.

Consequently, the budget deficit is expected to rise from N1.04 trillion in 2015 to N2.19 trillion, and foreign borrowing is budgeted to account for about 29 percent (N635.88bn) of the total financing for the deficit. Following the Fed decision, the cost of borrowing for the government is expected to rise.

Prior to the Fed-Fund rate hike, restriction on FX by the Central Bank of Nigeria (CBN) has constrained market activities, fuelled higher inflation rate and depressed output growth in Nigeria. While official and interbank market rate steadied at N197/$ to N199.10/$, parallel market rate has depreciated to N280/$ in December 2015.

Increased flow of fund towards the US economy due to higher rate environment points to a stronger dollar. Therefore, another scenario is a further loss in the value of the domestic currency (naira) against the dollar.

“We perceive the stability portrayed by the apex bank in terms of the official rate, which has been kept at N197 as contrived, given the significant (N80/$) spread to parallel market rate (N280). Consequently, we expect the pressure on the CBN to devalue to intensify as dollar receipts to government treasury continue to shrink in naira terms while current account deficit worsens,” Ayodeji Ebo, head, investment research, and his team of analysts at Afrinvest said in a report.

The CBN retained its naira peg against the dollar at a range of N196.97 – 197.00/$, while the interbank rate stayed at a tight range of N199.07 – N199.10/$ last week.

However, the parallel rate further depreciated due to the lower supply to BDC operators – following new regulations that restricted BDC’s access – and speculative activities that were exacerbated by the renewed bearish pressure in the crude oil market. The decision of most banks to reduce FX spending limits of customers also seems to have fuelled the demand pressure at the parallel market.

The parallel market rate depreciated to N280/$1 last week from the N260/$ it closed the previous week. This widened the spread between the Official and Interbank rate to N80.90.

“We believe a currency adjustment is inevitable, especially with the ambitious expenditure framework of the government in 2016, which would necessitate higher nominal naira income and expansive deficit to finance. We expect the parallel rate to depreciate further due to the continued restrictions in the FX market. We believe a currency devaluation in the first quarter of 2016 is likely, although we expect most of the FX restrictions to stay,” the analysts said.