Amid concerns about deterioration of the macro – environment, weak oil prices, a slowing domestic economy, FX (USD/NGN) trading restrictions imposed by the Central Bank of Nigeria (CBN), Treasury Single Account (TSA) commencement, and thin capital buffers, come an unexpected new headwind: A crash in money market rates with a potential negative impact on profitability.
“I think the rate concerns are valid. However, these risks are more for 2016 than this year. What will be important is to see what the monetary policy committee MPC decides at the next meeting, so we have a clear idea as to whether we’re properly in quantitative easing mode and what the priority is – growth, inflation or exchange rate,” Adesoji Solanke, Vice President and bank analyst at Renaissance Capital, said in response to questions.
“As is, it appears to be growth over all else, but the question is – is it practicable while keeping a lid on the currency? We’ll see.”
Nigerian fixed income yields have fallen sharply across all maturities, as liquidity surged on the interbank money market in recent months, due to monetary easing by the CBN.
Average yields on Nigerian sovereign bonds slid to 11.51 percent on Friday Nov. 13 from an almost seven-month high of 16.32 percent on Sept. 9.
The open buy back (OBB) and overnight lending rates traded between 0.71 and 1 percent, while Treasury bill yields ranged between 2 and 6 percent across the 1 month to 12 month maturities in the secondary market, data from the FMDQ show.
The stock market is reflecting this sentiment as bank stocks are down 12.16 per cent this year, to Nov 6.
The reason for the fall is not far-fetched as investors sense that the high interest rate environment of the past couple of years which helped to juice bank earnings may be coming to an end as the CBN moves ahead with its plans to increase lending/credit creation by flooding the market with liquidity.
For banks, the worries are two fold.
First, their net interest margins (the difference between interest income generated and the amount of interest paid out to their depositors), gets crimped as yields fall, leading to lower profitability.
Since banks generate a lot of their interest income by investing in Federal Government fixed income securities, the current slide in yields erodes their profitability.
Secondly, there is little the lenders can do to boost profitability by pulling on other levers such as increasing loans, as the weak macro environment naturally makes them more cautious to extend credit, despite the surge in liquidity.
Compounding the problem is an increase in bad loans provisioning seen in their most recent third quarter results. The CBN mandated banks last week to immediately double their general provisions on performing loans to 2 percent, from 1 percent previously.
The apex regulator had earlier closed another important profits earner for the banks (FX trading revenues) which was a big income driver for lenders in the fourth quarter of 2014.
Interest income made up about 70 percent of gross earnings in the nine months period to September 2015 for Nigeria’s five biggest banks.
It ranged from as low as 60 percent for Access Bank to 76 percent for Zenith Bank which had N256 billion in interest income in the period from gross revenues of N336.8 billion.
One unknown that could lead to higher yields and change the outlook for banks positively is the Federal Government’s borrowing plans for 2016.
“Given the sharp compression of the yield curve and build-up of liquidity in the system, you could in theory have a situation where a pick-up in supply in 2016 is absorbed more easily by the local market. Yet it remains to be seen how loose liquidity and rate conditions could persist on a sustainable basis as long as the NGN remains under significant pressure (unless FX supply is restricted at the expense of the real economy),” Samir Gadio Head of Africa Strategy and FICC Research, said in response to questions.
PATRICK ATUANYA
