In a sense the angst over hot money flows into the nation’s capital markets reflect the successes that Nigeria has recorded in its macro – economic space in recent times.
For most of 2011, while most emerging markets such as Brazil and South Africa were dealing with excess portfolio inflows which were pushing up the value of their currencies (the Real and Rand) the Central Bank of Nigeria (CBN) had to draw heavily on dollar reserves to defend the currency (Naira) and avoid depreciation.
As the CBN struggled to sustain stability in the domestic foreign exchange market it moved its target trading band for the Naira to N155 Naira +/-3 percent, from N150 Naira +/-3 percent.
The bank also began the gradual process of jerking up interest rates as well as the removal of the minimum one year hold period for Government bonds by foreign investors culminating in the October 1, 2012 addition of Nigerian bonds to JP Morgan’s emerging market index (GBI-EM) leading to an estimated $1.5 billion of inflows.
The result; the Nigerian Naira went from being one of the world’s worst performing currency in 2011 to Africa’s best performer in 2012 (up 3.9 percent versus the dollar) while dollar reserves which finished flat in 2011 despite elevated oil prices rose by 34.76 percent to over $44 billion dollars in 2012.
As the cheap money continues to flow into emerging markets like Nigeria on the back of zero Interest Rate Policy (ZIRP) and quantitative easing to infinity embarked upon by Central Banks in the developed economies of the USA, UK, Japan and euro zone, Nigerian regulators have begun to fret over the potential negative fallout from a sudden reversal of fund flows.
Foreign portfolio inflows amounted to $16.6 billion in 2012, made up of $11.82 billion of portfolio inflows into equities, $1.66 billion into bonds and money market instruments, and $2 billion in the form of Foreign Direct Investments (FDI), according to CBN data.
The pace of flows seems to have accelerated in 2013, with $4.94 billion of inflows recorded in the first two months of the year. Portfolio inflows into the equity market made up 72.2 percent of the total, inflows into bonds and money markets amounted to 13.97 percent, while FDI inflows made up the rest at 9.52 percent.
Portfolio inflows for 2013 if annualised would amount to $29.64 billion – almost double that of last year- if the rate of fund flows continues at the same pace for the rest of the year.
The urge for capital controls out of fear of ‘hot money’ creating bubbles should be weighed against the positive effects of having a fairly liquid capital market that competes with the other emerging markets such as South Africa, Thailand or Indonesia to attract funds from global investors.
Foreign portfolio inflows have aided Naira Stability, which in turn has led to benign inflation expectations.
The inflows have also led to depressed yields in the fixed income space, which has lowered borrowing costs for businesses as well as Government.
The yield on Nigeria’s 10-year domestic bonds due 2022 has fallen by 470 basis points (bps) to 11.06 percent last Thursday, from 15.94 percent a year ago, according to Financial Markets Dealers Association (FMDA) data.
The positive wealth effect of the rally in Nigerian equities which rose 35.42 percent in 2012, and have risen 18 percent year to date – partly as a result of offshore investors – is also as a result of portfolio flows.
Nigeria’s year on year inflation rate rose to 9.5 percent in February, up from 9 percent a month earlier according to data from the National Bureau of Statistics (NBS). The inflation rate is at the lowest level in 2 years.
More importantly if fixed income investments become less attractive as yields continue to compress and inflation steadily drops, Nigerian banks may be forced to lend more funds to the real sector of the economy.
The Domestic credit provided by the banking sector as a percentage of GDP in Nigeria at 34.5 percent is low compared to its peer country South Africa at over 77.5 percent at the end of 2011.
So in essence, while Nigeria may have become a victim of its own success, it may be wise for regulators to thread with caution as they seek to curb volatility of inflows since it is to the country’s credit that its relatively free markets attract and make it easy for offshore portfolio investors to exit rapidly.
PATRICK ATUANYA
