Private coys leverage OTC bond market as Basel-III spurs cut in loan risks

While the race to comply with Third Basel Accord (Basel-III) intensifies among banks, they are compelled to further reduce their exposure to long-term loans, causing fear on the impact on private companies seeking over five-year monies.

As a market development effort to hedge against the impact of reducing long-term funds for capital and infrastructural projects by banks, Nigeria’s Over-The-Counter (OTC) debt market said it is establishing a lasting structure that redefines private companies and ventures access to long-term debt capital.

In the past four years, banks have managed the pressures on their balance sheets, driven majorly by Basel III –a global voluntary regulatory framework on bank capital adequacy, stress testing and market liquidity risk –now scheduled for implementation on March 31, 2019.

Some of Nigeria’s leading private companies in Oil & Gas, Power, Telecoms, Manufacturing and Infrastructural development sectors require long-term funds which are only structured as loans and funded by banks.

“The opportunity that private companies now have in accessing the Over-The-Counter (OTC) market is a good development which can only be maximised in a much lower interest rate environment than we have now,” Kayode Tinuoye, head, research, financials, UBA Capital told BusinessDay.

Tinuoye added, “The short term nature of Nigerian banks’ deposit liabilities has always capped funding of long-term projects. Until banks start to mobilise longer term funding with reduced dependence on deposits, the provision of long-term capital, especially in a yet to be de-risked lending environment may be a dream”.

BusinessDay checks on Nigeria’s corporate bonds market size, compared to other select countries, revealed a market in need of further development. Also, the rules guiding the investment of pension assets allow PFAs to buy private company bonds, an indication that it should be regulated.

As at October 21, 2015, Nigeria corporate bonds (which are part of non-sovereign bonds) were valued at about $2.57billion (N500.3billion), very low, compared to the United Kingdom ($1.117trillion); South Africa ($100.49billion); USA ($9.502trillion); Malaysia ($107.81billion); South Korea ($1.033trillion); Thailand ($68.25billion); Indonesia ($18.19billion); Turkey ($7.37billion); and Mexico ($5.76billion).     

“The Nigerian market for bonds of private companies is undeveloped and currently not under any market governance, implying the absence of an oversight and proper governance on the activities in that space”, Bola Onadele (koko), Chief Executive Officer, FMDQ OTC Securities Exchange, told BusinessDay  shortly after the Nigeria Breweries N17.7billion Commercial Paper (CP) was admitted on the OTC platform.

In line with the OTC Securities Exchange board approval, the self-regulatory organisation (SRO) intends to establish the requisite market governance over private companies’ bonds “as part of its investor protection standards in making the Nigerian debt capital market globally competitive to attract pension funds and foreign capital. FMDQ is promoting the market structure that will facilitate the injection of credibility and transparency to the quotation of private companies’ bonds that, by law, can only be issued through private placements.”

Onadele said “FMDQ, in its capacity as an over-the-counter (OTC) securities exchange, as well as a self- regulatory organisation, is fulfilling its responsibility and has taken up the challenge of tackling the attendant inadequacies evident in any unregulated market by developing Quotation Rules for bonds  issued by private companies.

The aim, he said, is to provide adequate governance over the registration, quotation and trading of bonds of private companies on FMDQ, thereby potentially serving as the benchmark for how this market is regulated in Nigeria as a whole.

Banking analysts at McKinsey & Company, a management consulting firm said “One area of certainty

is the effect that new regulation, both Basel III and some national measures, will have on corporate banking profits: they will be lower. The biggest effect will be increased requirements for capital, which will raise costs for straight loans and specialised finance.

“The primary risk to borrowers is that financing dries up. In a world awash with liquidity, many market participants assume that financing can be renewed when the current transaction expires. There is no assurance that financing can remain in place, even with a modification to the loan amount, haircut or interest rate.

“When short-term funding is used to carry longer-dated assets, the borrower is exposed to losses if the funding is no longer available and the assets cannot be sold,” McKinsey said in a recent survey, ‘Global Corporate and Investment Banking:  An Agenda for Change’.

“Going forward, regulatory standards would limit the banks’ appetite in such long-term assets. It is therefore imperative that the financial market is re-positioned to drive such loans to be structured as securities, that is bonds that can be sold to investors.

“The existing secondary market trading of debt securities issued by large and credible private companies in Nigeria by FMDQ Dealing Members, as well as the quotation of such debts on FMDQ, will formalise the current arrangement, bringing among other benefits typical of an FMDQ quotation,” Onadele further added.

In Nigeria today, there are massive and important Public Private Partnership (PPP) structured projects like rail lines and highways that have been stalled, as the private companies that signed the pact face the challenge of assessing long-term funds from banks. For instance, Motorways Asset Limited, the project company partnering the Ministry of Works, is faced with the challenge of delivering a fully enhanced Lagos-Ibadan Express Road valued at N167 billion.

As a market organiser of the Nigerian fixed income and currency (FIC) markets, FMDQ provides a platform on which all secondary market trading activities for debt securities can be executed, presenting a unique opportunity for current and likely inefficiencies hindering the development of certain areas of a fledgling debt capital market (DCM) like Nigeria’s to be addressed.

The OTC Exchange recognises the inherent possibilities for growth and development in Nigeria’s financial market, maintains an unwavering resolve and focuses its efforts to lead the revolution in the Nigerian debt capital market.

In the United States financial system, the Dodd-Frank Act (Section 113) which creates and grants the Financial Stability Oversight Council (FSOC) supervisory authority over banks and other institutions, identifies maturity mismatches and reliance on short-term funding as indicators of financial instability.

Also, the Basel Committee on Banking Supervision has introduced the net stable funding ratio (NSFR) to promote longer-term funding of bank activities.

Iheanyi Nwachukwu