We observed that yields across tenors recently assumed a sudden upward trend and we evaluate the sustainability of the increasing yields and what could have been responsible.
Nigerian fixed income responds to global trend
The massive sell off in the T-bills market in the last few days which took yields to an average high of 13.94 percent across all tenors was not restricted to the Nigerian fixed income market. The bearish trend was an offshoot from the global sell off in emerging markets, which eventually trickled down to some of the frontier markets, Nigeria inclusive.
The sell-off in global equities and bonds most likely reflects investors’ reaction to the expectation of monetary policy tightening by the US. The expectation of higher monetary policy rate perhaps prompted the sell-off by investors for proper positioning for higher return should higher rates be enforced.
In the Nigerian case, however, there is a possibility of funds repatriation given the steady exchange rate depreciation in the last few days. The fund repatriation may have been encouraged by the recent US positive economic data, as unemployment rate came down to its five year low and retail sales rose beyond expectation in the month of May.
Another possible reason for increase is increasing government borrowing. Available data from the DMO showed that a couple of factors are responsible for the increases. The Q2:2013 auctions by the DMO revealed that marginal rates across tenors increased between April and June auctions. For instance, the 5-year and 20-year tenors auctioned at respective marginal rates of 12.25 percent and 12.799 percent in May 2013, increased to 13 percent and 13.5 percent in June, an increase of 75bps and 70bps in that order.
Given the lower expected fiscal deficit of N877 billion in 2013, we forecasted N744 billion borrowing at the beginning of the year. However, at the end of last auction in June, the DMO has borrowed c.N627 billion and we expect close to N500 billion to be raised in H2:2013.
Available information suggested that the CBN stop rates on T-bills in the last auction (where rates on 91-day, 182-day and 364-day were 11.65%, 12.3% and 12.64% in that order) were responsible for the increase in rates across other fixed income instruments. The CBN’s decision to mop up excess liquidity from the increased government spending and FAAC allocations might have informed higher stop rates.
Increasing yields may be volume related
The volume traded on fixed income instruments no doubt will have impacted on the upward direction of yields in recent times given the rate of change in the increase. While the CBN has maintained its OMO auction at N300 billion relative to the 2012 levels of N200 billion, data on daily volume for bond instruments are not available given that they are mostly traded Over-The-Counter.
However, analysis of the yields on both TBs and bonds shows the convergence that has characterised the movement of the short and long tenured instruments against the traditional spread that should exist (bonds having higher yields than TBs). This is indicative of large volume of liquidity that has been enjoyed so far.
The rate of change has assumed a faster rate however in the last 30 days, given the respective average yield of 13.86 percent and 13.74 percent for bonds and TBs relative to the average levels of 11.94 percent and 11.60 percent 30 days ago. We are of the view that increasing volume sell off is driving up the yields.
Increasing yields – could it explain the weakening naira?
Yields on treasury bills of different maturities commenced the month trending upwards and sustained this trend up until last Wednesday. On average, T-Bills of different tenors have gained 0.12 percent so far in June.
The rising rates as earlier mentioned may be an indication of an increased investor sell-off of their holdings which will depress prices. Over the period, the CBN offered N137.97 million for sale, which is the equal amount that matured.
While yield was increasing, naira was depreciating (the lowest line in the chart) and the plausible explanation for such scenario is that foreign investors are selling off their holdings and converting proceeds to dollars thereby putting pressure on the naira exchange rate.
The trend in the naira exchange rate over the period of yield increases in treasury bills revealed that possible outflows of funds from the sales of these instruments contributed to demand on the dollar with the naira depreciating by 0.22 percent. Our analysis shows that over the two-week period, the naira had the most significant daily depreciation with the 0.78 percent decline on Thursday being the highest slide in the year.
This may however only be the first set of exit by foreign investors who are unwilling to re-invest their matured investments for a couple of reasons which may include a decision to exit Nigeria before election manoeuvring peaks or targeting attractive yields in other countries. We do not expect the recent exit trend to be sustained in the near term though it should be higher from the first quarter of 2014 in our estimation.
Likewise, T-Bills yields on average recorded the most daily appreciation in the year during this period suggesting the repatriation of funds by foreign investors of Treasury bills. However, in our view, further depreciation of the naira towards the close of the week is also partly attributable to investors exiting their positions in equities.