Commercial paper offers double interest rate on T-bills

As the return on the less risky Treasury Bills (T-Bills) crashed to a 10-month low of 5.34 percent in December, investors can find an alternative in commercial paper (CP) as it doubles the return on the Federal Government short-term T-bills.

After hitting more than 17 months-high at 9.75 percent on May 14, yields on the short-term T-Bills dropped to 5.34 percent on December 8, 2021. The average yield on CP stood at 10.3 percent as of December 10.

Also known as an unsecured short-term debt instrument issued by large corporations to raise funds to meet short-term financial obligations, commercial papers are issued within a short period, usually between 15 to 270 days. While T-bills are issued by the government, commercial papers are issued by companies.

Commercial paper in Nigeria reported a yield range of between 5.7 percent and 15 percent and recorded an average of 10.3 percent as of Friday, December 10.

“In light of the high inflation of 15 percent as of October 2021, there is a need to seek an investment with higher returns to protect the purchasing power of your savings and investment. With this in mind, CP is a credible alternative in the current low-interest environment,” Ayo Ebo, Head, Retail Investment, Chapel Hill Denham said.

Interests earned on CPs are tax-exempt which increases investors’ effective return due to the tax savings. This is most applicable to corporates investing in CPs.

CPs are issued at a higher interest rate than T-Bills because of the absence of the full faith of the Federal Government. It presents an opportunity for investors to earn a higher return on investment than T-bills.

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CPs are issued at a discount to their face value implying that an investor can choose to collect their interest (return/income on investment) upfront (at the point of investment) and receive the investment value at maturity. This means that if an investor invests N2 million at a rate of 10 percent per annum, the N200,000 interest is paid to the investor now (upfront) while N2 million will be paid at maturity.

The decline in T-Bills rates, the interest the Nigerian government pays investors for borrowing their money, has remained relatively low, further deepening investors’ inflation-adjusted return.

Data from the Nigerian Treasury Bills (T-Bills) auction conducted last Wednesday by the Central Bank of Nigeria (CBN) on behalf of the Federal Government of Nigeria (FGN) showed that investors bid at rates as high as 5.2 percent, 6.7 percent and 6.75 percent on the 91-day, 182-day and 364-day bills.

Subsequently, the apex bank lowered rates across the three tenors to 2.5 percent, 3.5 percent, and 5.34 percent, respectively.

The seventh successive month of a slowdown in Nigeria’s inflation rate to October has not brought much relief to fixed income-investors reeling from a negative real return.

While the shrinking inflation rate is good news for investors as it tends to increase real return on investment, the decline in T-Bills rates, which has remained low, leaves investors with little to cheer.

The investment return on Nigeria’s one-year treasury bill dropped to 6.5 percent at the last auction in the first week of November, from a near 10 percent of 9.15 percent on July 14 2021, the inflation rate on the other hand was 16.63 percent in September. That leaves a real return, the difference between the expected return on investment of an asset and the rate of inflation, at -10.13 percent, higher than the -9.64 percent from the previous auction.

When the same was inputted for the 5.34 percent recorded for the 364-day bill for the first week of December, it reported a negative real return of 10.65 percent, lower than November’s -10.13 percent.

While the T-Bills rate remains one of the benchmarks companies ride on to determine the yield on the commercial paper, the low-interest-rate environment has allowed many corporates to raise cheap capital.

Corporates in the telecommunication, agric, oil & gas, financial services and among other industries have tapped the debt capital market this year to raise cheap funds through commercial paper issuance.

Sixteen companies raised a combined N362.82 billion worth of commercial papers in the eight months to August 2021, as compiled from the data by FMDQ.

Compared to two years ago when the interest rate was at a record high of about 15 percent, the current single-digit interest rate means lower financing costs for corporates that are borrowing to finance their operations.

If the companies were to go to banks to borrow the kind of money they raise through CP, they would have likely gotten at least 15 percent. That is even because they are big institutions. If it were smaller companies, they would probably be getting it at between 18 to 20 percent or more.

While the low-interest-rate environment in Nigeria’s debt market has been a boon for large corporates who are raising capital at cheaper rates compared to bank loans, micro and small businesses, which form the bulk of firms in the country, are left out.

Lack of proper documentation and inability to meet listing requirements are some of the reasons Nigerian small businesses are unable to tap the low-interest rate opportunity.