Demand for FGN bond slows as investors seek higher yields

Higher-yield seeking investors were on the sidelines at the recent FGN bond auction which recorded lower subscription for the third consecutive month.

The Debt Management Office (DMO) raised only N297billion through its June FGN bond auction. It auctioned N450 billion FGN bonds on Monday, June 24, across three tranches, which included a reopened nine-year bond, as well as five-year and seven-year tenures at N150 billion each.

This fell short of the N378billion sold from the N450 billion offered at the previous auction.

Read also: DMO sells N378bn FGN Bond despite higher demand

“Based on market trends and economic fundamentals, the economy needs higher interest rates. Monday’s auction results, which showed low subscription despite coupon payment on Friday, and relatively high system liquidity, indicate weak investor appetite for Nigerian bonds,” said Ike Alabi, fixed income research analyst at Afrinvest West Africa, an investment bank.

“And the low allotment is due to the low subscription,” she said, adding that this forced those who still wanted to acquire them to bid at higher rates.

She noted that the Federal Government is trying to reduce its debt.

“At least we saw subdued rates in the previous auction. There was low subscription on Monday and those that bided, did so at higher yield, but investors want higher yield.”

At the June bond auction, preference was given to the long-dated tenor (new nine-year bond) selling N229.498 billion, 50 percent higher than offered with an oversubscription of N229.549 billion at a stop rate of 21.50 percent.

The stop rates of the five- and seven-year bonds were 19.64 percent and 20.19 percent higher than 19.29 percent and 19.74 percent reported at the last auction. These were marginally less than the stop rate on the one-year treasury bill considered less risky than longer-dated bonds.

The stop rate on the bonds is also well below June inflation rate of 33.95 percent as price pressures remained prevalent in Nigeria.

The current benchmark interest rate stands at 26.25 percent, a 750-basis -point increase from 18.75 at the beginning of the year.

Nigeria’s bond sales have steadily declined since April’s N626.6 billion, which itself was higher than March’s N475.7 billion. February saw a record-breaking auction of N2.5 trillion, with N1.5 trillion sold. January sales also reached N523 billion.

“Looking forward, we expect the bonds market to remain quiet, with lacklustre interest from investors given that most market participants are of the view that rates in fixed-income markets have peaked,” analysts at United Capital said in a recent note.

They also noted that secondary market for bonds was quiet. “Investors’ interest toward duration exposure remained lacklustre. That said, the average yield on sovereign bonds sluggishly inched up by 1bp w/w to close at 18.77percent from 18.76percent,” the noted.

“Similarly, we observed a relatively quiet market in the corporate bonds segment with average yields on corporate bonds inching up by 2bps week-on-week (w/w) to close at 20.92percent from 20.90percent.”

Bearish sentiments dominated the secondary market for bonds last week. In the FGN bond market, average yields managed to eke out a 1 basis point (bp) rise to 18.77percent per annum, thanks to a sell-off in long-dated bonds, according to the Guy Czartoryski-led team of research analysts at Lagos-based Coronation Asset Management.

They noted that at the short-end of the yield curve, average yields declined by 4bps to 18.76percent; average yields at the mid-point of the curve fell 6bps to 19.45percent; while average yields at the long-end of the curve gained 19bps to 17.80percent.

Segun Adams, fixed income analyst at Afrinvest West Africa, had projected after the May auction that the market would continue to see smaller amounts allotted at further auctions.

“This is a trend we should expect for the near term as DMO attempts to manage its pressure on the fiscal side,” he said.

DMO reported last week that Nigeria’s total public debt stock hit N121.67 trillion in March, a 25 percent increase from N97.34 trillion as of December 31, 2023.

This represents an increase of N24.33 trillion within three months. At Monday’s auction, the DMO sold N22.13 billion and N45.38 billion bonds- barely five percent of the initial offer on the 5-year and 7-year – as subscriptions were also low at N22.23 billion and N45.38 billion respectively.

Analysts at CardinalStone explained in their most recent monthly fixed income report that the government’s decision to frontload a substantial part of its 2024 borrowings in the first quarter meant subsequent auctions would see smaller volumes.

“Specifically, the Q2 ’24 bond auction calendar suggests that the government should raise between N300 billion — N600 billion monthly compared to the 2.5 trillion borrowings in Q1’24),” the report said.

The N2.5 trillion bond auction is the highest amount the government has attempted to raise in local bonds in one month.

Olaolu Boboye, lead economist CardinalStone Securities Limited, said the allotment was very low because the subscription was very small. “I think it is a case of low liquidity in the system. The coupon payment last week was just N29.8 billion and that’s not much,” he said, while noting that it is tough to get higher yields currently.

Vetiva analysts said on Monday that sell-side action dominated the short end of the curve as the yields on the March-2025, January-2026, and February-2028 rose by 6bps, 3bps, and 1bps to close at 19.94percent, 18.50percent, and 18.83percent, respectively. They see investors remaining on the sidelines in anticipation of higher yields.

Uduak Jacob, portfolio manager at Comercio Partners Asset Management, said the subscription for this particular auction mirrored the low appetite for bonds already observed in the secondary market.

“For bond auctions, we usually see total subscription size of N500billion and above,” said Jacob.

“The amount allotted was low on the back of the low subscription. Even at that, the DMO took almost all the subscription as there was only an N8billion difference with the size allotted,” he noted.

“The bid to cover ratio for the auction is 0.68x. A bid to cover ratio that is less than 1 speaks to the demand being insufficient to cover the issuance,” Jacob further said.