FG Debt Cost to Rise on Bond Yields Repricing as US Extends 4x Nigeria’s GDP as Stimulus
President Muhammadu Buhari

FG Debt Cost to Rise on Bond Yields Repricing as US Extends 4x Nigeria’s GDP as Stimulus

Federal Government of Nigeria, FG, cost of obtaining funds from the local debt market is expected to rise amidst bond yields repricing in the fixed income space.

This will likely mark the end of financial repression as analysts are predicting that yields on debt securities will rise further in the ongoing market interest adjustment.

Specifically, yields on fixed income instrument adjusted upward following the US Congress passage of the $1.9 trillion stimulus bill that saw its 10-year Treasury yield rising to 1.6%.

It is expected that in few days, some 160 million US Citizens will receive COVID-19 relief packages, the third stimulus COVID-19 relief package targeted to reflated economic performance.

Effectively, US is given away more than four times Nigeria’s gross domestic products (GDP) which as been hovering around $450 billion.

Analysts Views

In a new report, ARM Securities Limited analysts said new developments over the past months has forced the firm to revise its forecast for yield direction for the year.

The firm in its observation said, firstly, there have not been rollovers in the Open Market Operations (OMO) market as expected.

Over the first two months of the year, the Central Bank of Nigeria has offered N1.07 trillion at OMO auctions which is about 50% of the N2.14 trillion that matured over the same period, sold N1.03 trillion.

It said, “Still in the OMO market, the rise in the stop rates -the 1-year rate is up 430bps year to date to 10.1% – has been faster than anticipated as we expected the CBN to keep rates lower for longer to reduce their borrowing costs”.

Rather, the firm said it seems they are focused more on attracting foreign investors and their precious FX hence the hike in the stop rates.

“Secondly, and more importantly, there has been lower demand at the NTB and bond auctions and what little interest has been present at these auctions has come at higher rates.

“This has meant that the DMO has been unable to sell its total offerings at the auctions and what they have sold they have sold at higher rates than what they probably would have expected”, the firm detailed.

It said this has led to increases in the average stop rate at both the bond with +413 basis point increase and 309 basis point rise in NTB auctions year to date.

Analysts said what is helping the investors case, as they push back against the low rates and demand higher rates at the auction, is the awareness the FG needs to ramp up their borrowing.

It noted the FG has a domestic borrowing target of N2.34 trillion they need to meet and have only issued N373 billion of new borrowings so far.

Additionally, ARM Securities said it seems that the FG are going to stop relying on the backdoor funding from the CBN, which has been a reliable source of financing the last few years, after international organizations raised concerns about the process.

“The expectation now is that the FG would turn to more domestic borrowing to plug the hole left by the CBN turning off its financing tap”, the firm said.

FX Adjustment at Investors Window Draws Naira Closer to Fair Value

Last year it is estimated that FG borrowed approximately N2.5 trillion via this backdoor means.

Analysts explained that going to the market to borrow even half of that on top of the original borrowing target would have huge implications for yields.

It was noted that investors pushing back in the auctions resulted to higher primary market stop rates which has led to an upward repricing of secondary market yields.

ARM Securities said any additional borrowing, to what was initially budgeted; would increase the supply of fixed income instruments which would make the high liquidity in the system less of an issue thus supporting higher yields.

High bond yields in the United States would mean no deal for Nigeria from foreign investors as money goes to where it is treated well, MarketForces Africa gathered.

Analysts said considering high inflation, low interest rate environment in Nigeria, it is impossible to attract foreign investment amidst financial repression”

United States bond yield uprising comes amidst expectation that inflation will rise due to $1.9 trillion stimulus packs for Americans to further cushion the effect of Coronavirus.

Nigeria and US 10-Year Bond Yield

In a note, Coronation Asset Management Limited explained that Nigerian markets are famous for not correlating with global markets, but recently it has been wise to pay attention to global bond markets.

The firm said the rise of the US government 10-year bond yield has attracted a lot of attention over the past few weeks and led to nervousness in certain equity markets.

It expressed that the wisdom of taking on emerging market risk in order to escape low US bond yields is being questioned, noted that this affects Nigerian Eurobond yields.

A slew of analysts have maintained that the US 10-year government bond yield is unsettling global markets.

Coronation said the yield on this normally obscure instrument rose from 0.72% per annum six months ago to 1.57% at the end of last week.

Analysts explained that this may not appear to be a profound change, but it is having effects -sometimes dramatic – on markets around the world, noting that the market in Eurobonds issued by the Federal Government of Nigeria is no exception.

“For over a decade, investors in risky assets have enjoyed the benefits of low US, Yen and Euro interest rates, not only in terms of lowering their cost of funds (if they borrow) but in terms of the implied valuations of equities”, Coronation stated.

It added that in developed countries policy makers have treated inflation as being too low, rather than too high.

And yet US President Joe Biden’s introduction of a US$1.9 trillion (N779.0tn) stimulus package has, finally, awakened fears that renewed economic growth will increase inflation.

Hence the rise in US bond yields, the firm said. It added that global equity markets are as jittery.

For example, the NASDAQ index of technology stocks fell by 6.9% in the second half of February and has fallen a further 1.5% so far in March.

“There have also been price falls in FGN-issued Eurobonds. The yield of the FGN 2032 Eurobond has risen from 6.44% to 6.86% over the past three weeks”.

Explaining further, Coronation stated that the narrative behind emerging market Eurobonds, until recently, has been one of rising prices and yield compression.

“The argument was that, with low interest rates in the US, there were so many US dollars looking for yield that investors would have to buy assets like Nigerian Eurobonds.

“Indeed, it was frustrating for Eurobond analysts that, whatever the fundamental features of Nigeria and of similar countries, yields just kept on coming down”.

Coronation analysts said the exception to this, of course, was the panic-induced sell-off of almost exactly a year ago when yields shot up during the first wave of the Covid-19 pandemic.

“If US bond yields are rising then difference between US dollar yields and FGN Eurobond yields is getting less, which weakens the justification for buying and holding them.

For the second week, the U.S. dollar index sustained gains, rising by 1.15% wow last week to a near three-month high, on the back of on strong labour market data and comments by US Fed Chairman.

Meanwhile, Nigeria’s external reserves fell to US$34.92 billion amidst low foreign exchange inflow into the economy.

Subtle Naira Devaluation

Just recently, the CBN in furtherance of its new foreign currency remittance policy introduced a new “five naira for one dollar” scheme, for inflows received via licensed IMTOs (International Money Transfer Organisations).

According to Chapel Hill Denham, this follows the footsteps of other developing countries such as Bangladesh which pays 2% cash incentive on inward remittance.

The new scheme means that, recipients of dollar inflows into Nigeria will receive an additional N5.00 for every dollar received in cash or paid into domiciliary accounts.

“As we have stated previously, the aim of the CBN is to tap into the c.US$25 billion annual remittance to shore up the foreign reserves as dollar inflows via oil receipts remain challenged by low production quota by OPEC+.

“We believe this is a positive step to bolster remittance inflows via formal channels, rather than Peer-to-Peer networks or crypto options.

“In our view, the additional N5.00 incentives may help support inflows, as availability of other FX remittance channels narrow”, Chapel Hill Denham explained.

Analysts added that this development, as well as better-than-expected recovery in oil prices is favourable for near term FX liquidity.

However, Chapel Hill Denham maintained  view than the CBN will struggle to defend its N410/US$ de-facto FX peg, given sizeable imbalance in the current and capital accounts, as well as elevated external obligations.

Fixed Income Trades Bearish

On Monday, the Nigerian Treasury bills market opened the week with selloffs seen across the tickers, as yields rose 56bps to average 2.1%.

Greenwich Merchant Bank explained that the bearish tone of trade was reported despite a handful of buying interest at the short end of the market.

Elsewhere, the Bond market traded bearish, resulting in the average bond yield increasing by 6bps to 9.4%.

Notably, the belly and tail ends of the curve traded flat while yields at the short end rose 21bps due to heavy selloffs on the 27-JAN-2022 instrument.

“Across the markets this week, we expect investors to continue to trade cautiously with mixed sentiment across the curve while seeking opportunities to cherry-pick higher-yielding papers across the curve”, Greenwich stated.

FG Debt Cost to Rise on Bond Yields Repricing as US Extends 4x Nigeria’s GDP as Stimulus