FX Convergence Key to Restoring Foreign Investors’ Confidence –Analysts
Foreign exchange rates convergence has been pitched as a critical move towards restoration of battered investors’ confidence in Nigerian economy, according to reports.
Foreign investors have stayed away from Nigerian market, thus resulting to declining inflow of investment inflows.
Their standoffs may not be unconnected with widening gap in foreign exchange rates in the currency market as a result of the Nigerian multi-tiered exchange rate system as the apex bank embarked on capital control.
Despite their get-me-out mentality, most investors have remained stuck due to foreign exchange scarcity amidst low return on Naira assets.
At the investors and exporters window, naira was exchange for a United States dollar at ₦409.67, ₦473 at the parallel market and ₦379 for official exchange rate.
Analysts noted that weak accretion into the external reserves has reduced the Central Bank of Nigeria’s war chest to supporting the local currency, naira.
This pressure was exacerbated by the outbreak of covid-19, resulting to lower price of oil and weak demand.
But Oil price has made a rebound, rising ahead of $60 per barrel.
This is considered positive for Nigeria, a petrol-dollar powered economy, albeit, largest by size of its gross domestic product.
Impacting the country’s foreign exchange position are its skyrocketing debt profile and jumping inflation rate.
These macroeconomic ails have combine effects on Naira as the local currency struggles to finding true value.
Following weak foreign inflow, Afrinvest, a leading investment firm is hoping to see exchange rate adjustment to N420 to a dollar to support balance of payment.
Also, Chapel Hill Denham said based on real effective exchange rate, the local currency official rate is trading at 13% above its long run equilibrium.
“We expect the Central Bank of Nigeria to weaken the Investors and Exporters window intervention rate past ₦425 per dollar in 2021, while official FX rate may eventually settle within the range of ₦440 to ₦470”, Chapel Hill Denham added.
Analysts explained that foreign exchange rate devaluation by the CBN in 2020 was minor compare to other oil exporters operating managed float.
As a result, Chapel Hill Denham believes that naira is highly overvalued on fundamental basis.
It has been observed liquidity in the investors and exporters window as remained weak, and parallel market rates has jumped significantly.
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Similarly, Meristem Securities Limited said in a report that the exchange rate pegged at ₦379.0/USD seems rather unrealistic in the event of a further depreciation of the Naira relative to the greenback.
“We believe the pegged rate remains unreflective of the current economic realities due to the setback caused by the oil price shock and investors weakened sentiment towards the Nigerian economy”, it added.
In its January 2020 outlook, Afrinvest posited that the dark clouds was gathering, indicating further currency pressures and an imminent devaluation.
“Our hunch was premised on weak oil prices and capital flows, which are fundamental drivers of currency movements, and the aggressive liquidity build-up in the economy”, the firm explained.
It said true to this, oil prices fell to a decade low in March and capital flows dried-up while system liquidity was robust.
Then, COVID-19 struck, compelling faster adjustments to the Naira as it dealt a devastating blow to the economy.
Recalled the CBN adjusted the official rate in 2020 by 19.5% to ₦379.00/$1.00 from ₦306.00/$1.00.
Meanwhile foreign exchange rate at the Investors and Exporters FX window fell by 11.1% to ₦410.25/$1.00 as at December 31, 2020.
Afrinvest said the March episode of 15.3% adjustment was driven by decline in the external reserves which dropped to $35.7 billion, occasioned by foreign portfolio outflows.
Analysts stated that as oil prices fell to a decade low of $19.33 per barrel in April, the CBN imposed capital controls by halting the sale of FX to the I&E window, hence trapping foreign investors.
“This marked a repeat of the 2015-2017 currency crisis which led to a deterioration in investor confidence and the exclusion of Nigerian assets from global tracking indices”, the firm explained.
Meanwhile, the sharp drop in supply drove premium between parallel and I&E window to widen to ₦30-95 per dollar.
“This, layered with the deterioration in Nigeria’s external position drove the August devaluation episode of 5.0% to ₦379/$1.00.
“We had expected a sharper adjustment to the currency to save the nation a repeat of the 2016 agonies”, the report reads.
By December 2020, the external reserves had lost 8.3% to $35.4bn due to sustained trade deficits and weak foreign investments, despite the inflow of $3.4bn in April 2020 from the IMF’s Rapid Financing Instrument (RFI) disbursement.
Lack of FX convergence reflects in the currency market, with the official, NAFEX and parallel market rates closed at ₦379.00/$1.00, ₦410.25/$1.00 and ₦470.00/ $1.00 respectively.
Afrinvest said in 2021, a combination of weak external position, fragile capital flows and sticky oil prices, would continue to hurt the Naira.
It explained that demand for imports is expected to increase as economic activities resume, noted that restriction on activities due to the pandemic masked the pressure on FX from imports.
“We expect this to reverse given the wall of liquidity in the system which could chase after imports”, the firm added.
Conversely, the report reads that the $1.5 billion facility from the World Bank which was approved in December 2020 would provide succor to FX reserves.
Global yield environment is friendly for external borrowing and would further support the reserve if accessed by the Debt Management Office, it explained.
However, analysts noted the commitment of the CBN to the unification of FX rates would be critical in restoring the battered investor confidence.
“Ideally, we would expect to see the gap between the NAFEX and parallel market rates contract significantly.
“However, with the expectation that demand for imports would begin to rise as more segments of the economy reopen, while the outlook for crude remains weak, the CBN may find it tough achieving the unification objective.
“We expect exchange adjustment to around ₦420.00/$1.00 to help aid marginal improvement in the balance of payment”, Afrinvest maintained.
Analysts however expressed believe that to achieve FX Convergence, the local currency must be re-priced and allow market to determine rate with minimal intervention by the CBN.
FX Convergence Key to Restoring Foreign Investors’ Confidence –Analysts
