Liquidity will offset Inflationary pressures in Bond Market –Analysts

Liquidity will offset inflationary pressures in bond market –Analysts

Analysts have explained that robust liquidity in the financial system will offset the impacts of inflationary pressures in the bond market.

The fixed income market has remained largely bullish despite declined yields across securities tenors.

The recorded plunge in yields on fixed instrument is worsened by dearth of alternative investment windows.

Rates remained subdued despite rising inflation rates in the last 12-month.

In its research report, Cardinalstone Partners Limited said notwithstanding the release of the inflation report, market players continued to show better bids for bonds as yields moderated by 5 bps across the curve.

For treasury bills, rates remain relatively unchanged across the curve, analysts at Cardinalstone noted.

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The firm explained that this tame reaction from fixed-income investors may have been driven by the high system liquidity level, which has mostly detached yield direction from macroeconomic realities in Nigeria.

Yields in the fixed income market has plunged significantly due to lower interest rate environment strongly promoted by the apex bank.

However, analysts said expected open market operations (OMO) and Treasury bill maturities of over N3.0 trillion scheduled to hit the system between September and October may also crowd out other macroeconomic weaknesses and leave yields lower going into next month.

According to the National Bureau of Statistics, inflation accelerated by 40 bps to 13.22% year on year in August from 12.82% in July.

Read Also: Nigeria’s headline inflation rate hits 11.98%

The current reading was ahead of our forecast of 13.00% and reflected significant increases in both the food (+52 bps to 16%) and core baskets (+42 bps to 10.52%) of the consumer price index”, Cardinalstone said in a report.Liquidity will offset Inflationary pressures in Bond Market –Analysts

On a month-on-month basis, inflation rose by 1.34%, its fastest pace since July 2017 as PMS deregulation compounds existing price pressures.

Cardinalstone said higher food prices continued to be the primary driver of inflation as impacts of border closures, banditry, supply chain disruptions, and FX instability worsened the seasonal effects of the lean season in August.

“We highlight that the forex ban on maize imports in July may have raised the cost of poultry production in the review period, potentially prompting the FG’s intervention via the release of 30,000 tons of maize from the national grain reserves to animal feed producers”, the firm explained.

Away from food prices, the core basket recorded an atypical increase in August, with inflationary pressures cutting across all sub-indices.

Notably, transport inflation accelerated faster than other core sub-components following crude oil-induced increases in PMS prices (July: N143/litre; August: N150/litre).

Analysts however said recent reforms present upside risks to inflation.

PMS Price is becoming more flexible as the FG weans off its subsidy regime and moves closer to full deregulation.

“We expect subsidy removal to allow for more efficient resource allocation but note that the dynamic could increase the volatilities of energy-related core inflation components such as transport and housing, water, energy, & other fuels”, the investment firm noted.

Cardinalstone said food inflationary pressures are also likely to be impacted via pass through from higher transport cost.

Similarly, analysts explained that decision to implement an electricity tariff increase in September 2020 as against the previous timeline of March 2021 presents considerable risk to price stability in the near term.

According to recent disclosures, average electricity tariff (across residential and commercial customers) could rise by over 50% for consumers receiving a minimum of 12 hours of electricity.

This surge in electricity cost compares to the 41.0% to 45.0% tariff hike in February 2016, which coincided with a jump in month on month core inflation to 2.72% compare to 0.84% in January 2016.

Even though the electricity price increase is not structured to be broad-based, customers who appear seemingly exempted from the hike may still be impacted, due to pass through to the prices of other goods and services.

All in, Energy Information Administration (EIA) oil price forecasts of about $43 per barrel as against $42 currently over the next four months suggests that the vagaries from PMS Price fluctuations may be less dire compared to the potential electricity pass through.

“Mostly mindful of the latter, we now expect headline inflation to hit 15% by year-end and average 13.2% from 12.8% previously over the full year”, Cardinalstone stated.

Liquidity will offset Inflationary pressures in Bond Market –Analysts