Nigeria – Fixed Income Weekly

The week that was (August 21-25) – Jaw dropping results at the FGN Bond Auction

  • Low demand at the bond auction drives spike in marginal rates: The highlight of last week was the sell-off in bonds at the end of the week, with yields closing the week roughly 20-30bps from the end of the previous week, following a rise in marginal rates at the primary bond auction. The FGN planned to raise N135billion but due to soft demand, with bid-cover ratios at a record low of 0.47x, the FGN was only able to raise 42% of the amount on offer at marginal rates of between 16.8-9%. The low subscription levels stemmed from a combination of factors: Firstly in the week ahead of the auction, Lagos had tapped debt markets for N84billion (roughly 80% of FGN borrowings at the last four auctions) at rates above the sovereign. Furthermore, there has been an increased in the number of non-sovereign transactions at higher-than-sovereign yields with Lagos also in the market to issue N50billion in debt for its waste management operations with the first series of N25billion at 17.5% set for the past week. Relative to the last few years and given the enlarged FGN monthly borrowings, it would appear Nigeria’s bond market depth cannot take-up monthly borrowings in excess of N130-150billion. Thus, it would appear a case of poor scheduling by the FGN with the auction coming very late in the month dented chances of a successful debt raise. In addition, all this takes place under an atmosphere of continued liquidity extraction by the CBN. Post the auction debt markets sold off with some tenors rising to nearly 17% intra-day.
  • An uneventful week for NTBs: Following improved liquidity, benchmark NTB yields softened last week with the 6M and 1yr tenors declining over the week. FAAC inflows helped drive OBB/Overnight borrowing rates to 12/12.58% from 24-25% levels at the start of the week. CBN continued its liquidity draining measures with OMO bill issuance of N220billion in 6M AND 1yr tenors at discount rates of 17.95% (effective 19.7%) and 18.55% (effective 22.74%) respectively.
  • Corporate debt market re-starting? Economic theory says high government borrowings plus high interest rates should lead to a dearth of sub-national and corporate issuances in bond markets. However, it would appear that more corporates are now eagerly looking to tap debt markets. Lagos plans to issue SPV backed notes for  waste management and a number of corporates in various sectors are in the process of raising bonds. A leading cement manufacturer recently obtained a rating no doubt with the intent to tap debt markets. It appears that corporates have figured out that the benefits to borrowing a fixed rate for longer tenor (5years) outweigh the costs of acquiring bank loans of a shorter duration (1-3years) and higher interest rates with floating rates above 23%. Furthermore, CBN’s goal of starving the financial system of liquidity is driving a pause in credit origination for risky corporates. This has resulted in a slew of commercial papers and more recently bond issuances.

In summary, low demand at the bond auction due to the rising numbers of higher yielding non-sovereign issues fuelled the jump in yields at the auction. Elsewhere sufficiently tight liquidity conditions kept yields elevated.

 

The week ahead (August 28-September 1) – Higher maturities suggest rates to trend lower

  • In the week ahead, the FGN would seek to rollover N193billion across the three benchmark tenors at the NTB  auction on Wednesday. In terms of maturities, the last tranche (N100billion) of the FGN 2017 matures on Thursday and we have N101billion worth of OMO bills maturing on Thursday. The NTB auction is largely net neutral and I expect trends at the auction to mirror the pattern at recent auctions with the lower tenors (3M and 6M) closing at rates at discount to the secondary market while the one year tenor should close in line. My guess on discount rates given the declining trend is as follows: 3M (13.30-13.35), 6M (17.3-17.35) & 1yr (17.4-17.45).
  • In addition, the NBS is also scheduled to release July 2017 inflation today. My thinking is that the reading should extend the declining trend in recent months with a slide to 16.04% y/y driven by expectations for seasonal drop in m/m inflation to 1.2%. However, I must warn that the confidence band for July is quite large, given the elevated m/m readings we have seen in 2017 due to higher food prices, meaning we could see the CPI essentially flat to mildly higher (16%-16.15%y/y).

Given the thin demand for bonds and continued CBN liquidity tightening, markets are likely to continue to dismiss inflation numbers for now. For the rest of the week, slightly higher maturity profile means we could see brief bullish activity across some segments of the curve.

Chart: Monthly marginal rates, bid-cover and allotment ratios

Bond auctions

Source: DMO

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