The week that was (December 11-15) – Maturity build-up drives a collapse in yields
DMO repayment drives yield curve compression: Against a backdrop of rising system liquidity following CBN’s cessation of OMO bill issuance, rates declined across the Naira yield curve in the aftermath of an announcement by the Debt Management Office (DMO), that it would be repaying (as against rolling over) N198billion in Nigerian Treasury Bill (NTB) maturities. Though the DMO had alluded to this possibility under its NTB refinancing plan, markets generally believed these NTB repayments would occur over 2018. Thus markets now had to grapple with the sudden steep rise in liquidity with combined maturities of N203bilion (NTB and OMO) coming into the system which underpinned a drop in overnight and OBB rates to 3-4% at the end of the week. Consequently, NTB and FGN bond yields collapsed 365bps and 70bps respectively.
Increased short covering feeds through to low rates at monthly bond auction: The impact of the liquidity deluge filtered through to lower clearing rates at the monthly bond auction where the DMO had N100billion (including a non-competitive bid of N8.6billion) on offer with bid-cover ratio up to 2.5x. The DMO was in no Father Christmas mood as it even slashed issuance N78billion. Given the high coupon on both tenors on offer (2021: 14.5%, 2027: 16.29%) in a declining yield environment, cautious sentiments dominated bidding which resulted in clearing rates sliding to 13.2% from 14.8% in November 2017.
The December auction brought the 2017 cumulative gross borrowing to a record N1.5trillion. The FGN borrowed on average at the highest levels on record 15.9% as bid-cover ratio slid to a trough of 1.6x on account of increased discounting of FGN bonds given the higher rates on the short end of the yield curve alongside elevated inflation.
Figure 1: Bid-cover ratio and Average Auction Clearing Rates
January 2018 MPC under threat? Last week, the Cable Newspaper noted that following the retirement of CBN deputy governor in December, Suleiman Barau and exit of another Deputy Governor (Adebayo Adelabu) who is bidding to become governor of Oyo state in 2019, the lack of senate confirmation hearings for the Aishah Ahmad and the new independents means a lack of quorum for the January 2018 MPC meeting. Specifically, there will be only 5-members on roll, one short of the legally mandated 6 for an MPC to hold. While this meeting is unlikely to be eventful as the CBN is unlikely to cut the MPR until much later, failing to hold an MPC is uncharted waters. I expect sufficient pressure in the coming days on the National Assembly to expedite action on the confirmation hearings as unlike other political positions, there is no point slowing down the appointment of individuals on an important economic policy team.
The week ahead (December 18-22) – Grappling with mounting liquidity
In the week ahead, the liquidity deluge continues with N159billion maturities on Thursday split 58:42 between OMO and NTB. The DMO repayment guidance means markets have to grapple with short covering for the NTB maturities as well as continue the second-guessing game over whether CBN will jump in to stem the decline in yields. The DMO goes green this week even as November inflation numbers are out today. In a media report today, CBN has stated that it will resume OMO operation when it feels the need to stem excess liquidity above its internal threshold.
Inflation likely to have extended sticky downtrend in November: The National Bureau of Statistics (NBS) is set to release November Inflation numbers today. My forecast is for inflation to have continued its slow grind south over the month to 15.83% y/y with m/m reading of 0.73%. There have been increased media reports about declines in domestic food prices into December which would support slower food inflation. Though Fuel prices have been under pressure lately but this is likely to reflect over December CPI.
FGN to sell debut Green bonds today: After gathering steam over the last one year, thanks in no small effort to the former environment minister, Nigeria will sell her inaugural green bonds tomorrow following a roadshow last week. The debut issue is a small one N10.7billion with a 5-year duration which has been rated GB1 (Excellent) by Moody’s and will be used to finance afforestation and renewable energy projects. I expect the GB issue to price off the yield on the 5-year sovereign currently at 13.6% as market participants will view it effectively as an FGN issue. In all 2017, looks like a stand-out year for domestic debt market sophistication with the inaugural retail savings bond in March and debut sukuk issuance in August alongside increased corporate activity in the CP and bond space. Hopefully, the DMO looks to issue inflation-indexed bonds and possibly domestic dollar bonds.
In all, the rapid decline with yields is likely to have induced profit taking among domestic and foreign investors eager to lock-in gains ahead of End of Year reporting. This is likely to drive weakening pressure on the Naira even as the CBN closes its FX shop for the year in line with seasonal trends. The uncertainty over OMO issuance and the depressed out-of-sync-with-inflation level of the yield curve means staying short duration is likely to be in vogue. Thus, the short end of the curve is likely to continue to see strong buying activity given limited outlets for deploying inflowing maturities. This is likely to drive a gradual normalization of the yield curve over the week.
Figure 2: Naira Yield Curve