The week that was (Oct 7-11): 2020 Budget, higher borrowings ahead, CBN ignores build-up in system liquidity
- CBN turns dovish with markets: In contrast to my expectations for limited CBN tolerance for excess liquidity from the sizable OMO bill maturities, the apex bank has displayed relative comfort with the increase in system liquidity levels. Though the apex bank debited NGN500billion from the banking system, in line with the LDR policy, the impact of this move on system liquidity has been entirely offset by inflows from maturing OMO bills. Thus, as the CBN has not increased the supply of OMO bills, the excess demand from maturing paper has fueled a bullish pattern across the front-end of the yield curve with a 60bps decline in average NTB yields to a range of 11.9%-14%. To illustrate this point, at the OMO auction on Thursday, the CBN offered sold NGN315billion (after offering only NGN80billion). This somewhat dovish posture suggests that the CBN ic concerned about the huge interest costs associated with its OMO bill sales. However, as FX reserves have continued their descent, the CBN is effectively playing a blinking game with markets over which number should be allowed to fall faster: FX reserves or interest rates. We will find out soon enough.
Figure 1: Naira Yield Curve
- 2020 Budget – The game is the game: President Buhari submitted the draft 2020 budget to the National Assembly wherein the FGN proposes to spend NGN10.3trillion (+16% y/y) to be funded with projected fiscal receipts of NGN8.2trillion (+7% y/y) which would result in a budget deficit of NGN2.1trillion (1.5% of GDP). As is par for the course, revenue assumptions remain bold, despite way-off-the-mark misses in the current year, in the game of trying to trim the optical size of the deficit. Specifically, the FGN projects oil receipts of NGN2.64trillion underpinned by oil assumption of USD57/bbl and production of 2.18mbpd. Non-oil tax collections are projected at NGN1.8trillion and strangely other revenues of NGN3.7trillion. While the oil receipts appear slightly reasonable and the VAT hike makes the non-oil tax somewhat digestible, the other revenue numbers look more like an optical plug-in inserted to make the deficit look less scary. The President noted that this reflects proceeds of oil JV sell-downs and expansion of the TSA to capture the domiciliary accounts in our foreign missions and those linked to Government Owned Enterprises. The game of massaging budget numbers to look more media acceptable continued on the expense side as the continued increase in debt service to NGN2.7trillion requires that capital spending be pushed up to NGN2.5trillion. In all, regular watchers of Nigerian budgets know what it is: a game by Nigeria’s budget office to match organic increases in debt and recurrent expenditure with cosmetic growth in non-oil revenues and a larger capex number applied as gloss. Putting things into context, Nigeria’s central government proposes to spend roughly 5% of GDP, around the 4-5% level it has hovered around since 2010.
Figure 2: Nigeria Fiscal Revenue and Expenditure (% of economy)
Source: Budget Office
- DMO Q4 calendar points to higher gross borrowings: The DMO released the Q4 2019 borrowing calendar which showed a pick-up in the mid-point of planned bond issuance (+25% q/q to NGN450billion). Adjusted for maturities of NGN234billion, the calendar implies net bond sales of only NGN216billion which implies a drop-in bond supply which could be negative for bond yields over late October-Early November. This assumes a greater dimension given that the DMO has been increasingly relying on non-competitive bids to close out bond sales which are set to close 2019 at the highest levels. In terms of what the calendar implies for 2019 total bond sales, assuming the mid-point of the calendar, gross bond issuances will close the year at NGN1.5trillion (2018: NGN912billion). FGN Bond yields were essentially unchanged as liquidity trends have combined to mute impact of any concerns over higher supply.
Figure 3: Non-competitive bids (NGN’ billion)
Source: DMO *excludes conversion of state government debt into FGN bonds.
The week ahead (October 14-18): Lower Inflation and yields, before currency concerns re-assert themselves
- In the week ahead, the Nigerian Bureau of Statistics (NBS) is set to publish the September 2019 CPI numbers. Given the start of harvest season in September, improved domestic food supply should drive a retracement in food prices which will tilt food inflation lower. Looking for headline inflation print of between 11-11.05% y/y before a descent to sub 11% levels in Q4 2019. The week also sees NGN463billion in OMO maturities and NGN131billion in NTB maturities.
- What direction for yields over Q4 2019? In the absence of any negative external event (a slump in crude oil prices towards USD50/bbl or higher US interest rates), CBN’s lukewarm stance towards terming out OMO bill maturities means we are likely to see a build-up in liquidity over October which will apply downward pressure on front-end yields. Throw in liquidity from the maturing FGN 2019 bond in October and the Naira yield curve is likely to decline over late October and into early November. We could see the effective yields on the front-end compress towards sub 13% levels for the 1-year and bond yields move closer towards 14%. That said, lower yields could trigger less foreign rollovers on OMO bill maturities which would lead to a pick-up in FPI outflows in the remaining two months of 2019. Having relied on inorganic reserve growth, the CBN posture effectively implies they are willing to rundown FX reserves below sub-USD40billion. In the absence of any near-term Eurobond sale and still weak oil prices, this strategy is likely to dent FPI confidence about the three-year stability we have enjoyed in the NGN. Or perhaps more provocatively, the CBN is hinting that it is willing to tolerate a modest NGN devaluation (say towards NGN365-370/$) which will provide a revaluation boost to its balance sheet. In all, we are likely to head south over the near term before FX concerns drive an upward re-set in CBN thinking around yield levels.