22, 2021 / 03:25 PM / by Meristem Research / Header Image
Issue on Offer/Summary
The Federal Government of Nigeria (FGN), through the Debt Management Office (DMO), will be conducting a bond auction on Wednesday 23rd of June 2021. The indicated total amount to be on offer is NGN150bn. All instruments on offer are re-opening issues.
16.2884% FGN MAR 2027 NGN50bn
12.5000% FGN MAR 2035 NGN50bn
12.9800% FGN MAR 2050 NGN50bn
Current Yield Analysis
At the last PMA, marginal rates offered by the DMO on the 2027 and 2035 instruments were higher (as anticipated) by 85 and 66 basis points from 12.25% and 13.34% at the penultimate auction. Demand was relatively weak across the 2027 and 2035 instruments as total subscriptions fell short of offer. However, demand was strong on the 2049 instrument. Investor preference for the long instrument despite its sensitivity to interest rate risks reflects continued dissatisfaction with the prevailing negative real rates of return. We expect this pattern to be repeated at the next auction which has the 2050 instrument on offer.
On the part of the borrower (FGN), there remains a strong appetite for investor funds, especially as the gains of higher crude oil prices are largely eroded by petrol price subsidies. Thus, with a growing debt stock and an increased debt service burden, the capacity to meet debt obligations continues to diminish. This leaves an increasingly smaller room for interest rate hikesto meet the needs of investors who continue to press for yields which adequately reflect inflationary and other risks. It is for this reason that we have modest expectations for interest rates at the next auction and over the near term.
Given our modest outlook for PMA rates, it is not surprising that selloffs in the secondary market have moderated with average bond yield declining from 12.22% as at the date of the last auction to 11.88% as at 21st June 2021. With relatively fewer alternatives, the FGN remains an influential determinant of bond prices in the secondary market. Nevertheless, we think there is some headroom (albeit moderate) leftfor yields in the secondary market over the near to medium term especially as corporate and municipal bond issuances rise.
In valuing the 16.2884% FGN MAR 2027, 12.5000% FGN MAR 2035 and 12.9800% FGN MAR 2050 re-opening offers with the current yield curve as the basis for discounting, we arrived at the following fair value, implied yield and an IRR for the instruments:
Our valuation gives a fair-trading price ex coupon payment, the expected return on the bond considering its periodic interest payments and the expected return on the bond's periodic payments. We analysed the issues on offer given the current yield environment, market liquidity, as well as a review of the recent past auctions, whilst also introducing market sentiment factor into our valuation, on which we advise bid yield ranges for the issues on offer.