Eurobonds and Foreign Financing


Tuesday, February 09, 2021 / 8:26AM / by Coronation Research / Header Image Credit: Pexels

Proshare Nigeria Pvt. Ltd.

What will be the Federal Government of Nigeria's (FGN) next move when it comes to financing its deficit? Movements in the foreign exchange and open market operation (OMO) markets last week prompted market comment that Nigeria is courting foreign portfolio investment (FPI) to participate in Naira instruments. This may be true, but today's market conditions suggest the Eurobond market, where conditions are good, in our view.



Last week the exchange rate in the Investors and Exporters Window (I&E Window) weakened by 0.71% to N395.93/US$1. In the parallel, or street market, the Naira remained unchanged to close last week at N480.00/US$1. Gross external reserves inched up to $36.11bn as of 3 February, providing some reassurance as the Central Bank of Nigeria (CBN) has set a target of $40.0bn in external reserves. The CBN's plans to settle non-deliverable forwards (NDF) dated 24 February at N412.14/US$1 and the recent weakness of the Naira in the I&E window (albeit very slight) is being interpreted by some market participants as preparation for an exchange rate adjustment. Against this, we recall that central banks are often in a good position to wrong-foot the market. However, there were several small-step adjustments in the exchange rate last year and it is perfectly possible for these to continue this year.


Bonds & T-bills

Last week, the secondary market yield for a Federal Government of Nigeria (FGN) Naira bond with 10 years to maturity declined by 21 basis points (bps) to 8.87% and at 7 years declined by 35bps to 8.37% while at 3 years the yield declined by 14bps to 6.11%. The annualised yield on a 356-day T-bill declined by 28bps to 1.49%, while the yield on a 263-day OMO bill remained at 2.32%. The fall in yields in the bond market went against the trend we have seen since mid December, though we must remember that local investors are still quite liquid, so occasional rallies like this are to be expected. News was largely focused on a series open market operation (OMO) bills that were released with annualised yields just above 10.0% at 1-year, with market participants coming up with various interpretations (moving yields to a level attractive for foreign investors, signaling an adjustment in the foreign exchange rate, etc). All we can say with reasonable certainty is that, thus far, the CBN is not averse to market interest rates going up.



The price of Brent crude rose by 5.31% last week, closing at US$59.34/bbl, a 14.56% increase year-to-date. The average price to year-to-date is US$55.87/bbl, 22.64% higher than the average of US$43.22/bbl in 2020. The Saudi Arabian pledge of extra supply cuts in February and March on the back of reductions by OPEC+ (OPEC plus Russia) is another positive factor. Strong crude prices are encouraging US producers to increase output even as Covid-19 related lockdowns across parts of Europe and Asia put downward pressure on demand. Our view that Brent is likely to trade in a range of US$45.00/bbl to US$60.00/bbl this year may soon be challenged, though a rise above US$60.00/bbl could prompt some OPEC+ members to pump more oil, in our view.



The Nigerian Stock Exchange All-Share Index (NSE-ASI) fell by 1.66% last week with a gain of 3.57% year-to-date. MRS (+8.94%), Unilever Nigeria (+8.15%), and GT Bank (+4.35%) closed positive last week, while Lafarge Africa (-11.17%), Flour Mills of Nigeria (-9.37%) and Oando (- 9.15%) closed negative. The equities market reversed the previous week's bullish momentum. The reaction to the CBN policy affecting all bank accounts with affiliations to cryptocurrency trading might have had an indirect impact on the performance of the market on Friday, in our view. It is also possible that investors are reacting to the trend in market interest rates, even though bond yields remain well below inflation.


Eurobonds and Foreign Financing

Over the weekend Bloomberg featured a discussion about the rates of a recent series of CBN open market operation (OMO) bills, which exceeded 10.0% at one year duration. This, it was argued, could pave the way for an adjustment in the Naira/US dollar exchange rate which would, in turn, encourage foreign investors to purchase OMO bills again. Sales of OMO bills to foreign investors has been a key part of public sector financing in recent years.


Our issue with this line of reasoning is that foreign portfolio investment (FPI) depends on liquidity, as well as attractive interest rates and a solid exchange rate. Typically, a foreign investor's purchase of OMO bills is backed with a purchase of non-deliverable forwards (NDF) for which the investor is paid back in Naira. The conversion back into US dollars depends on foreign exchange liquidity and this, in our view, is difficult to fix. It is not impossible to fix it (it would help if an exchange rate adjustment convinced the markets that a period of exchange rate stability lies ahead) but for the time being we think that issuing Eurobonds would be the better way of using foreign investors to finance the public sector.


Proshare Nigeria Pvt. Ltd.


An argument against the Federal Government of Nigerian (FGN) issuing Eurobonds, until recently, was that their yields were higher, in US dollars, than those of FGN bonds in Naira. This was true up until December 2020, but since then yields of FGN Naira-denominated bond have risen sharply, so the interest cost of issuing US dollars is now lower than Naira. Exact comparisons between durations are difficult (because issues of FGN Eurobonds are few and far between) but the following may serve as a guide: a 5-yr FGN US$ Eurobond yields 3.97% while a 5-yr FGN Naira bond yields 7.49%; a 12- year FGN US$ Eurobond yields 4.88% while a 10-yr FGN Naira bond yields 8.73%.


However, for the FGN to fund its deficit substantially in US dollars would expose it to a high level of foreign exchange risk. As a rule, it is best for countries to borrow in their own currencies unless for the purpose of diversification. As a result of adhering to this maxim the outstanding face value of FGN public debt in US dollars is small in comparison with what it owes in Naira. At the end of last week, the total face value of FGN T-bills was N2,207bn and the total face value of FGN bonds was N10,883bn. The total face value of FGN Eurobonds was US$10,668 million. So, using an exchange rate of N395.9/US$1, the face value of the FGN's Naira public debt to its US dollar public debt stood at a ratio of 3:1.


As an aside, Nigeria was widely judged to have missed the boat this time last year when it was slow to come to the market with a Eurobond issue. In the first months of 2020 Ghana and Gabon issued a total of US$3.0bn in Eurobonds between them before Nigeria could get to the market. Nigeria has been absent from the new issue market for over two years, and we believe a sale would be welcomed now.


All this is good news for investors in FGN Eurobonds. Nigerian Eurobonds not over-supplied and the country has a good track record in paying back both interest and principal. In January, for example, Nigeria paid back the principal of a US$500m Eurobond. And the so-called global hunt for yield (investors tolerating high-risk and high-yield issuers when interest rates in developed markets are extremely low) keeps investor interest high, with Nigeria's yields trending down over recent months.

Proshare Nigeria Pvt. Ltd. 

Model Equity Portfolio

Last week the Model Equity Portfolio fell by 0.66% compared with a fall in the Nigerian Stock Exchange All-Share Index (NSE-ASI) of 1.66%, therefore outperforming it by 100 basis points. Year to date it has gained 3.57% against a gain in the NSE-ASI of 3.57%, underperforming it by 8bps.


Several factors worked in our favour last week. First, two mid-cap stocks which had performed very well in January, and in which we do not have notional positions, fell, notably Lafarge Africa and Flour Mills of Nigeria. At the same time the market seemed unusually enthusiastic about GT Bank, in which we do have a notional position. We cannot expect to be this fortunate every week.


Proshare Nigeria Pvt. Ltd.


We continue to search for ideas and do not rule out taking notional positions in some mid-cap stocks, especially if their prices correct. On the other hand, we find the market somewhat pricey at these levels and will take a degree of profits in some of the largest stocks by index weight, as we did during the first week of January. We will make small notional sales in Airtel Africa, MTN Nigeria, Dangote Cement and BUA Cement this week with a view to raising our notional cash position by between one and three percentage points.

Proshare Nigeria Pvt. Ltd.

Related to Coronation  

1.       Why Inflation is Important

2.      Nigerian GDP Better Than Thought

3.      Naira Crawling Peg?

4.      A Year in Two Charts

5.      Interest Rates on the Rise

6.      Oil Above US$50.00 per Barrel

7.      Saving Interest Rate?

8.     Where is the Money Going?

9.      CBN Likely to Leave MPR at 11.50%

10.  Second-best Equity Market in the World

11.   The Biden Effect

12.  US Dollar Eurobond Yields Now Higher Than Naira Yields? 

13.  Fiscal and Monetary Response to Events 

14.  Winners and Losers in Africa  

15.  The Return of the Equity Market  

16.  Which Way for Interest Rates?  

17.   Coronation Research Releases Report Themed: From Savings to Mutual Funds  

18.  A Case of Eurobond Market Contagion  

19.  In the Hands of OPECplus  

20. The Policy Mix and The Markets  

21.  The Oil Price and Production Paradox  

22. Cracks In The Bond Market?  

23. No Big Change in FX Policy  

24. Coronation Research Releases Outlook for Insurance Sector - From Lagoon To The Blue Ocean  

25. Micro-Insurance, Tech, Key to Deepening Nigeria's Insurance Sector - Coronation Research  

26. Navigating the Capital Market: The Investors' Dilemma  

27.  Market Interest Rates Back Up - Coronation Research  

Proshare Nigeria Pvt. Ltd. 

Related to Eurobonds

1.       Nigeria Redeems USD500m Eurobond - DMO

2.      A Case of Eurobond Market Contagion

3.      SSA Eurobond Market: Is Recovery in Sight?

4.      US Dollar Eurobond Yields Now Higher Than Naira Yields?

5.      SSA Eurobond Market in H2-2020: Monetary Stimulus to Spur Market Recovery

6.      Angola Lead The Sub-Saharan Africa Eurobonds With Nigeria Strengthening In The Shadows

7.      Increase in Crude Oil Price Ignites More Interest in Nigerian Eurobond Market

8.     Sub-Saharan Eurobonds Rallied Following Further Oil Production Cuts By Saudi Arabia

9.      Nigerian Eurobonds Sustain Rally Momentum As Global Oil Prices Continue To Gain

10.  DMO Request for EOI for the Appointment of the Transaction Parties for the Issuance of FGN Eurobonds

11.   Planned External Capital Raising Is to Part Finance Budget 2020 Deficit and Maturing Eurobond

12.  African Countries and Eurobond Market: The Lovefest Continues in 2020?

13.  African Countries Scramble for the Eurobond Market

Proshare Nigeria Pvt. Ltd. 

Related News

1.       Revised Trade Policy Vital to Attracting Investments into Nigeria - Wilson Erumebor

2.      Is the Economy Spiralling? - LBS Executive Breakfast Session - February 2021

3.      Total Value of Capital Importation into Nigeria Stood at US$1,069.68m in Q4 2020 - NBS

4.      Rebasing Nigeria's GDP: New National Accounts, More Services

5.      Inflationary Pressure Still Straining Pockets

6.      The Hit to FGN Revenue from COVID-19

7.      Rising Inflationary Pressures Despite Weak Aggregate Demand

8.     PMI Reading No 94: Familiar Seasonal Low in January 2021

9.      Marginal Pick-up in the December 2020 FAAC Payout

10.  Nigeria's Deficit Monetisation May Raise Macro-Stability Risks


Proshare Nigeria Pvt. Ltd.

Proshare Nigeria Pvt. Ltd.

Related News