NSR H2 2019 (9) - Currency - Near-Term FX Stability Remains Intact

Proshare

Monday, July 29,  2019  02:57PM / ARM Research / Header Image Credit: Sedaily.com

 

In our H1 2019 Nigeria Strategy Report, we projected that the confluence of lower demand for imports, slower rate of repatriation of offshore holdings of maturing fixed income instruments and CBN’s apathy to initiate/renew maturing swap positions will result in slower intervention by the apex bank over 2019, with estimated average monthly sale of $4.5 billion. True to our words, average monthly FX outflows through the CBN declined 11.4% over H1 2019 to $4.9 billion (vs. $5.6 billion in H2 2018).

Specifically, relative to H2 18, CBN intervention sales at the IEW declined by 81.3% to $1.43 billion, while sale at the Interbank (SMIS, SME, Invisibles and Others) declined by 18.8% to $11.1 billion. On the flipside, average BDC sales over H1 19 expanded by 28% to $1.2 billion from $943 million in H2 18, as CBN increased its frequency of sales over the review period. For clarity, CBN tuned up its frequency of dollar sales to BDCs to four times a week (previously three), bringing weekly intervention per BDCs to $75,000 by December 2018. 

While our base scenario (even worst scenario) suggest a comfortable position for the apex bank and the naira, we believe the distorted interplay of demand and supply at the IEW and the increased demand at same would drive short term volatility in rates to result in Naira depreciation between N363.0/$ to N366/$ over H2 19. On our purchasing power parity model (PPP), the fundamental value of naira lies between N395.0/$ to N400.4/$ (8-8% - 10% down-leg from current NAFEX rate of N361.6/$). However, we fully recognize many stipulations behind expecting mean reversion from real effective exchange rates (REERs) and PPP, we refrain from interpreting the results of our analysis as a viable trading signal.

 

Hot Money’s inflow spur foreign reserves accretion 

In our H1 2019 Nigeria Strategy Report, we projected that the confluence of lower demand for imports, slower rate of repatriation of offshore holdings of maturing fixed income instruments and CBN’s apathy to initiate/renew maturing swap positions will result in slower intervention by the apex bank over 2019, with estimated average monthly sale of $4.5 billion. True to our words, average monthly FX outflows through the CBN declined 11.4% over H1 2019 to $4.9 billion (vs. $5.6 billion in H2 2018).

Specifically, relative to H2 18, CBN intervention sales at the IEW declined by 81.3% to $1.43 billion, while sale at the Interbank (SMIS, SME, Invisibles and Others) declined by 18.8% to $11.1 billion. On the flipside, average BDC sales over H1 19 expanded by 28% to $1.2 billion from $943 million in H2 18, as CBN increased its frequency of sales over the review period. For clarity, CBN tuned up its frequency of dollar sales to BDCs to four times a week (previously three), bringing weekly intervention per BDCs to $75,000 by December 2018.

Proshare Nigeria Pvt. Ltd.

Particularly, we expected the decline in sales would necessitate moderation in the rate of drawdown in external reserve to $3.4 billion over the first half. However, the combination of strong foreign flows in the first quarter, with CBN purchasing a total of $6.7 billion, and steady oil inflows (+20.6% to $9.0 billion) propelled robust net flows with $2.6 billion accretion in the FX reserve to $44.8 billion at the end of H1 19. Consequently, the NAFEX, BDC and parallel rates appreciated when compared to H2 18, closing the period at N360.5/$1, N359.0/$1, and N359.8/$1 (H1 18: N364.8/$1, N363.5/$1, and N363.7/$1) respectively. 

Proshare Nigeria Pvt. Ltd.

Attractive carry-trade propelled growth in FPI flows

The Investors and Exporters Window (excluding participation by CBN) was well lubricated over the first half of 2019 with a net inflow of $6.8 billion (compared to a net outflow of $5.9 billion in H2 18), 13% higher than H1 18. Notably, despite electioneering concerns in the first quarter of the year, the market was at its most liquid level since inception with net inflow of $5.3 billion. While inflows slowed in the second quarter, outflows were largely unchanged with the market closing with a net surplus of $1.5 billion.

Consequently, compared to H2 18 wherein CBN was a net supplier at the IEW, the apex bank net purchased a total of $6.0 billion (Q1: $5.0 billion and Q2: $2.0 billion) at the window over H1 19. Specifically, going by the recently published Q1 statistical bulletin, the single largest purchase by the apex bank was in March, wherein it bought a total of $4.2 billion. Largely, the turn of events at the IEW emanated from the dissipated electioneering concerns, receded global idiosyncrasies and the guidance of a more accommodative monetary policy in advance markets which moderated the rate of repatriation of offshore holdings of maturing fixed income instruments over the period. Notably, compared to exodus of funds in H2 18 to the tune of $15.3 billion, total outflows over H1 19 declined to $10.8 billion.

Proshare Nigeria Pvt. Ltd.

In terms of inflows (Excluding CBN), the IEW witnessed a strong rebound over H1 19 with inflows printing at $17.6 billion compared to H2 18 levels of $9.1 billion. Notably, notwithstanding the electioneering concerns, Q1 19 welcomed the largest flows with a total of $10.9 billion, with a slowdown to $6.7 billion in Q2 19. On the source of flows, while local flows (Exporters, individuals and non-bank financial institutions) declined to $4.5 billion (H2 18: $4.9 billion), offshore funds leapfrogged to $13.2 billion (H2 18: $4.2 billion). Specifically on offshore funds, hot money continue to dictate the velocity of flows, with FPI accounting for 90% (H1 19: $11.8 billion, H2 18: $3.7 billion) and contribution of FDI increasing to 8% (H1 19: $1.0 billion, H2 18: $245 million), with the excess coming from foreign non-bank financial institutions.

Proshare Nigeria Pvt. Ltd.

Dollar inflows: Slowing but still strong

Against the backdrop of the Naira resilience (depreciated 1.1%, 0.17% and 0.20% at the IEW, BDC and Interbank) in the face of exodus of offshore funds in H2 18 and subsequent appreciation over H1 19, we see a strong case for Naira stability over the rest of 2019. Irrespective, we believe the quantum of maturity over the second half the year presents greater uncertainty on the position of the gross external reserve and risks to the currency beyond 2019.

To estimate the FX liquidity position of the CBN, we start from the oil side. On CBN oil inflow, we have modeled crude oil production of 2.04mbpd with crude oil export of ~1.6mbpd. We have also factored our crude oil price forecast of $58.00/bbl. for H2 2019 (H1 19 average: $67/bbl.). On balance, we forecast average monthly crude oil inflow to the CBN of $1.5 billion over H2 19 (H1 19 average: $1.54 billion) with overall flow for the year estimated at $18.28 billion (+20% YoY).

On non-oil inflows, we highlight two factors dominant to flows into the country 1) a sustained dovish stance from the US Fed, and 2) the attractiveness of fixed income yields (OMO and Treasury bills) relative to other EM peers. From our findings, we observed that while Nigeria’s real return remains positive, real return in specific markets such as Egypt, Mexico and Turkey are few notches higher. Hence, while we believe inflows into the country will persevere, we think flows will slow relative to H1 19 on the back of thinner carry trade opportunities. As such, we see contraction in non-oil inflows to $20.9 billion compared to H1 19 of $23.1 billion. Overall, we believe the apex bank will run on lower flows over H2 19, with average monthly inflow of $4.9 billion (H1 19 average: $5.4 billion), with total inflow for the period contracting to $29.9 billion (vs. $32.4 billion in H1 19).

Proshare Nigeria Pvt. Ltd.

Maturing offshore holdings, how tragic could the impact on reserve?

On portfolio outflows, with total maturing global outstanding (incl. OMOs) of N9.9 trillion ($27.6 billion) over H2 2019, and our estimate suggesting foreign holdings of $8.8 billion (32% of total maturing global outstanding), we assumed exit of 50% of such funds at maturity over H2 19. On other outflows, with imports valid for CBN (visible and invisibles) sales averaging $3.2 billion monthly (total of $19.2 billion) over H1 19, we estimate increase over H2 19 by 15% to $22.1 billion (monthly average of $3.7 billion). Coalescing our modeled FPI repatriation and increased dollar demand for imports over H2 19, we see increase in CBN interbank forward and spot intervention to $14.2 billion (+76.1% higher compared to H1 19).

Proshare Nigeria Pvt. Ltd.


Elsewhere, with the increase in CBN sales to $75,000 per week (to each BDC operator), we expect CBN sales to that segment to remain elevated over H2 19 due to the perpetually increasing number of operators. Also, with our expectation of upward adjustment to $80,000 per week during the festive season, we see total sales increasing over H1 19 by 12% YoY to $8.1 billion. On swaps and other sales, we do not expect initiation or renewal of maturing swap positions over 2019, with consequent impact on lower maturity and sales. Thus, we forecast swap and other sales to contract by 27% over H1 19 to $8.7 billion.

Overall, with our model suggesting cumulative higher CBN intervention over H2 19 to the tune of $31 billion (5% higher compared to H1 19), we estimate average monthly sale of $5.2 billion (vs. $4.9 billion in H1 19). Coalescing this with our estimate of average oil and nonoil inflows to the apex bank, we estimate monthly average reserve drawdown of $290 million which summed up to $1.7 billion over H2 19 (relative to $2.8 billion accretion in H1 19). Consequently, gross reserves are expected to print at $43.8 billion by year end.

Proshare Nigeria Pvt. Ltd.

While our base scenario (even worst scenario) suggest a comfortable position for the apex bank and the naira, we believe the distorted interplay of demand and supply at the IEW and the increased demand at same would drive short term volatility in rates. On our purchasing power parity model (PPP), the fundamental value of naira lies between N395.0/$ to N400.4/$ (8-8% - 10% down-leg from current NAFEX rate of N361.6/$).

However, we fully recognize many stipulations behind expecting mean reversion from real effective exchange rates (REERs) and PPP, we therefore refrain from interpreting the results of our analysis as a viable trading signal. As such, we expect the short term volatility due to increase demand at the IEW to result in Naira depreciation between N363.0/$ to N366/$ over H2 19.

 

Related News from ARM’s H2 2019 Nigeria Strategy Report  

  1. NSR H2 2019 (8) - Balance of Payment - Foot On The Pedal
  2. NSR H2 2019 (7) - Nigerian Fiscal - CBN Backdoor Financing Will Constrain Local Borrowing
  3. NSR H2 2019 (6) - GDP - Modest Growth, Not Much Solace
  4. NSR H2 2019 (5) - Crude Oil - Clearer Path, Not Entirely Great
  5. NSR H2 2019 (4) - EM Capital Flows - Break Out The Champagne
  6. NSR H2 2019 (3) - Commodity Prices - Mixed Bag For Global Soft Commodity Market
  7. NSR H2 2019 (2) - MEA Region - Neither Booming Nor Collapsing
  8. NSR H2 2019 (1) - Global - Wobbly Growth Picture, More Tilted To The Downside

 

Related News from ARM’s H1 2019 Nigeria Strategy Report  

1.      NSR H1 2019 (9) - Fixed Income - Will Yields Hump or Shift?

2.      NSR H1 2019 (8) - Nigerian Fiscal - More Strain On FG Finances

3.      NSR H1 2019 (7) - Monetary Policy - Maintaining The Narrative

4.      NSR H1 2019 (6) - Nigerian Inflation - Boiling Below The Surface

5.      NSR H1 2019 (5) - Currency - A Test Of Nerves And Resilience

6.      NSR H1 2019 (4) - Domestic Economy - Stable Growth In Dire Need Of Fresh Impetus

7.      NSR H1 2019 (3) - Crude Oil - Not Great But Not All Gloom Either

8.      NSR H1 2019 (2) - MEA Region: A Year of Fragile Growth

9.      NSR H1 2019 (1) - Global Growth: New Year, Same Rhetoric, Matching Growth

 

Proshare Nigeria Pvt. Ltd.


Related News

  1. Nigeria H2-19 Outlook Report: A Treasure in the Mire?
  2. Nigeria Macroeconomic Outlook H2 2019 - Walking On Eggshells
  3. Nigerian Economic and Financial Market Outlook H2:2019 -Next Wave of Inertia? Better Safe than Sorry
  4. Access Bank 'B and B' Ratings Affirmed; Outlook Stable
  5. Nigeria Resilient Capital And Wide Liquidity Buffers Support Stable Outlook Even As Risks Remain
  6. Economic Associate’s Conference on ‘Nigeria’s Economic Outlook’, to hold on July 17, 2019
  7. Fitch Affirms Nigeria's Lagos State at 'B plus'; Outlook Stable
  8. Fitch Affirms Nigeria at 'B plus'; Outlook Stable
  9. African Reinsurance Corp. 'A minus' Ratings Affirmed On Strong Capital; Outlook Stable
  10. Unintended Consequences

 

Proshare Nigeria Pvt. Ltd.

Research 234 (1) 2701653  research@armsecurities.com.ng

 

Related News from ARM’s H2 2018 Nigeria Strategy Report  

1.       NSR H2 2018 (15) - Equities: The Divergence… Fundamentals or Sentiment?  

2.       NSR H2 2018 (14) - Fixed Income: Have Yields hit the bottom?

3.      NSR H2 2018 (13) - Monetary Policy: A Classic Catch-22, Where will the Balance Tilt?

4.      NSR H2 2018 (12)- Nigerian Inflation: Approaching an Inflection Point

5.      NSR H2 2018 (11)- Currency: The Battle for Naira Stability

6.      NSR H2 2018 (10)- Balance of Payment: CA Surplus Recycled Through Record Portfolio Outflows

7.      NSR H2 2018 (9)- Growth to Run Above 2%, But Nearing a Cyclical Peak

8.     NSR H2 2018 (8) - Game Of Thrones! How They Stack Up In the Race

9.      NSR H2 2018 (7) - Pension: Multi-fund - Will Variable Assets Blow-Up or Blow Over?

10.  NSR H2 2018 (6) - Nigerian Fiscal: Déjà Vu All Over Again?

11.   NSR H2 2018 (5) -EM Portfolio Flows: Slowing the Flow, But Far From A Dribble

12.  NSR H2 2018 (4) - Commodity Prices: Peaks and Troughs Across Soft Commodities

13.  NSR H2 2018 (3) - Crude Oil: Stability Gains Ground in Titans' Tug of War

14.   NSR H2 2018 (2) – A Tale of Resolve and Recovery Across MEA

15.   NSR H2 2018 (1) – Supportive Global Monetary Policy to Consolidate Global Growth Over 2018

 

Proshare Nigeria Pvt. Ltd.

 

Proshare Nigeria Pvt. Ltd.

READ MORE:
Related News
SCROLL TO TOP