Nigeria: Liquidity ease an unavoidable fallout from JP Morgan delisting

JP Morgan Chase.

JP Morgan Chase.

10 September 2015, Lagos – The decision by US investment bank JP Morgan & Chase to phase out Nigerian government bonds from its Government Bond Index for Emerging Markets (GBI-EM) by the end of October, on Wednesday sent jitters through Nigeria’s currency and capital markets, effectively defining the outcome of the next Monetary Policy Committee, MPC, of the Central Bank of Nigeria, CBN.

The next MPC meeting of the central bank is slated for September 21 and 21. Market analysts yesterday disclosed that the CBN would have to shift into an expansionary mode by reducing the cash reserve ratio (CRR) from 31 per cent in order to increase liquidity that could help the stock market regain the losses resulting from JP Morgan’s decision to delist Nigeria from its index.

Panic trading was evident in all segments of the market yesterday, as the naira depreciated to the US dollar in the parallel foreign exchange market, stocks clawed back three days of consecutive gains, and yields on the most actively traded bonds rose, reflecting the decline in their value.

The equities market suffered a 2.9 per cent decline to halt three consecutive days of gains as investors reacted negatively to the development.

Accordingly, the Nigerian Stock Exchange’s, NSE, All-Share Index fell to 29,454.09 on the back of negative trading across all sectors.

The Banking Sector Index shed 3.9 per cent, the Industrial Index also declined 2.5 per cent, while the Oil and Gas and the Consumer Goods Indices went down by 2.2 per cent and 2.1 per cent respectively. The Insurance index declined by 1.9 per cent.

The naira also depreciated on the parallel market to N223 to a dollar in Lagos yesterday, against N221.50 to a dollar at which it closed the previous day.

The bond market was not left out, as investors reacted negatively to the announcement. Yields on the most actively traded FGN bonds rose, reflecting the decline in their value. Specifically, while the yield on the April 2017 bond jumped to 16.53 per cent yesterday as against the 16.23 per cent it attained on Tuesday, yields on the June 2019 bond also climbed to 16.68 per cent from 16.21 per cent the previous day. In the same vein, the yield on the February 2020 bond increased to 16.41 per cent yesterday from 16.14 per cent, while the yield on the January 2022 bond also rose to 16.62 per cent from 16.11 per cent the previous day.

Nigeria has a weighting of 1.5 per cent of the JP Morgan index series. With a total of $208 billion globally allocated to the series, GBI-EM index tracker funds are likely to hold around $3.2 billion worth of Nigerian government debt, a report by CSL Stockbrokers Limited showed.

Commenting on the move to phase out Nigeria’s bonds, the Managing Director/Chief Executive Officer of Cowry Asset Management Limited, Mr. Jonhson Chukwu, said the exit of Nigeria from the JP Morgan GBI-EM would possibly lead to the withdrawal of foreign investors from the Nigerian equities market with the attendant further depression of the market. “This is more so given the fact that the illiquidity in the foreign exchange market affects foreign equity investors in the same way as it does to bond investors.

“The minimum layoff period of 12 months before the country can be re-admitted to the bond index even after restoring liquidity to its forex market also implies a negative outlook in the short to medium-term for Nigerian-issued securities, which includes equities.

“The only way out is for the government to reflate the local economy by driving an expansionary economic policy. Such policy initiative could include encouraging the Monetary Policy Committee to reduce the cash reserves ratio from the current 31 per cent to not more than 15 per cent.

“This will not only inject liquidity into the real sector of the economy but also the equities market,” Chukwu said. But the Chief Executive Officer of Proshare Nigeria Limited, Mr. Femi Awoyemi, aligned with the position of the federal government saying: “We cannot continue making policies that satisfies foreign portfolio investors and financial institutions to the detriment of the Nigerian economy.”

Awoyemi said: “The bottom line is that the economy is facing a dilemma. There is a challenge between the exchange rate, interest rate and inflation and this has consequences for employment, consumption and most importantly, growth.

“Under this scenario, the CBN has to do all it can to stimulate growth and I strongly believe the initiatives it (CBN) has taken so far are in order. So let’s get our house sorted out and take wise decisions on the dilemma we face.”

To analysts at Ecobank Nigeria, the implications of the country’s removal would weigh heavily on the bond market, “in the light of a non-functional two-way quote FX market”.

“It creates a negative effect on the prices of current bond portfolios; however, the subsequent rise in bond yields should provide a new re-entry point for investors interested in naira denominated assets, which in turn will help boost FX inflows thereby supporting the naira.

“Bond yields will rise, possibly by around 200-300 basis points, which in turn would increase pressure on the naira. This will heighten the naira volatility, with further depreciation most likely. “As such, we expect CBN to either increase the volume/frequency of interbank forex intervention or devalue the naira by another 18 per cent to $1:N230,” analysts at Ecobank added.

On his part, the CEO of Quest Advisory Services Limited, Mr. Bayo Rotimi, said undoubtedly, the equities market would fall further, as a significant number of foreign portfolio investors would exit the Nigerian stock market.

“The suspension will further erode the fragile confidence in our financial market. It is therefore imperative that the federal government immediately constitutes its economic management team so that appropriate monetary and fiscal policies can be introduced to stimulate the economy and attract foreign direct investments (FBI) back into the country.

“Government’s short term plan should be to initiate policies to conserve our dwindling foreign reserves, chief of which is the immediate removal of fuel subsidies.

“In the medium term, the government should seek to diversify the economy away from oil and focus on agriculture, solid minerals and the service sectors,” Rotimi said.

In his opinion, the Managing Director, APT Securities & Funds Limited, Alhaji Garba Kurfi, said the decision by the US investment bank would affect the market because more than 60 per cent of transactions are done by foreign investors.

“That indicates a high risk for foreign exchange and will put much pressure to the selling side in order to meet the deadline as you can see a loss of about three per cent only today (yesderday). And this is likely to continue,” he added.

On their part, analysts at CSL Stockbrokers Limited noted that with foreign exchange reserves sitting at $31 billion as at September 7, the central bank has the resources to prevent a major sell-off, even if this entire amount is withdrawn from the Nigerian bond market.

“The fact that Nigerian policy makers have allowed the exclusion to take place further demonstrates their commitment to holding the interbank rate at its current level of N200/US$ and we therefore expect the CBN to use reserves to meet any immediate demand for forex resulting from foreigners selling bonds.

“As such, we do not expect a major sell-off in the currency as a direct result of the foreigners selling bonds.

“However, the decision to remove Nigeria from the index will be negative for sentiments towards Nigerian assets and this will add to the pressure on the currency over the medium term. “In order to maintain the N200/US$ level, the CBN will therefore have to tighten monetary policy further.

“Further tightening will constrain economic growth – which slowed to 2.4 per cent in second quarter 2015 – and will prove unsustainable. Therefore, a devaluation of the currency remains inevitable in our view as the market will force the authorities’ hand.

“The timing of this is difficult to predict. The exclusion decision adds to the urgency for devaluation owing to the deterioration of sentiments towards Nigerian assets.

“An increase in domestic borrowing costs (as interest rates rise) will also place additional pressures on the already-stretched government finances,” CSL Stockbrokers stated.
*Goddy Egene and Obinna Chima – Thisday

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