Given the downward trajectory of the foreign exchange reserves since July 2019, attracting Foreign Portfolio Investment (FPI) will be important to the Central Bank of Nigeria (CBN) over the coming months, according to Coronation Merchant Bank Limited.
Nigeria’s external reserves have declined to $36.8 billion as at February 18, 2020 from $40.0 billion in July 2019, data from the CBN revealed.
FPIs account for a significant proportion of the CBN’s $36.8 billion forex reserves. “If the CBN cannot sell sufficient Open Market Operation (OMO) bills to foreigners in early 2020 then this could, in our view, present challenges to its FX reserves management and disrupt the current N362.50/dollar exchange rate,” analysts at Coronation said.
During the second half (H2) of 2019 the CBN lost reserves (largely providing US$ to the NAFEX market) at an average US$1.1 billion per month. It has begun to arrest the slide. January’s outflow was US$0.6 billion, Guy Czartoryski, head, research Coronation Asset Management said.
FPI buying of the CBN’s OMO bills is critical to the success of CBN reserve management. Foreign holdings of OMO bills likely account for over US$5.0 billion of the CBN FX reserves.
In the OMO market, Czartoryski said the first key test of 2020 has been passed, namely US$1.71 billion of Foreign Portfolio Investment entered via the Nigerian Autonomous Foreign Exchange Fixing (NAFEX) market in January, almost certainly destined for the OMO market
A substantial part of the CBN’s FX reserves can be attributed to the FPI hence, the need to maintain foreign interest in the OMO market in 2020.
The next test is February. Does FPI continue to enter the OMO market in spite of oil prices (Brent) at US$54.00/bbl and concerns over the global spread of the coronavirus?
Nigeria’s OMO yields look comparable to risk-free yields of local currencies in other markets, notably Ghana and Egypt when it comes to competing for global local-currency capital flows.
Some investors look at the spread over inflation as an indication of currency security –though the Non-Deliverable Forward allays this fear to some extent (it hedges price, not liquidity).
The OMO market, at N6.0 trillion (US$16.5bn) in September 2019, was six times the size of the T-bill market. There are over N4.5 trillion in OMO bills to be redeemed in in the first quarter of 2020.
Pension fund, mutual fund and insurance companies have moved money from the OMO market into T-bills. Banks, as the conduit of this liquidity, have been very liquid with funds –until recently.
Since the de-coupling of the T-bill and OMO markets last October, T-bill yields continue to fall. Foreign portfolio investors still receive OMO yields around 14 percent. T-bills sell at between 4.5 percent and 6.5 percent. Liquidity has been rotating out of the OMO market, via banks, into the T-bill market. Inflation remains at close to 12 percent.
“We are familiar with the flat, or gently upwardly-sloping but straight Naira yield curve. Now we have a yield curve that actually inflects. The market does not think that low T-bill rates are here to stay. It is pricing in a steep rise in rates a year or two ahead. The question is, how do we get to that environment?” Czartoryski said.
The report by Coronation Merchant bank stated that the results of OMO bill sales to Foreign Portfolio Investors during January and February 2020 will provide an important indicator of whether the CBN’s FX reserve management is succeeding.
Foreign investors may find OMO yields, currently at 14.92 percent per annum attractive, but could be deterred by the recent decline in liquidity in the OMO market.
