Egypt’s falling borrowing costs show the government may have won a showdown with creditors by cutting its budget deficit target and canceling a debt sale after yields hit a three-year high.
Yields on treasury bills fell yesterday for the third straight auction after the central bank called off the first sale in the fiscal year that started July 1 when investors demanded higher returns. The average yield on 3.5 billion Egyptian pounds ($588 million) of nine-month notes dropped 21 basis points from last week’s auction, the most since October, to 12.681 percent, according to Finance Ministry data.
Finance Minister Samir Radwan’s decision to lower the budget deficit target by about 2.5 percentage points to 8.6 percent of economic output reduces the need for him to go to local markets for financing, helping to lower yields, economists at investment banks EFG-Hermes Holding SAE and CI Capital Holding say.
“The market has a lot of liquidity and the central bank sent a clear message that banks have to accept lower yields,” said Mohamed Kotb, Cairo-based regional asset management director at Naeem Financial Investments. “The banks don’t want to lose such a valuable investment opportunity, so they are forced to comply.”
In its previous sale on July 7, the bank raised the full amount of one-year notes for the first time since April and yields fell 8 basis points, or 0.08 percentage point, to 12.9 percent. The yield had jumped 254 basis points to about 13 percent, the highest since 2008, after an uprising ousted President Hosni Mubarak in February.
Less Upward Pressure
Foreign investors dumped 34.7 billion pounds of Egyptian treasury bills in the first four months the year, according to the central bank, prompting local lenders to ask for higher yields. That forced the government to freeze bond sales, shifting its focus to short-term borrowing as the central bank, which runs the auctions on behalf of the Finance Ministry, struggled to meet its fund-raising targets.
“As the year progresses and the foreign money starts coming in” yields will come down, Richard Fox, the London-based head of Middle East and Africa Sovereigns at Fitch Ratings, said in a conference call on July 6. “There may not be huge downward pressure, but at least the upward pressure should dissipate.”
The rating company cut Egypt’s credit rating one level, to BB, on Feb. 3, leaving it two levels below investment grade.
Egypt’s three-month and six-month securities were rated “buy” in a new coverage today by Gabriel Sterne, a London-based senior economist at Exotix Ltd. He also rated as “buy” Egypt’s 8.75 percent pound-denominated eurobond maturing in July 2012. At yesterday’s auction, the bank raised 2 billion pounds in 91-day treasury bills at an average yield of 11.93 percent, 16 basis points lower than the last auction of the same maturity.
The yield on Egypt’s 5.75 percent 10-year dollar bond maturing in April 2020 declined two basis points in the past week to 5.69 percent, according to Bloomberg prices. The yield peaked at 7.07 percent on Jan. 31 at the height of the anti-Mubarak protests that ended his three-decade rule. The pound gained 2 piasters to 5.95 to the dollar in the same period.
Egypt’s economy probably expanded 2.6 percent in the fiscal year that ended last month, according to the Finance Ministry, compared with about 5 percent in the previous 12 months.
The government, which turned down a $3 billion loan from the International Monetary Fund, kept its target for economic growth this year of 3.2 percent even after cutting the deficit target through lowering spending on energy subsidies and investment.
The target may be ambitious, said John Sfakianakis, the Riyadh-based chief economist at Banque Saudi Fransi. He forecasts the economy will expand 2.5 percent.
“The growth engines will recover, but at a slower pace than what a lot of people are expecting,” he said, citing tourism and manufacturing.
Reducing spending and keeping the growth target unchanged reflects a government bet on inflows from oil-rich governments and investors in the Persian Gulf, said Mona Mansour, co-head of research at CI Capital, a Cairo-based investment bank.
Saudi Arabia has promised Egypt $4 billion in aid, while the United Arab Emirates last week pledged $3 billion for Egypt’s small and medium enterprises, and housing projects.
The cost of protection against Egypt’s default climbed 26 basis points in the past three weeks, reaching 328 today, according to data provider CMA. The contracts rose before a mass rally in central Cairo last weekend where protesters demanded speedier trials of former officials and policemen accused of killing civilians.
Credit default swaps for Bahrain, which saw anti-government protests in February and March, are at 233 basis points, according to CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.
The extra yield investors demand to hold Egyptian debt surged 22 basis points in the past week to 307 according to JPMorgan Chase & Co.’s Global Emerging-Market Index. Middle Eastern debt yields are on average 348 basis points more than Treasuries, the data show.
Unrest ahead of parliamentary elections in September may also prompt banks to ask for more yields.
“Political risk is deemed to be very high with new protests over this weekend in Cairo and uncertainties about how a new government will tackle all these macroeconomic challenges,” said Sergey Dergachev, senior portfolio manager at Frankfurt-based Union Investment Privatfonds, who oversees $8.5 billion in emerging-market debt. “We have not yet started to buy Egyptian treasury bills.”