Nigeria’s bond market is taking off as the world’s biggest underwriter of emerging-market debt adds securities from Africa’s largest oil producer to its benchmark index.
Yields on 10-year naira-denominated notes have dropped 372 basis points since Aug. 15, when JPMorgan Chase & Co. said it plans to add the bonds to its GBI-EM Index from Oct. 1, compared with a three basis-points average increase for securities in the measure. Nigeria’s economic outlook is improving as policy makers remove restrictions on foreign investment, control inflation and steady the currency, Giulia Pellegrini, JPMorgan’s sub-Saharan Africa economist, said in an interview two days ago.
Adding Nigeria to the index may lure about $1 billion to the country and increase trading in the $36 billion local debt market, according to JPMorgan. The naira, devalued twice by the central bank since 2008, has risen 2.9 percent this year to 157.76 against the dollar, the best among the 23 most-traded African currencies tracked by Bloomberg.
The inclusion “could be a potential game changer,” said Morten Bugge, chief investment officer at Kolding, Denmark-based Global Evolution, which oversees $1 billion and owns Nigerian debt. “It’s a money machine if the currency remains stable. It’s a pretty strong story.”
Oil accounts for 95 percent of the West African nation’s foreign-exchange income and 80 percent of government revenue. Nigeria is Africa’s second-largest economy after South Africa, which has 1.45 trillion rand ($176 billion) of debt on the Johannesburg Stock Exchange, the size of Russia’s ruble market.
JPMorgan’s GBI-EM Index may include Nigerian debt maturing in 2014, 2019 and 2022 in a gradual inclusion starting Oct. 1 and finishing by year-end, according to an Aug. 15 note to clients. The bonds, with a market valuation of $3.2 billion as of August, may represent about 0.59 percent in the index. About $170 billion of assets are benchmarked to the JPMorgan index, according to Pellegrini.
Yields on the nation’s 16.39 percent debt due January 2022 rose six basis points, or 0.06 percentage point, yesterday to 12.37 percent, after hitting a record low of 12.05 percent on Sept. 17, according to data compiled by Bloomberg. Yields on South Africa’s notes due in 2021 rose three basis points to 6.66 percent as of 1:25 p.m. in Johannesburg, while the average in JPMorgan’s GBI-EM broad diversified index fell by two to 5.89 percent.
Nigeria’s seven-year borrowing costs dropped to a record low at a monthly debt auction yesterday. Yields on the 30 billion naira of notes maturing June 2019 plunged 324 basis points from the last sale in August to 12.9 percent, the Debt Management Agency said in an e-mailed statement today.
“Nigeria may not be a South Africa yet, but it’s certainly going towards that direction,” Pellegrini said by phone from London. The country’s “considerable yield premium will also make a number of investors very interested in getting exposure to Nigeria.”
The inclusion will increase foreign investments into Nigeria and may strengthen the naira, the Debt Management Agency said in a statement on Aug. 16.
Central bank Governor Lamido Sanusi lifted a requirement last year for foreign investors to hold local-currency debt for at least one year to attract capital. The removal of the restriction has been key to luring investors and improving liquidity, said Pellegrini.
Sanusi, who was named Governor of the Year in the world by The Banker magazine in 2011 for weeding out corrupt bankers, has raised benchmark interest rates 6 percentage points since 2010 to a record 12 percent. While annual inflation dropped to an eight-month low of 11.7 percent in August, it’s still above the central bank’s target of 10 percent. Policy makers kept rates on hold Sept. 18.
Foreign reserves have increased 33 percent to $40.8 billion since hitting a two-year low last October, helped by a 20 percent jump in the nation’s benchmark Bonny Light crude blend from this year’s low in June. Nigeria’s debt amounted to 18 percent of its gross domestic product at the end of 2011, compared with an average of 38 percent of developing countries, according to the International Monetary Fund.
“The country’s external buffers are gradually being restored,” Razia Khan, the London-based head of Africa research at Standard Chartered Plc, wrote in a Sept. 18 note to clients. “It is all important that this process continues for Nigeria to be able to safeguard both price stability and growth should these be put to the test by weaker oil prices in the future.”
A former British colony, Nigeria is rated B+ at Standard & Poor’s, along with Venezuela and Zambia, four steps below investment grade. The daily trading of naira amounts to as much as $200 million, according to Citigroup Inc. About $14 billion of South Africa’s rand changes hands daily, according to a 2010 survey by the Bank for International Settlements.
Kieran Curtis, who helps oversee $4 billion in emerging-market debt at Aviva Investors Ltd. in London, said the naira isn’t cheap and the yields of Nigeria bonds aren’t high enough to compensate for risk that prices could accelerate.
While inflation has cooled this year, it has ranged from a record of 15.6 percent in February 2010 to a low of 4.2 percent in April 2007, the year that Bloomberg began tracking the data.
The naira lost about a quarter of its value between 2008 and 2009 when the regulator started restricting the supply of foreign exchange after oil prices plummeted. The currency was devalued again in November last year when the central bank changed its trading range to 3 percent above or below 155 per dollar, weaker than the previous midpoint set at 150.
Nigeria’s benchmark stock index plunged 84 percent in 2008 after the West African nation’s banking crisis.
“We have some way to go before we get very comfortable with sub-Saharan credit outside South Africa,” said Curtis in a telephone interview. “When the currency band isn’t held, you can lose a lot of money very quickly. We want a big margin for error.”
Nigeria is still plagued by corruption and is placed 143rd out of 182 countries in a global Corruption Perceptions Index released in December by Transparency International, the Berlin-based anti-graft watchdog.
The West African nation is also grappling with an Islamist militant group called Boko Haram in the north of the country. The insurgents, whose name means “Western education is a sin,” has claimed responsibility for hundreds of attacks over the past two years on churches, government buildings and the killing of police, soldiers, officials, and Muslims who disagree with its goals of creating an Islamic state.
Sanusi, 51, fired the chief executive officers of eight lenders, pumped 620 billion naira into ailing banks and created a state-owned company to buy bad debt to push the country through its banking crisis in 2009.
Policy makers have since tightened regulations for lenders, reduced subsidies on gasoline and set up a sovereign wealth fund that will help build infrastructure and save oil revenue. The economy of Nigeria, Africa’s most populous country, will probably expand 6.8 percent next year as agricultural output and crude production increases, Finance Minister Ngozi Okonjo-Iweala said in an interview on Aug. 10.
As average yields in emerging markets fell to record lows in July, investors started allocating funds to bonds in “some exotic countries,” including Nigeria, Ghana, Sri Lanka and Guatemala, according to Citigroup.
The New-York based bank recommended its clients buy six-month Nigerian bills on Aug. 9, saying the yields are attractive as the currency remains stable. Citigroup became “more bullish” on Aug. 16 following JPMorgan’s announcement.
Rising oil revenue and capital inflow will help the naira stay within the central bank’s target band over the next six months, according to Bank of America Corp. The bank scrapped its call on Sept. 6 for the central bank to raise the interest rates two more times to support the naira.
“We like Nigeria,” said Stuart Culverhouse, chief economist at Exotix Ltd. in London, who recommends buying six-month Nigerian bills. “Nigeria over the past 10 years has made a big stride in terms of reform. They cannot be complacent in this environment but they have a strong starting point.”