I’m looking for carry trade
By David Whitehouse
Posted on Friday, Mar 5th, 2021 9:39 AM
The Nigerian central bank has given mixed signals regarding foreign access to open market operations. REUTERS / Afolabi Sotunde
The rejection of the Governor of the Nigerian Central Bank, Godwin Emefiele, that he plans to end foreigners’ access to Open Market Operation Bills (OMOs) did not convince analysts.
The central bank is grappling with the cost of selling the debt to stabilize the currency.
Bloomberg reported on the director of monetary policy on March 2nd Hassan Mahmud stating that sales to non-residents would expire once ongoing commitments were repaid. Emefiele replied that foreigners will not be banned from participating in OMO auctions.
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The OMOs were a profitable kind of Trade bear by foreign investors who can access cheap dollar or euro money and then use it to buy high yield debt. This has resulted in Nigerian OMOs being “overfished” by foreign private investors and non-banks, says Anaïs Auvray, West Africa advisor at Africa Matters, a London-based consultancy.
“This regulatory scrutiny has resulted in an unexpected increase in liquidity management and administrative costs for the central bank. The associated costs of OMOs outweigh the benefits to the central bank, ”she says.
The central bank’s refusal was due to the fact that terminating access to much-needed foreign direct investors would be an unpopular move. “At the same time, their hands are tied – the bank cannot afford to maintain the costs of international OMOs. We expect the central bank to confirm that it will restrict foreigners’ access to OMOs within the next two months despite assurances to the contrary. “
Other analysts believe the change may take longer.
- The mixed signals suggest that a phased exit “is more of a medium term position than an imminent one,” said Wale Okunrinboye, investment analyst at Sigma Pensions in Lagos.
- In November 2019, the central bank banned domestic non-bank financial institutions from investing in OMO bills and settling OMO liabilities of this investor class beyond 2020, Okunrinboye said. The liquidation should have continued into the first two months of this year, he adds.
- “Essentially, the central bank bore the cost of maintaining currency stability, but its actions since November 2019 suggest that the burden on central bank finances has become too onerous.”
According to William Attwell, senior country risk analyst at Fitch Solutions in London, there is a likelihood that OMO emissions will be reduced significantly in the future as the central bank has concerns about the size of the debt. “Large stocks of OMO from offshore investors make the economy vulnerable to outflows,” he says.
The lack of access to OMOs will result in foreign investors having to find new sources of return when the carry trade dries up. Okunrinboye says the next best option would be most likely Egyptwhich has high foreign exchange reserves, positive real returns and “some obligation to control the exchange rate within reasonable levels”.
- According to HC Securities & Investment in Cairo, the Egyptian carry trade offered a real interest rate of 4.1% over a 12-month period at the end of February.
- Other African carry trade candidates are Ghana and Uganda, Says Okunrinboye. These also offer positive real interest rate differentials, but are riskier than Egypt because they have lower currency reserves and a higher tolerance for currency devaluations.
Foreign investors need to find new carry trades as the days of the naira OMOs are numbered.