There’s no where in the world an investor will house their cash holdings to earn yields of 25% on long dated bonds, in an environment with an inflation of 7%. Pension, hedge, mutual, offshore funds and citizens; let the opportunity not pass you by as Zambia offers $80million of its long dated, zero withholding tax on discount income, government debt in the first sale of 2017.
Zambian bonds are currently the most attractive on the continent after Egypt (after floating of the Egyptian pound late last year). Why are we so sure this so? The global environment currently offers depressed yields in Japan, United States and Europe. Bond yields are either negative or infinitesimal. Besides the yields inflation ratio or mathematical computation of real interest interest yield as provided by Fischer’s theory is far lower than in Africa and for the purpose of this article, Zambia and Egypt). Fischer’s interest rate theory in its simplicity states that real rates is the portion of the yield rate above inflation. It provides for compensation cushion to investors for inflation effects.
Zambia has joined the select few African nations with very low single digit inflation yet has its paper paying as high as 25% for 5-15yr tenors. This anomaly is as a result of a previous hyper inflation environment as a result of cost push effects as a consequence of currency volatility that was eventually curbed by the Bank of Zambia. Inflation touched highs of 22.3% the peak recorded in December 2015. To keep real rates positive the government curve had to adjust higher at a spread above inflation. It’s only makes economic sense for interest paid on a treasury bill or bond to be higher than inflation. Tables have since turned with inflation falling hard to 7% as at January 2017 but the curve is still elevated at above 22%-25%.
What does this mean? The answer is that whoever is buying Zambian paper is being overcompensated 3 times as much for taking risk in Zambian debt. Is it a good thing? Depends on which side of the balance sheet you are positioned. Well those with surplus cash (money) get a chance to earn high returns on their investments but for those borrowing (government) its sadly costly because they could be paying 3 times as much. But then a trade-off exists from making the debt attractive to offshore investors who will wire their dollars to Zambia to participate in the offering which is good for foreign exchange business. The offshore will transfer their dollars to Zambia which will be converted to Kwacha through a Zambian commercial bank for them to participate in the bond sale. Taking into account that it is a local currency offering to be funded in Kwacha.
Why so much emphasis on this auction? Because interest rates correlate positively with inflation, a low inflation increases compression pressure on the curve to realign lower. What does this mean? It’s means the early bird catches the first worm, only those awake to the market will maximize on such high returns because the treasury bill market has already started to signal falling yields. Yields may never be attractive this much in quite a while. The high rate cycle is expiring.
Previous appetite observed
Last the BOZ sold bonds in 2016, very bullish (strong) appetite never seen before was observed in Q4. The central bank sold circa. $395million in a fortnight spaced two (2) auctions. A normal Q4 and an extraordinary auctions were held with insatiable offshore appetite for 10yr paper sucking $100million of the $395million raised.
The Bank of Zambia will offer $80million (Kwacha equivalent) and in 2-15yr bonds. The frequency of bond issues will increase to 6times in 2017 from quarterly in the previous years. What does this mean? It means the average minimum local or domestic money market funding needs of the government will increase to $480million from $320million (Kwacha equivalent) annually. Not to worry about the increase as it is well aligned to the 2017 fiscal budget as presented by the Finance Minister Honorable Felix Mutati.
The current auctions provide the government with a good opportunity to dismantle most of it outstanding debt to locals of which so far the Ministry of Finance is on track in line with ‘Zambia Plus Economic’ recovery program.
More articles of Zambian bonds.