Don't Miss

Capital flows to determine fate of the naira – Analysts

By BusinessNews Staff on November 3, 2014

As the United States Federal Reserve finally halts its $4.5 trillion bond-buying programme, a radical monetary policy it introduced nearly six years ago to steer the country’s economy, analysts have noted that it might put further pressure on the naira.
They pointed out that it is the level of portfolio flows, and not the oil price that would determine the fate of the naira going forward, adding that it might lead to an increase in demand and other speculative activities on the nation’s currency.
The US Federal Reserve led by Janet Yellen said on Wednesday that the final tranche of bonds under its quantitative easing programme was to be bought at the end of October, but it committed to keeping record low interest rates for “a considerable time.”
Announcing the decision on quantitative easing made at its October policy meeting, the Fed said: “The committee judges that there has been a substantial improvement in the outlook for the labour market since the inception of its current asset purchase programme.
“Moreover, the committee continues to see sufficient underlying strength in the broader economy to support ongoing progress towards maximum employment in a context of price stability.”

However, analysts at CSL Stockbrokers Limited pointed out that “portfolio flows, and not the oil price, will determine the fate of the naira.”

They estimated offshore holdings in the equity market at between $12 billion and $14 billion, based on a 60 to 70 per cent ownership share of the free float.
The sovereign debt market, with a total capitalisation of $65.7 billion, daily turnover of several hundred million dollars, and a significant offshore holding is of greater concern.
Globally, an average of 24 per cent of emerging markets sovereign debt markets is held by foreigners, over half of this acquired since 2010.
In contrast with the past flows, the majority of this money comes from asset managers rather than banks.
However, CSL Stockbrokers in a report pointed out: “Nigeria appears to be among the markets that would be resilient to a reversal in capital flows: it reports a large current surplus and benefits from relatively stable foreign direct investments (FDI) inflows.”
The Central Bank of Nigeria’s (CBN’s) existing reserves cover 97 per cent of narrow money (M1).
The report also estimated offshore treasury bills and FGN bond holdings at $13.5 billion.
“History suggests that we should be prepared for a period of weakness in the six months preceding the first rate hike, followed by a period of recovery and outperformance once the tightening cycle is underway,” it added.
On its part, the Financial Derivatives Company Limited (FDI), in a separate report, pointed out that year-to-date, the naira has depreciated by 0.04 per cent and 3.94 per cent to N155.76/$ and N165/$ at the official and interbank markets respectively.
According to the report, the divergence between the rates year-to-date has expanded by over 200 per cent.
“While the CBN remains committed to defending the value of the currency, it might do so at a greater cost going forward.
“Changes in oil prices, monetary policy of global economies and government spending for the 2015 elections are key factors expected to increase the pressure on the naira,” it added.
Nigeria‘s external reserves level, built from balance of trade surplus and inflows, is used by the CBN to support the naira.
Currently, oil prices have fallen far below their prediction to a low of $80.52per barrel (WTI), which is expected to affect external reserves accretion and the CBN‘s ability to support the currency. To add to this dilemma is the fact that the US, a former major importer of Nigeria‘s crude, has stopped importing from Nigeria due to the production of its own crude.
The FDC report noted: “Nigeria now has to compete with other oil-exporting economies to sell its crude to Asia and Europe.
“In addition, many European countries and the US are considering increasing their interest rates, which have remained low for some time. Higher interest rates in these economies will result in a reversal of capital flows from emerging economies including Nigeria.
“This reversal process is expected to increase the pressure on emerging markets’ currencies including the naira.
“Furthermore, political spending is expected to increase considerably, a few months to the general election. As a result, there is likely to be increased pressure on the naira due to increased demand, and other speculative activities.”