Finance

Devaluation of naira: Understanding the situation and the risks for investors

Thursday, 09 July 2020 19:21
Devaluation of naira: Understanding the situation and the risks for investors

(Ecofin Agency) - The Nigerian currency has been losing value for the past two days on the FMDQ OTC securities exchange, a privately owned alternative financial market platform on which currency and bond securities are traded in Nigeria. The naira ended the day of July 8, 2020, at 386.75 naira for one US dollar. At one point during the day, it even reached 391.3 for a dollar.

This represents a loss of 8.6% on the official rate applied by the Central Bank of Nigeria, which is 360 naira of a dollar. According to Bloomberg, this is a confusing situation for traders, especially as CNB is not commenting on it.

The information is critical for those who have acquired shares or bonds on the Nigerian financial market. If the currency continues to lose value, it means that repatriating their capital will be difficult. Since the crisis of 2015 and 2016, CBN has been applying a multiple exchange rate policy, which includes the official rate at which the institution places dollars on the local money market. There are also several market rates that are determined by supply and demand mechanisms on alternative markets.

Sign of the vulnerability of commercial banks on the currency market

This devaluation of the currency which seems surprising can however be explained. The dollars on the alternative market mainly come from commercial banks but the latter need strong exports to meet demand in a meaningful way.

“Nigeria's banks are facing foreign currency shortages because of low oil prices, volatile foreign inflows and lower remittances amid the pandemic, threatening to renew foreign currency liquidity pressures that blighted them during a previous oil crisis in 2016-2017,” rating agency Moody’s said in a July 1 statement.

According to the rating agency, Nigerian banks managed to reduce their foreign currency funding gap to only $984 million at the end of 2019. For the coming years, this deficit is expected to be $3.8 billion, a level relatively solid compared to the $5.8 billion in 2016. But in contrast to that period, uncertainties in the international debt market have become even greater.

The outlook is not more positive if the recovery of Nigeria's partner economies is not as strong as envisaged. The 9 largest banks listed on the Lagos Stock Exchange (excluding Stanbic, a subsidiary of Standard Bank Group) ended 2019 with a debt of $7 billion. 49% of these bonds are due in 2020 and 2021, which will put pressure on these financial institutions.

A new battle for currencies seems to be opening up in Nigeria. Several listed companies with foreign investors are likely to face difficult times. Divestments are likely to drive down their stock market value. Similarly, for those whose operating expenses are denominated in dollars, foreign exchange losses are likely to increase and put pressure on net margins.

Idriss Linge



 
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