Devalued naira too hot for traders seeing further currency slide

Traders expecting Nigeria’s currency devaluation to trigger a rush of cash into Africa’s largest economy are rapidly concluding that the naira’s 30 percent drop wasn’t enough.

Investors got the foreign-exchange policy change they asked for, but still aren’t flocking to buy naira assets as the Central Bank of Nigeria keeps a grip on its currency, nine days after abandoning a 16-month-old peg.

The naira fell almost 30 percent to a record 281.75 per dollar last week as policy makers, confronted by a looming recession, relaxed currency curbs on June 20. While central bank Governor Godwin Emefiele promised a free float, AllianceBernstein LP and Loomis Sayles & Co. are among investors navigating post-Brexit global market turmoil who say the monetary authority still isn’t letting the naira weaken enough.

“The central bank is probably wondering why investors haven’t moved back in following the devaluation,” said Rick Harrell, an analyst in Boston for Loomis Sayles, which oversees $229 billion of assets. “They’re being cautious and the main reason why is the state of the economy. The fundamental backdrop isn’t positive.”

Trading in the Nigerian interbank foreign-exchange market is yet to pick up, partly because the the central bank cleared a backlog of dollar demand by selling more than $4 billion in the spot and forward markets on the first day without the peg. Turnover averaged about $40 million a day last week, according to analysts at Standard Bank Group Ltd. Less than three years ago, weekly volumes were as high as $1 billion.

“That the currency’s been so stable since the devaluation tells me that the central bank is still heavily managing it,” Harrell said. “If we saw gradual depreciation to 300 or above, investors might feel more comfortable coming back.”

Recession Threat

Africa’s second-biggest oil producer was already under strain before the U.K. voted to leave the European Union on June 23. The economy shrank for the first time since 2004 in the first quarter as investment shriveled and local businesses battled to find dollars to import essential materials. The central bank said last month that a recession, or two straight quarters of contraction, is imminent.

Emefiele exasperated markets by fixing the currency, while other oil exporters from Russia to Colombia and Kazakhstan let theirs fall in response to the 50 percent collapse in crude prices since mid-2014. With the backing of President Muhammadu Buhari, the 54-year-old former head of Zenith Bank Plc argued that his peg of 197-199 naira per dollar would boost local manufacturing and curb inflation.

Emifiele was forced to backtrack after the economy stalled and inflation soared to 15.6 percent as companies, desperate for dollars, turned to the black market, where the naira traded at 370 per dollar earlier this month.

While the unofficial exchange rate has strengthened 6 percent since Emefiele announced the new currency system on June 15, it’s still almost 20 percent weaker than the official rate.

‘Ruthless Devaluation’

Foreign-exchange trading needs to increase before international investors are confident they can buy and sell shares quickly and repatriate proceeds, according to Christine Phillpotts, a stocks analyst at AllianceBernstein. The firm oversees $483 billion of assets and hasn’t added to its Nigerian equity holdings since June 20. Some investors are concerned that Buhari will pressure the central bank to keep the currency from weakening further, she said.

Buhari told businessmen in Abuja, the capital, on June 27 he didn’t understand the “ruthless devaluation,” the Lagos-based Vanguard newspaper reported. He previously likened devaluation to “murder”.

“It’s hard to tell what the central bank has in mind,” Phillpotts, who sees the naira’s fair value at about 320, said by phone from New York. “It’s probably driven equally by economics and politics. It comes down to Buhari and his comfort level with the new regime.”

Traders on the forwards market are betting the naira will drop to 296 per dollar in three months and 334 in a year.

‘Potentially Disastrous’

The end of the peg has failed to ignite a rally in Nigerian stocks. While the All-Share Index surged 8 percent in three days last week as local investors anticipated the return of foreign cash, the benchmark gauge has since dropped 5.2 percent as contagion from the Brexit result spread.

Yields on Nigerian bonds are also below levels that would entice investors, according to Harrell of Loomis Sayles, which holds no naira debt. Yields on naira-denominated government securities averaged 14.49 percent on Tuesday, less than inflation, according to Bloomberg indexes.

“For me to get started, I’d want yields of 16 percent or higher,” Harrell said.

The central bank’s change of heart on the naira might have come too late, according to Nicholas Spiro, a partner at London-based Lauressa Advisory Ltd., which counts money managers among its clients. Consumer inflation will probably accelerate in the short term as the devaluation increases the cost of imports such as gasoline, while oil production has dropped close to a 20-year low amid militant attacks on pipelines and refineries.

“They’ve finally bitten the bullet with the devaluation, but only because they had a gun to their head,” Spiro said. “We’ve got a potentially disastrous economic situation.”