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'Radical Shift' Wins Over Bond Investors in Frontier Markets

March 17, 2024
minute read

In recent months, central banks across pivotal frontier economies like Kenya, Nigeria, and Egypt have implemented substantial hikes in policy rates while also taking steps to liberalize markets, exemplified by Nigeria's decision to permit free trading in the naira.

These measures, aimed at addressing inflationary pressures exacerbated by currency depreciation, signify an increasing commitment to financial orthodoxy and stability. Consequently, some money managers are adjusting their portfolios to capitalize on declining yields and strengthening currencies resulting from these measures.

Charlie Robertson, head of macro strategy at FIM Partners, noted the surge in demand for local-currency bonds in Kenya and Egypt following their respective interest rate hikes. He anticipates a similar trend in Nigeria once its central bank completes its rate hike cycle.

Goldman Sachs Group Inc.'s calculations indicate that ex-ante real rates in frontier markets—representing the disparity between nominal yields and expected inflation—have shifted further into positive territory. This development positions these markets favorably in terms of yield advantage as major developed economies move towards rate reductions.

Peter Marber, chief investment officer for emerging markets at Aperture Investors, highlights the attractiveness of local bond markets in countries like Egypt, Nigeria, Argentina, and Turkey, the latter exhibiting frontier market characteristics. Factors such as currency devaluations and high yields contribute to the appeal of these markets.

However, investments in frontier markets carry inherent risks, particularly due to their history of policy reversals, as seen in countries like Nigeria and Zimbabwe. Bloomberg's chief emerging-market economist, Ziad Daoud, emphasizes the necessity for these countries to implement measures such as capital restriction removal and the provision of positive real interest rates to attract international investments while learning from past experiences.

Nigeria's recent policy actions reflect a shift towards liberalizing the currency market and attracting capital inflows, resulting in stability for the naira and positive ex-ante real rates despite persistently negative ex-post real rates based on current inflation. Goldman Sachs analyst Andrew Matheny views Nigeria's recent developments positively, predicting a strengthening of the naira and recommending the country's dollar bonds.

Similarly, Egypt's central bank, after securing funding from the United Arab Emirates, implemented a long-awaited currency devaluation and a significant rate hike, transitioning to a flexible currency regime. Kenya has also witnessed a turnaround, supported by tighter monetary policies, International Monetary Fund funding, and successful Eurobond issuance.

Barclays Plc suggests purchasing Egypt's and Nigeria's dollar bonds, foreseeing potential rating upgrades driven by recent reforms. Deutsche Bank favors Egypt's local debt due to attractive yield levels and structural perspectives.

Beyond Africa, Bank of America Corp. identifies opportunities in external debt from Pakistan and Sri Lanka, while in Latin America, they recommend Guatemala's 2050 bonds. However, they advise investors to remain selective and focus on relative value opportunities given uncertainties surrounding inflation, growth, and US rate outlooks.

Adan Harris
Managing Editor
Eric Ng
John Liu
Editorial Board
Bryan Curtis
Adan Harris
Managing Editor
Cathy Hills
Associate Editor

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