The first half of 2022 remains an interesting period for Africa’s second largest red metal hotspot, Zambia. Markets eagerly await clues around debt restructure following the Ministry of Finances attainment of consensus with the Washington based lender, the International Monetary Funds Staff Mission team on financial bailout to the tune of $1.4 billion. The agreement will now be presented to a special IMF board for approval in 1Q22 after which the first tranche should be disbursement.
The IMF package for Zambia is critical as it is a precursor for debt restructure as positioned by creditors. In a presentation to bilateral creditors, as part of a debt redemption strategy road map, clarity was provided as to when exactly outstanding obligations are expected to be rearranged. Until then Kwacha markets will remain edgy.
BOZ Governor Dr. Denny Kalyalya with Deputy Governor Administration Rekha Mhango and Financial Markets Director Dr. Jonathan Chipili at the last MPC of 2021.
AN UNSPOKEN DRIVER OF FX DEMAND, BOND COUPON REPATRIATION
One of the key variables that continue to signal sentiment and sovereign posture is the yield curve and the foreign exchange curve or exchange rate. Currency volatility is likely as for a net importing nation growth especially post pandemic will add pressure on the Kwacha. Many schools of thought continue to mistakenly proxy growth with currency appreciation which in essence should not be the case. An expanding Zambian economy will breed pressure on the local unit as the business ecosystem seeks dollars for machinery and inputs into production processes. Other drivers of forex include the need for petroleum imports and another that is not spoken about frequently, bound coupon repatriation. This stems from the increased exposure to offshores that now hold just over a third of Kwacha paper. The Kwacha is trading slightly below 18.0 for a unit of dollar, slightly undervalued given the trade weighted fair value at 16.85 per unit of dollar justified by the fall in inflation yet a stronger dollar environment as the US Fed seeks to reign in on elevated consumer price index in the West.
Zambia’s MinFin Head Dr. Situmbeko Musokotwane the man at the helm of the copper producers debt redemption strategy.
BOZ COULD BE STOCKING UP FX FOR DEBT RESTRUCTURE
With debt restructure on the cards, it will be imperative for the central bank to keep an inventory of dollars as such it is forecast that in 1H22 BOZ will restrict selling dollars on open market to stabilize the currency should depreciation pressure persist. Restructure will highly likely take the form of a portion of the obligation settled while the rest can be rescheduled. This explains the projected left hand side stance of the FX market which is likely to see intervention only on exceptional circumstances.
US Fed Chair Jerome Powell. With record high inflation the Fed is looking to taper money market to curb the consumer price index.
NEW ‘OFFSHORE’ MONEY TO ELUDE KWACHA BOND MARKETS
Money markets are already signaling effects of higher appetite for government securities to fund the 2022 budget at a time the fiscal purse is tight. However the dynamics of the bond and treasury bill market is such that the earlier gold rush for yields by western players seen after August last year could be fading as the US Fed targets hiking rates 4 times this year. This could point back liquidity to the west starving the local markets of new money that ideally would support the exchange rate. Any maturities for offshore players could either be rolled over or repatriated to the west depending on the level of yields in US treasuries. The Kwacha yield curve has started to trend bearishly with the last 6-8 weeks seeing treasury bills and bond rates scaling upwards which could force term funding costs higher.
Despite a boost in sentiment as political risks subside and the authorities take significant strides towards attaining fiscal fitness, structural issues in fiscal fragilities will persist and manifest in financial markets until a time when debt restructure completes and Foreign Direct Investment (FDI) flows actualize. Markets at the moment are screaming the need for sentiment boost to be backed by economic activity to sustainability back currency strengthening and keep the yield rate fairly low in the absence of which upward pressure will persist.
Yields on Zambia’s dollar bonds maturity remain elevated at 56.86% for the 2022s, 20.85% for the 2024s and 15.35% for the 2027s as at Friday 21 January.
The Kwacha Arbitrageur