In a closely watched bond auction on Valentine’s Day Friday 14 February , the Bank of Zambia (BOZ) absorbed K1.8 billion from a total bid volume of K3.5 billion in fixed income assets, fully covering the amount on offer. Investor demand edged higher than the K2.6 billion seen in January, reflecting sustained interest in Kwacha-denominated debt.
The auction saw strong participation across the curve, with the three-year tenor attracting the highest demand at K815.1 million. The seven- and five-year notes followed closely, securing K691.8 million and K690.4 million, respectively.
Yields declined across the fixed-income spectrum, with the most pronounced drop in the five-year bond, which fell 55 basis points to 22.50%. The three- and seven-year tenors eased by 50 basis points each, settling at 19.45% and 21.0%, respectively. These declines continue a broader trend of falling borrowing costs, which could ease long-term funding rates for commercial banks.
Global and Domestic Headwinds Could Disrupt Yield Trajectory
Despite a narrowing risk premium, the Kwacha yield curve remains attractive to investors. However, global economic uncertainty and rising U.S. Treasury yields threaten to divert liquidity away from emerging and frontier markets. If these pressures intensify, Zambia could face increased yield curve volatility, particularly if fiscal authorities tap domestic money markets to plug funding gaps.
A potential budget shortfall in the healthcare sector adds further risks. The suspension of U.S. aid—which funds 60% of Zambia’s healthcare system—could strain public finances, increasing the likelihood of greater domestic borrowing.
On the shorter end of the curve, liquidity concerns are becoming evident. Year-to-date, six-month and nine-month Treasury bill yields have widened by 188 and 220 basis points to 12.00% and 12.50%, respectively. Meanwhile, inflationary pressures persist. The central bank has revised its 2025 inflation forecast to 14.6%, up from an earlier estimate of 13.9%, after January inflation came in at 16.7%. If this trend continues, policymakers may be forced to implement further rate hikes.
Yields Declining, But How Long Can It Last?
The weighted average composite bond yield fell to 20.1%, down 441 basis points year-over-year and 98 basis points month-on-month. Secondary market yields mirrored this trend, slipping 169 basis points to 19.39%. The narrowing 70-basis-point spread between primary and secondary markets suggests increasing price convergence—a shift from previous arbitrage spreads of up to 300 basis points in the Kwacha money markets.
Leading the declines over the past year were:
• 15-year bond: down 370 basis points to 22.8%
• 10-year bond: down 245 basis points to 22.5%
• 7-year bond: down 200 basis points to 21.0%
• 5-year bond: down 175 basis points to 20.3%
Key Drivers of Yield Compression
Several factors have contributed to the easing rate environment:
1. Reduced reliance on domestic borrowing – The government has signalled a shift away from using local money markets to finance fiscal expenditures, aiming to ease liquidity constraints and support private-sector credit expansion. This is reflected in higher rejection rates at auctions and an effort by the central bank to push rates lower.
2. Favorable global monetary conditions – The U.S. Federal Reserve’s lower-for-longer stance on interest rates has made higher-yielding Zambian assets attractive to foreign investors.
3. Stronger demand for shorter-duration bonds – Increased participation in two-, three-, and five-year tenors has pulled down the weighted composite yield.
Will the Trend Hold?
Zambia’s fiscal authorities have pledged to cap domestic borrowing at 1.9% of GDP. However, potential drought conditions and global economic headwinds could strain public finances, potentially reversing recent yield compression. Inflation remains a persistent threat at 16.7%, eroding real returns on fixed-income assets.
On the flip side, a narrowing gap between long-term inflation expectations and current inflation levels could signal a shift in investor sentiment, possibly influencing future yield movements.
For now, the Zambian bond market remains a balancing act between attractive yields and mounting macroeconomic risks—one that both local and global investors will be watching closely.
The Market Brain, The Kwacha Arbitrageur