The recent downgrade of Nigeria into further junk territory by Global rating agency Standard and Poor’s (S & P) has heightened the country’s risk premium as investors will demand yields in excess of the risk free rate of return.
The global ratings agency gave reasons for the downgrade to include, continued fall in the price of oil, severe shortages of foreign exchange and currency volatility.
This means the country will probably pay a higher yield for future bond issuances as investors fret about the risk that falling oil price have on government ability to pay back debts.
“It makes borrowing more expensive. If tomorrow however things turn around, the cost of borrowing will definitely go down. If government starts doing the right things, then the exposure to risk premium will be less,” said Bismarck Rewane CEO of Financial Derivatives Company, by phone.
The Federal government plans to issue a $1 billion Eurobond to help plug a deficit of N2.2 trillion in its record N6.01 trillion budget.
Yields on the nation’s $500 million of securities due in July 2023 have fallen almost 280 basis points to 6.63 percent since peaking at 9.4 percent on Jan. 18.
Nigeria’s economy contracted by 2.10 percent in the second quarter of 2016 after falling 0.36 percent in the first quarter.
The International Monetary Fund forecast the economy will contract by 1.80 percent for all of 2016, the lowest since 1991.
Inflation rate increased to 17.60 percent in August, compared with 17.10 percent the previous year, on the back of hike in gasoline price, high transportation costs and rise in the price of food stuff.
Analysts have blamed the economic downturn that led to a negative growth in two consecutive in two consecutive quarters to the capital controls imposed by the central bank that saw investors jilt stock and bonds on the fear of a sudden devaluation of the currency.
The downgrade reduces the investment in the grade level of the Nigeria bonds or any securities issued by the government, according to Tajudeen Ibrahim, head of research, Chapel Hill Denham Limited, in an emailed note to BMI
“I think they can borrow, it’s just that cost of borrowing may be high,” said Ibrahim.