Naira: NOVA Pitches FX Floatation with Intermittent Intervention

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Naira: NOVA Pitches FX Floatation with Intermittent Intervention
Godwin Emefiele - CBN Governor
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Naira: NOVA Pitches FX Floatation with Intermittent Intervention

Analysts at Nova Merchant Bank Limited has said outright floating of the exchange rate with intermittent intervention to avoid unnecessary speculative attacks will have more meaningful impact.

In its macroeconomic note, the firm said based on its purchasing power parity model, the fundamental value of naira lies between N420 to N432 to a dollar. 

This translate to 8%- 11% overvaluation from current National Autonomous foreign exchange (NAFEX) rate of N386.30 per dollar.

Naira: NOVA Pitches FX Floatation with Intermittent Intervention
Godwin Emefiele – CBN Governor

The battle for the local currency, Naira, survival has been a key issue the Nigeria’s central bank has been battling with, but the nation’s FX arsenal has remained weak.

Pressure on external reserves remain manifolds.

This range from low foreign inflow and opportunity currency rates maximising deals among exporters who are allegedly not following the Central Bank of Nigeria procedures and high import demand.

While seeking a lifeline from the International Monetary Fund, the CBN has been asked to converge disparity between the official and parallel market rates.

For a nation of smart opportunists, bringing down parallel market rates would demand that the CBN crash its official rates.

However, for the fact that the apex bank external reserves war chest is limited by structural design, convergence can only be achieved by Naira devaluation.

It would be recalled that the CBN had devalued the currency, though the monetary policy authority tagged it as technical adjustment when it moved official rates from N306 to N379.

But Currency trades told MarketForces that naira is yet to find an equilibrium in the foreign exchange equation.

Largely, a slew of investment banking analysts are expecting further devaluation of the currency.

This could aggravate poverty level in the economy, and poverty index could be pushed higher amidst rising inflation pressure, an Economist told MarketForces Africa.

After the resumption of international flights, the Apex bank partially relaxed lockdown on FX sales at the IEW and to BDC operators in September.

In its macroeconomic note, NOVA Merchant Bank said the CBN intervened at the IEW to the tune of $435 million, with estimated sales to BDCs of $295 million.

Following the resumption of sales, NOVA stated that the BDC-Interbank premium narrowed to 19% (from 24% at the end of August) with the parallel market exchange rate appreciating to N455.9/$ (average for September from N472.4/$ in August).

Over the third quarter of 2020, foreign inflows into the nation settled at $272 million, while outflows summed to $1.94 billion.

Meanwhile, local FX supply (excluding CBN) provided much of the support over Q3, with cumulative FX supply by Exporters/Importers, Individuals, and Non-bank financial institutions at $1.23 billion.

In the month of September, NOVA said CBN sales to the SMEs, Invisibles and SMIS (retail and wholesale) segments totaled $400 million compared to $457 million in August.

The Merchant Bank however noted that non-auction sales increased to $407 million compared to $143 million in August.

Surprisingly, foreign inflow in the period was just $90 million compared to $65 million in August, while local supplies (ex-CBN) increased to $412 million from $364 million in August, following higher foreign currency sales by exporters/importers.

Despite CBN sales across segments increasing 149% month on month to $1.54 billion relative to the level of inflows (both oil and FPI), NOVA explained that gross external reserves increased by $61 million (August depletion $215 million) in the month of September to adjusted level of $35.30 billion following inflow of some official funds.

Meanwhile, over the counter (OTC) FX futures market activity slowed in the month of August, with total value traded reducing to $393.58 million compared to $1.29 billion in August.

It would be recalled that futures contract worth $1.54 billion matured on September 30.

Compared to the rate at initiation of N365.5/$, the National Autonomous Exchange (NAFEX) rate on the settlement date averaged N389.5/$ with a total counterparty settlement gain/loss of N37 billion.

“With foreign portfolio inflows expected to remain meagre for the rest of the year, amidst still low crude oil prices, we expect the CBN to continue to manage its dollar supply”, NOVA said.

Particularly, the firm expects the FX supply for foreign portfolio investment (FPI) repatriation to remain lower than the required demand with such funds continually dominating demand at primary market fixed income auctions.

Going from the above, analysts now expect a base-case FX supply for FPI repatriation to average 25% of the backlog and maturing offshore holdings between October and December, which by our estimate should sum up to $5.35 billion.

Assuming 15% repatriation of backlog and maturing offshore holdings between October and December, cumulative sale should amount to $3.52 billion.

“Coupled with our modelled FX sales to BDC operators of $1.1 billion over Q4 and sales across other segments, we expect the gross foreign exchange reserve to close the year at $30.9 billion on our base scenario”, NOVA stated.

Analysts however projected that external reserves to settle at $32.8 billion on best-case scenario.

Adjusting the reserve position for expected foreign borrowing of $2.11 billion, analysts said this could result in a corresponding increase in both base and best-case scenarios.

With further moderation in interest rate and rising inflation, firm explained that its modelled interest rate-inflation differential increased in favour of the U.S, expanding the Naira overvaluation.

“Overlaying the widening inflation-interest rates differential on our purchasing power parity model, the fundamental value of naira lies between N420 to N432 to a dollar.

“Notwithstanding our fundamental assessment of the optimum exchange rate, we believe an outright floating of the exchange rate with intermittent intervention to avoid unnecessary speculative attacks will have more meaningful impact”, NOVA stated.

Naira: NOVA Pitches FX Floatation with Intermittent Intervention