In the past few months, central banks in key frontier economies such as Kenya, Nigeria, and Egypt have made significant moves to address inflationary pressures.
They’ve done so by implementing substantial increases in policy rates while also taking steps to liberalize markets. For instance, Nigeria recently decided to allow 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,” says Charlie Robertson, head of macro strategy at FIM Partners.
Accordingly, some money managers are adjusting their portfolios to take advantage of declining yields and strengthening currencies resulting from these measures.
Robertson points out a 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 analysis reveals that ex-ante real rates in frontier markets, which reflect the difference between nominal yields and expected inflation, have moved even more into positive territory.
This shift bodes well for these markets in terms of yield advantage, particularly as major developed economies lean towards reducing interest rates.
Peter Marber, chief investment officer for emerging markets at Aperture Investors, underscores the appeal of local bond markets in nations like Egypt, Nigeria, Argentina, and Turkey.
He particularly notes Turkey’s characteristics resembling those of frontier markets. Factors such as currency devaluations and high yields contribute significantly to the attractiveness of these markets.
Nevertheless, investing in frontier markets comes with inherent risks, notably due to their track record of policy reversals, as evidenced in countries like Nigeria and Zimbabwe.
Ziad Daoud, Bloomberg’s chief emerging-market economist, stresses the importance of these countries implementing measures such as removing capital restrictions and providing positive real interest rates to attract international investments, while also learning from past mistakes.
Nigeria’s recent policy moves demonstrate 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.
Andrew Matheny, an analyst at Goldman Sachs, views Nigeria’s recent developments favorably, forecasting a strengthening of the naira and recommending the country’s dollar bonds.
Likewise, Egypt’s central bank, having secured funding from the United Arab Emirates, has implemented a long-awaited currency devaluation and a significant rate hike, transitioning to a flexible currency regime.
Meanwhile, Kenya has experienced a turnaround, bolstered by tighter monetary policies, International Monetary Fund funding, and successful Eurobond issuance.
Barclays Plc suggests investing in Egypt’s and Nigeria’s dollar bonds, anticipating potential rating upgrades driven by recent reforms. Deutsche Bank favors Egypt’s local debt due to attractive yield levels and promising structural perspectives.
Looking beyond Africa, Bank of America Corp. identifies opportunities in external debt from Pakistan and Sri Lanka. In Latin America, they recommend Guatemala’s 2050 bonds.
However, they advise investors to be selective and focus on relative value opportunities, considering uncertainties surrounding inflation, growth, and the US rate outlook.
