More details, please: There is a lot that is not defined in the Central Bank of Nigeria’s (CBN) letter to banks issued on 3 July – the proverbial devil is likely to be in the details. From a credit perspective, the letter to Nigerian banks does nothing to change the positive technicals that have driven eurobond prices up to the current lofty levels. With one of Nigeria’s largest lenders – FBN – set to exit the eurobond market in a matter of weeks, we expect bond prices to remain well-supported. FBN has called its US$450mn subordinated bond. It is to be redeemed on 23 July. If Ecobank Nigeria also exercises the call on its US$250mn subordinated bond (notice due by next week), there will be just four bonds, and a total of US$1.7bn in Nigerian banks left (five bonds/US$2.2bn, including the Ecobank Transnational 2024 bond).
What has changed – in summary: On 3 July, the CBN issued a letter to banks aimed at improving lending to the real sector. All relevant banks will be required to maintain a minimum loans/deposit (LDR) ratio of 60% by the end of September, and this will be reviewed each quarter. Further, ‘SMEs, Retail, Mortgage and Consumer Lending’ will be assigned a weight of 150% in the calculation of LDRs for this new purpose. Finally, an additional cash reserve requirement ratio of ‘50% of the lending shortfall of the target LDR’ will apply to banks which fail to comply.
Our seven key takeaways are as follows:
- We have been here before. Avid followers of Nigerian banks may recall CBN directives which raised the risk weighting applicable to oil and gas loans and which prohibited issuance of senior bonds in foreign currencies by banks. The former directive was suspended, and the latter was applied in such a way that still allowed Access Bank, UBA and Fidelity Bank to issue US$-denominated bonds after the CBN statement. More recently, the CBN introduced a transition period for IFRS 9 implementation, after some banks had applied the new accounting standard in full. This change significantly reduced the impact of IFRS 9 on reported capital ratios.
- Definitions will be key. The CBN letter is ambiguous enough to lead to varying interpretations. (a) From the banks’ perspective, it may well be possible to tweak definitions to expand what qualifies as a loan and to restrict what qualifies as deposits. (b) It is not fully clear how the LDR will be calculated. If gross loans are used, for instance, LDRs will be much higher. (c) Net loan figures may differ based on whether full implementation of IFRS 9 is taken into account or not. (d) The CBN letter states that the regulator will ‘provide a framework for classification of enterprises/businesses’. It is possible that what is classed as SME/retail/mortgage/consumer lending may be quite broad. The table overleaf shows estimates of banks’ LDRs, based on the narrowest definition of non-corporate lending. Even with these very limited adjustments, all banks in our sample record higher adjusted gross and net LDRs.
- September 30 is less than three months away. Lenders may argue that the letter does not allow sufficient time for prudent credit decisions to be made. We have some sympathy for this view.
- The CBN is unlikely to compromise financial stability. There may be concerns that in an effort to boost lending, underwriting standards may slip. We believe a regulator that (a) provided support to Polaris Bank (formerly Skye Bank), and (b) was instrumental in the Diamond Bank merger, is unlikely to implement this new requirement in a way that jeopardises the stability of any of the banks it regulates. This, we think, most clearly applies to systemically-important lenders. As we have noted before, all but one of the Nigerian banks with eurobonds outstanding is classed as systemically important by the regulator, and Fidelity Bank, which is not, has well-publicised intentions of achieving this classification.
- This may not be the silver bullet for much-needed growth. Gross loans at many major banks have declined in recent years and these lenders appear to have resorted to collecting deposits and lending money almost solely to the government (by buying government securities). Thus, we understand why the CBN is keen to see things change. A combination of measures that reduce the rates at which these borrowers can obtain loans, and which help improve the attractiveness of some economic operators to banks (through actions that may be as simple as better bookkeeping and disclosure) may do more to boost GDP growth.
- This may not lead to increased FC-denominated bond issuance. The regulator’s letter suggests certain types of lending may be preferred. In general, non-corporate lending (which is what is targeted) tends to be NGN-denominated (though not always). Thus, while we may wish it was not the case (as bond market participants), it is not clear that the CBN’s letter will lead to a much-needed boost in FC-denominated bond issuance.
- The government still needs funding. There has been quite a lot of commentary about Nigerian banks as willing buyers of local currency government securities. It is easy to focus on the stellar returns these banks have booked from holding these securities. We think it is also worth highlighting that Nigerian banks effectively provided support to the government in this way at times when demand for NGN-denominated bonds from non-bank/international investors was weak. We acknowledge that (a) demand from non-bank/foreign investors has strengthened significantly, as concerns about currency weakness and other factors have abated, and (b) the Nigerian authorities have tried to de-emphasise local currency borrowing, in favour of eurobonds. However, we believe participation of Nigerian banks in the NGN government securities remains critical, and the CBN is unlikely to implement this policy in a way that jeopardises that market.