Will Egypt's capital markets see a boost in return rates?

Egypt’s capital market has been noticeably attracting foreign inflows since the floatation of the Egyptian pound in November 2016, which was part of the country’s economic reform programme agreement signed with the IMF under the $12bn extended fund facility. The currency devaluation was followed by 700 basis-point interest rate hikes, taking overnight deposit and lending rates to historical highs of 18.8% and 19.8%, respectively, in July 2017.

Performance

Following the implementation of economic reforms and initiatives, improvements were evident. These included an increase in net international reserves from $19bn in October 2016 to $45.5bn in February 2020; abolishing the foreign exchange parallel market; stabilising the currency at a monthly average of LE15.90 to $1 in January 2020, up from its weakest average of LE18.73 to $1 in January 2017; reducing annual inflation from its 2017 average of 29.5% to an average of 9.4% in 2019; and a rebound in tourism revenues that saw a compound annual growth rate of 34.4% between 2016 and 2019 to reach $10.6bn in 2019. Subsequently, the government implemented a monetary easing cycle to support private sector growth, taking overnight deposit and lending rates to 9.3% and 10.3%, respectively, through a cut cycle of 950 basis points that lasted from February 2018 to March 2020.

Along this economic cycle, Egypt’s debt instruments offered highly attractive rates on its treasury bills with maturities of three, six, nine and 12 months, as well as on its longer-term treasury bonds of three-, five-, seven- and 10-year maturities. Taking the 12-month treasury bills as a short term benchmark, the yield increased from 15.6% in July 2016 to a high of 21.7% in July 2017, and then declined gradually to 19.3% and 17.2% in July 2018 and 2019, respectively. As for the longer maturities, using the five-year bonds as a benchmark, the yield followed the same pattern, increasing from 16.8% in July 2016 to 18.9% in July 2017, and then gradually declining to 17.6% in July 2018 and on to 15.9% in July 2019.

Along with the currency and inflation movements, Egypt maintained its carry trade profitability, as it offered an annual average positive real interest rate of 3.5% on its 12-month treasury bills between 2016 and 2019. This was also supported by regained confidence in the economy and the country’s political stability. In response, foreign holdings in Egypt’s capital market instruments increased by $19.6bn, rising from $4.4bn in March 2017 to $24bn in January 2020, with the country becoming among the most competitive carry trades globally.

In regards to the international bond market, Egypt issued eurobonds worth $4bn and €2bn in the first half of 2018, and in the second half of 2019 it issued $2bn worth of eurobonds over three tranches with four, 12 and 40 years of maturity, and with yields standing at 4.55%, 7.05% and 8.15%, respectively. The latest issuance was 7.25 times oversubscribed and attracted bids totalling $14.5bn.

Projection

The Covid-19 pandemic that began in early 2020 has hit global economies and led to Egypt’s decision to cancel a eurobond issuance of $2.5bn to $3.0bn that was originally set for the first half of 2020. However, the government may consider offering $500m worth of green bonds if international conditions improve and become appropriate. Aside from this, the government plans to issue eurobonds worth $5bn to $8bn during fiscal year 2020/21, offer floating treasury bonds including inflation-linked bonds and the possible introduction of new bond maturities, while keeping the main focus on three-, five- and 10-year maturities.

Following the latest conditions, Egypt’s 12-month debt instruments are expected to yield an annual average of 12.5%, 12.8%, 12.2% and 11.5% in 2020– 23, while offering foreign investors a 1% real interest rate, as economies around the world cut rates.