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Infrastructure bonds fetch premium in secondary market
In the secondary market, bonds are usually sold at a premium or discount of their face value —which is the actual value or cost of the bond at its first issue.
Bond buyers in the secondary market at the Nairobi Securities Exchange (NSE), have raised their demand for a pair of high interest infrastructure bonds (IFBs) floated in the last 12 months, looking to lock in the attractive returns as interest rates on new issuances continue to fall.
Bonds trading data from the NSE shows that the price of the 8.5-year IFB sold in February 2024 has gone up to Sh112.96 per unit of Sh100, implying high demand from buyers.
Similarly, a 6.5-year IFB sold in November 2023 is trading at Sh106.27, a premium on the face value of Sh100 per unit at which the paper was sold in the primary auction.
The 8.5-year paper carries a tax free coupon or actual interest rate of 18.46 percent, which is currently the highest return on offer on any government security in the market. The 6.5-year paper pays interest of 17.93 percent, the second highest return available to investors.
Other fixed term bonds, which unlike IFBs attract tax of between 10 and 15 percent, continue to trade at a price discount due to their coupons being lower than the prevailing market yields.
In the secondary market, bonds are usually sold at a premium or discount of their face value —which is the actual value or cost of the bond at its first issue.
There is an inverse relationship between bond prices and yields –which indicate the rate at which investors are willing to lend to a government at a particular point in time.
When rates on new issuances in the primary market are going up, investors seek to sell existing holdings (which pay less interest) in order to reinvest in the new issuances to earn higher returns. This rise in supply in comparison to demand pushes down the prices that they are willing to accept for their securities.
On the other hand, when interest rates are going down for new issuances, those holding existing securities that have a high coupon rate are less willing to sell, and on any sales they demand a price premium to compensate them for ceding the lucrative paper in a lower interest rate environment.
Investors holding bonds to maturity are, however, sheltered from the shifts in yields and prices as they stand to earn the face value of the paper at maturity.
Interest rates on government securities have started to fall after the Central Bank of Kenya (CBK) cut its base rate by a cumulative one percentage point to 12 percent in the two monetary policy committee meetings of August and October.
The signal has seen Treasury bill rates come down from highs of nearly 17 percent to between 14.4 and 15.5 percent over the last 13 weeks, with bonds expected to adopt a similar trend for new issuances.
Further downward pressure on domestic interest rates is expected once the government closes a $1.5 billion (Sh193.9 billion) bond backed by the United Arab Emirates in the coming weeks.
The external financing will allow the Treasury to revise its domestic borrowing target for the current fiscal year downwards by Sh24.7 billion to Sh388.37 billion.
