Value of bonds drops 20pc over interest rates rise

Buyers of Treasury securities saw the valuation of their assets decline by a fifth last year, causing a drop in bond turnover at the bourse which had hit an all-time high in 2010.

A sharp increase in interest rates depressed the values of Treasury bonds, resulting in a Sh37.7 billion drop in annual trade volumes at the Nairobi Securities Exchange (NSE) to Sh445.5 billion.

“Higher yields led to lower bond valuations; listed Treasury bonds lost approximately 20 per cent. The secondary bond market witnessed subdued activity because of uncertainty over the direction and volatility of interest rates,” said Stanbic Investments Management Services (SIMS) in their fourth quarter economic report.

Investors chose to hold on to their fixed income securities portfolios rather than sell them at a loss.

Banks are the biggest buyers of treasury papers, holding nearly half (47.6 per cent) of the securities as at last week.
Pension funds held 29.1 per cent of the securities, while insurance companies have 11.6 per cent.

Anthony Mwithiga, the chief investment officer of SIMS, said that even though some bonds were re-issued at different prices during the year, historical bond values had dropped because of rising interest rates.

New issues consisting mainly of short-term bonds were, however, priced at a premium at secondary market because of their high yields.

“The short-end recorded the highest rise. This increased the Government’s cost of domestic borrowing, leading to the Central Bank of Kenya’s (CBK) preference to issue shorter dated bonds,” said SIMS.

The banking regulator adopted a monetary tightening policy stance that saw all central bank open market operations being pegged on the Central Bank Rate (CBR) which was hiked to 18 per cent from 5.5 per cent over the 12 month period.

The move, which was in response to an increasing cost of living and a weakened shilling resulted in a spike of all interest rates that are referenced to the bench mark rate and yields of new mainly short-term issues also rose to all-time highs.
CBK’s benchmark rate was raised from 5.75 per cent in January to six per cent in March then to 6.25 per cent in May 2011.
However, in the last three months of 2011, the rate went up four times creating uncertainty in the fixed income market and diminishing demand for existing bonds.

NSE data shows that on the first day of trading at the beginning of 2011, the previous prices of five-year bonds were above 110, but as at the close of business on the last trading day of December, the bonds the previous prices between 74.33 and 93.

The value of seven and nine-year bonds dropped by between 10 per cent and 25 per cent, while the value of 10-year bonds dropped by between 18 and 38 per cent using the last trading prices over the same time period.

Bonds with longer tenors such as the 12, 20 and 25 year bonds saw their values drop by higher margins with the value of some 15 year notes dropping by as much as 51 per cent.

Drop in inflation

Analysts, however, predicted that the values may begin to rise as interest rates stabilise and begin to drop following a drop in the rate of inflation.