Banks and insurance firms are expected to see a rise in earnings this year spurred by falling yields on government securities that normally result in the value of their holdings going up.
The dip in rates has been most pronounced in the past eight weeks, during which banks have raised their exposure to the fixed-income instruments following the capping of interest rates on loans and advances to customers beginning September.
There has also been relatively high liquidity in the market over the period, which has given banks enough muscle to add to their holdings from both the primary and secondary market.
“Fixed income securities are expected to be one of the best performing listed asset classes with the yield curve having dipped by an average of 79 basis points across the curve and an average of 181 basis points between one and 10 years. Banks mark to market valuations are expected to be revalued upward as well as improved bond trading income year-on-year,” said Kenneth Minjire, head of fixed income at Genghis Capital.
“Trading has been most active on the medium-term tenors of four to 12 years, which is where most investors’ tenor limits lie,” he said.
With the anticipated reduction in interest margins from loans and advances under the interest-rate controls, such gains from fixed-income investments will be increasingly key for banks to maintain their short-term profit growth.
Banks are required to disclose and book the value of their Treasury bond holdings in their balance sheets, unless these are classified as ‘held to maturity’.
Those that they classify as ‘held for trading’—meaning they are intended to be sold within a short period of time— affect the profit and loss column of the bank when they are revalued.
Meanwhile those classified as ‘available for sale’ affect shareholders’ funds in the bank and can increase or reduce the capital adequacy levels of banks.
Banks are responsible for 54.7 per cent of the government domestic debt, which currently stands at Sh1.86 trillion, while insurance firms hold 7.3 per cent.
According to Kingdom Securities senior research analyst Mercyline Gatebi, banks are expected to remain active in the market as liquidity is still quite high, though this could be cut short in the event of any revision of the Central Bank Rate on November 28.
For insurance firms, any higher valuation of bonds would offer some respite from the underperforming equities investments that weighed down their profits for 2015, although not for those who still have high exposure to equities.
“The gains on prices of the bonds may not be enough to cushion all insurance firms from underperforming equities, as some companies still have a high exposure on equities. But overall, the impact arising from underperforming equities has also made it difficult for insurance firms to offload their equities stake,” said Ms Gatebi.
In terms of outlook, the yields on short- and medium-term securities are seen as having bottomed out at current levels of between eight and 13 per cent.
Analysts at Cytonn Investments say given that the government is ahead of its pro-rated borrowing target for the fiscal year (Sh125.8 billion versus Sh75.1 billion), the rates should persist at current levels.