The premium prices on tax-free infrastructure bonds at the secondary market have begun dropping despite expectations of softening interest rates on new bond auctions going forward.
An analysis of bond prices data from the Nairobi Securities Exchange (NSE) shows the traded price per Sh100 of the recently issued February infrastructure bond had fallen to as low as Sh106.4012 as of Thursday from a high of Sh109.4719 at the end of the prior week.
The February infrastructure bond has been the most traded paper in the secondary market since listing nearly two months ago. Investors who missed out on the 18.4607 percent interest offered by the paper at its primary issuance by the Central Bank of Kenya have led the demand for the security at the NSE, driving prices above face value. The recently issued 10-year bond has a 16.5 percent interest rate, signalling a downward trend from the peak rates of more than 18 percent.
Bond prices and yields (returns) have an inverse relationship where a rise in the latter reflects an environment where investors are demanding discounts in the secondary market to obtain almost similar returns on new securities' auctions.
A downward trend in interest rates on new auctions also drives up demand for papers with the highest coupons in the secondary market, resulting in premium prices paid.
Prices on government securities, particularly infrastructure bonds, had been rising in the past two years, driven primarily by higher interest rates in primary market issuances.
There are however now expectations that interest rates on new bond auctions will start falling due to lower government borrowing from the domestic market.
Meanwhile, the prices and yields on regular bonds –which are taxed at a rate of between 10 and 15 percent— as investor interest remains locked on the tax-free infrastructure bonds.
Moreover, the sharp discounting of regular bond prices over the last two years has dimmed activity with holders of the securities mostly opting to hold the papers to maturity to avoid suffering substantial loss of capital.
Bonds at the NSE are sold at either full price, discount or premium compared to their initial price in the primary market. This implies that a traded price of Sh97 represents a discount to par value, set at Sh100, and a loss to the seller while a price of Sh101 is a premium to face value and a profit to the seller.
