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NSE banks on new trading platform to revive bond market

 An employee makes notes in front of an electronic stock information screen inside the Nairobi Securities Exchange Ltd. (NSE), in Nairobi, Kenya. [Bloomberg]

The Nairobi Securities Exchange (NSE) is eyeing counties and parastatals to revive the corporate bond market, with talks between the Nairobi bourse at various sub-nationals at an advanced stage.

Issuance of bonds by sub-national bodies, together with the launch of a hybrid over-the-counter (OTC) bond trading platform, is one of the ways the NSE plans to increase liquidity in the secondary market of fixed income.

Thanks to the legacy issues that saw a lot of companies go down without paying investors, the corporate bond market has struggled to regain investor confidence, leaving Treasury bonds as the dominant force in the fixed-income market.

But with the government planning to reduce its borrowing as part of its fiscal consolidation plans, there are fears that bond trading might take a hit.

Indeed, the government has said it would reduce support for many of the State-owned entities (SOEs) due to budgetary constraints and also as it tries to manage debt acquisition. 

This might leave several SOEs, especially those that undertake capital-intensive projects, with little options but to borrow commercially. NSE Chief Operating Officer David Wainaina noted that the market has adequate capital and also favourable lending rates, adding that discussions are already going on to explore how counties and parastatals could issue a corporate bond.

“We are aware that many entities, including the second level of government such as the counties, should be able to organise themselves and access money through the market. The potential is enormous here both for investors as well as for the government entities,” he said.

“There is an industry conversation taking place with some of the entities in the second layer of government. It is a conversation being championed by the industry directly with the interested parties. In the short term, you should be able to see the results of that engagement. Our position is that there is patient capital that is well priced and de-risked.”

Water service providers are among the likely candidates to raise money for infrastructure development from the local capital markets. The water companies have been in plans to float a bond in the local market. An earlier attempt by the water service providers to raise Sh10 billion through the Kenya Pooled Water Fund, a vehicle set up in 2017 to mobilise investments in water infrastructure, did not succeed.

Despite its failure in achieving the objective of issuing what would have been the first water bond, the Water Ministry has in the past said it did demonstrate that local investors have an appetite for such an investment.

While success in mobilising investments by floating a bond has eluded Kenya’s water sector, its counterpart in Tanzania has registered a degree of success. In February this year, the Tanga Urban Water Supply and Sanitation Authority (Uwasa) raised TSh53.12 billion (Sh2.76 billion ) after it issued the first-ever sub-national water infrastructure green bond in the region.

The money borrowed will fund the expansion and improvement of sustainable water supply infrastructure and environmental conservation within Tanga City and nearby townships, according to a statement by the Authority.

The 10-year bond, which is planned to be listed at the Dar es Salaam Stock Exchange (DSE), offers an interest rate of 13.5 per cent per annum to be paid semiannually.

Tanzania adopted the Alternative Project Financing (APF) strategy in 2021 as it sought to broaden its domestic revenue base to finance various national development initiatives including water, energy, health care, agriculture and other productive infrastructure projects. 

Locally, the other group of sub-national entities that are seen as ready to borrow through capital markets are county governments.

Infrastructure bonds have been tipped as a viable tool for counties to raise capital from investors in the capital markets. Access to such borrowing could ease financing pressure on the counties, with proceeds going to financing public projects with defined income streams.

Laikipia County successfully floated a Sh1.16 billion infrastructure bond in 2022, with more expected to follow. Counties can borrow up to 20 per cent of their last audited total revenue. 

“There are positive signs of our economy going back to where it was and our expectation is that as we move forward, we see opportunities from corporations,” said Wainaina. 

Meanwhile, NSE is also counting on its OTC, to increase bond liquidity, with investors who might have missed on the bond at the primary level boarding on the secondary market.

“Over-the-counter (OTC) simply means that two parties, the buyer and the seller, agree on a transaction, agree on the price, agree on the quantum and that is the transaction. And remember that agreement is bilateral,” said Mr Wainaina. A purely bilateral OTC where the agreements by the parties are not registered is like the one by the East African Bond Exchange (EABX) which was recently approved by the CMA.

While such bilateral trading is good for transparency, there is also the risk of one of the parties not honouring their side of the bargain, especially concerning settlement, said Mr Wainaina.  

“The beauty with the exchange is that we say that your word is your bond. Whatever you have agreed you must deliver. So everything we trade here is settled either at the Central Bank for the government or at CDSC for corporations,” he said.

But when the parties are trading bilateral something might happen and they decide not to make good their obligation.

“And that is one of the greatest risks of over-the-counter trading. You will firm up positions, but if you firm a position today at a rate of 13 per cent and the rate turns,  you are not obligated.”

Thus, the NSE has given investors who don’t want to come to the screen fearing that perhaps their liquidity issues might be exposed, the opportunity to have a bilateral conversation with the counterparty to agree on price.

The risk of one of the parties bolting out after such a handshake in the context of OTC had not been addressed.

“So we said as NSE. We are going to offer a solution where when you agree on that transaction you have to report it to the exchange so that settlement can happen at either of the depository—CBK or the CDSC,” said Wainaina.

This sort of regulated OTC will help deepen the secondary market, whose turnover by the end of last year stood at Sh742 billion.

Having such a regulated OTC, he noted, will go a long way in attracting investors into the bond market, including those that the NSE expects parastatals and counties to issue.

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