Last week the Ministry of Finance and the Debt Management Office announced they were in the process of converting the central bank’s N10 trillion ($25 billion) debt to the CBN (Ways and Means lending) into a 10-year Bond. According to our records, CBN’s total gross Ways and Means loans to the Federal Government rose to as high as N13.8 trillion in the second half of 2020.
The Ways and Means related loans are legal means by which the central bank lends money to the Federal Government to fund budget deficits. Typically, the government funds its deficits by either issuing bonds or drawing on multilateral loans. But sometimes this is not enough, meaning that it must turn to the apex bank to bridge the funding gap.
In 2020, the Federal Government revealed it borrowed N2.8 trillion from the CBN via Ways and Means to fund the part of its budget deficits. Nigeria has recorded a total budget deficit of about N24.8 trillion in the last 10 years, according to data collated from the Federal Budget Office and analyzed by Nairalytics, and expected to keep borrowing all through 2021. In fact, the CBN’s monetary policy committee recommended that the CBN continues to fund the government citing its importance to stimulating the economy. But how is the CBN funding all this money? Is it printing new money?
The central bank typically publishes financial statements on its websites giving analysts an opportunity to review its income statement and balance sheet. That way it is easy to discern the bank’s assets and liabilities providing useful insights into how it has sourced money to fund some of the intervention loans it has issued in the past including the Ways and Means. But the last time it published one was in 2015 and for obvious reasons. Without this, it is difficult to determine its sources. However, we can extrapolate.
In the CBN’s balance sheet, the asset side is divided into Property Plants and Equipment, Investments, Cash and Bank Balances, and loans and receivables expected from its debtors. On the liabilities, the side is deposited from banks, notes, and coins in circulation, CBN bills (like OMO and T-bills), loans from multilateral institutions, tax liabilities, and other liabilities.
The total of Ways and Means funding issued by the CBN to the FG will be classified as an asset in the balance sheet of the CBN under loans and receivables. Going by the accounting rule, there should be a liability side classifying how the money was funded. In theory, it could be via the printing of new money or issuance of bills, or regulatory induced policies. We believe it is also via the issuance of CBN Bills and deposits from banks.
One common policy pursued by the central bank throughout 2019 and 2020 was its policy of debiting banks for failing to meet Cash Reserve Requirement targets. Through its banking regulatory guidelines, it debits the accounts of banks that do not meet its CRR criteria moving the sequestered customer deposits away from the vaults of the banks to that of the CBN. It also does this at zero interest starving the banks of earning any return on the deposits. According to the CBN, if the banks are not lending that money, it is better off being kept with the CBN.
Nairametrics estimates total CRR debits rose to as high as N12 trillion in 2020 before falling to under N10 trillion early this year. We believe a huge chunk of these debits would have been funneled to the government through some of the CBN’s short-term lending. Cash is fungible, so it is implausible to rule that out.
Another way the CBN may have funded the $25 billion loan to the Federal Government may have been via issuance of CBN-denominated bills. A familiar one is the CBN’s OMO bills which it has since whittled down to just N2 trillion after it yanked of local investors from the market.
At its height in early 2020 Nairametrics estimates OMO bills to as high as $30 billion. A recent Chapel Hill Denham report seen by Nairametrics estimates at as of June 2020 foreign portfolio investors held about $11.2 billion (35% of total) in OMO Bills. It is not inconceivable that some of the proceeds may have also been channeled to the federal government.
We might not be totally correct with our extrapolation but we can’t be far off the mark. This is why the CBN must release its audited financial statements.
The controversies surrounding the application of Ways and Means will be debated for years to come. While the CBN and the Ministry finance scramble to clean up the integrity of its monetary policy via bond issuances, Nigerians will someday ask if this was a right to extend the loans in apparent contravention of the CBN Act for expediency reasons such as saving the government from a financial collapse.
How does a bank make N19 billion a month?
The strategy for banks globally is to attract deposits at a lower rate than it lends out to borrowers.
How does a Financial Services Group make N19b a month, post a Profit After Tax figure of N230b in an environment where global commerce virtually ground to a halt in 2020?
The Zenith Bank Plc (Zenith) Year-end 2020 final results are a blockbuster, not just in the quantitative, but the qualitative as well. In all major headline numbers, Zenith posted growth on a Year-on-Year basis, specifically, Gross Earnings are up 5.2%, Net Interest Income up 12%, Customer deposits up 15.3%.
Somehow Zenith grew her loan book by 18% in a recession and reduced the volume of Non-Performing Loans in the same period. Zenith was also able to post a higher revenue number from non-interest income even as yields on fixed-income fell across Nigeria. I must stress, Zenith has posted these results by servicing her target segment of the high-end corporates in Nigeria.
So how did Zenith achieve this? I want to do a deep dive into how to make profits in a recession. However, it is important to start with a background on how banks make money which is basically in two ways;
- Interest income: which is income generated from the bank gathering deposits from customers and investors and “renting” out these funds to individuals and corporates for a fee called interest. Interest Income is seen as the main business of banks. It is a measure of how well the bank has fine-tuned its people, process, and systems to generate returns from a commodity called cash.
- Non-Interest Income: This is the income the bank generates from deploying its brands and people to juice revenues from activities that do not necessitate a transfer of cash. For Example, a bank asset management business leverages the bank’s skillsets to earn fees by providing investment advice to clients. Does a business want to expand? The bank can advise on the process to make that happen.
The strategy for banks globally is to attract deposits at a lower rate than it lends out to borrowers. This allows the bank generate a spread between cost and revenue. The bank’s interest spread can be magnified by the number of quality loans it creates as Interest Income rests also on the quality of the loan book. Positive spread drives the funding of other banking services and is supported by the banks internal competencies to manage risk
So a bank makes profits by
- Attracting cheap deposits
- Earning positive spread
- Providing value addition for a fee
- Effective Risk Management
All these have to happen simultaneously. A bank that sources expensive deposits by paying higher rates generates a lower spread. Lower spread exposes the bank to cost overruns and will prove fatal to long-term growth.
With this in mind, let’s review Zenith FY 2020 Performance
- Attracting Cheap Deposits: In 2019, Zenith’s total interest expense, which represents how much it paid to get deposits was N148b, that figure dropped in 2020 to N121b. this means the bank was able to grow deposits by 25% but at a lower cost. How? Zenith changed her deposit mix, reducing borrowed funds/leases and time deposits by 41% and 38% respectfully and increasing the share of current accounts by 155%. By swapping the deposit mix, the bank’s cost of funds ratio fell by 18mn%.
- Earning Higher Spread: Zenith grew Net Interest Income by 12.2% in 2020. This figure represents income earned from the deposits and investments of the banking group. Again, this was achieved by asset mix reorganization. In the face of falling rates especially on shorter-dated FGN instruments, Zenith shifted allocation from Treasury bills to longer-dated FGN bonds which paid a higher yield. Zenith’s Non-interest Income also grew to N275b a 5% jump from 2019. This is driven largely by extraordinary items including foreign currency revaluation gain, which is the gain realized from the revaluation of foreign currency-denominated assets. I must highlight this. Zenith was able to post a gain of about N43b which is a 256% gain from FY 2019 based on the Naira being devalued to the US Dollar.
- Providing Value Addition: Value addition will include all non-core banking services Zenith Group provides to the public including subsidiaries like the Zenith Penson Custodians which has N4t in assets under custody. Commission on agency and collection was a big contributor to Zenith’s non-core banking revenue.
- Risk Management: Zenith was efficient in deploying its internal competencies to minimize and avoid risk and impairments from the ordinary and extraordinary course of business. Zenith like other financial institutions saw a pullback in commercial activities from her clients. Take the Commerce subsector, the Non-Performing Loan share in that sector grew from 9% to 24%. Zenith, booked an increase in the number of NPLs by volume to N125m in FY 2020 but the bank was able to keep the NPL ratio down to 4.29%. An extraordinary feat.
Overall, the bank was able to navigate a difficult year and post a good return and a handsome dividend of N3 to investors. Zenith was able to achieve all this while increasing the staff strength by 4.6% to 7555 employees.
However, there are red flags as well:
- Net Interest Margin was down in FY 2020 as yields declined. If yield continues to stay muted, can Zenith keep finding profitable avenues to invest that N5.34 deposit base?
- Interest income positive in FY 2020 at 420b but when compared to 2017, interest income is falling.
- If you ignore the revaluation gain, then Non-Interest income will be considerably muted, possibly negative in FY 2020
- Fees on electronic products fell 36% in an environment where online banking has been not just sound business practice, but life-saving as well.
Overall, in an environment with months of local and international shutdowns, Zenith has posted good numbers and demonstrated it is possible to eke out gains from a hard environment. When one looks at the dividend yield, P.E. Ratio of the bank, for me, this is a Buy.
Why there is a massive sell-off of US stocks
The United States 10-year Treasury yields rose to a new one-year high of 1.5% on Thursday sending the equities market on a bearish run. The US Dow Jones Industrial Average was down 1.5% as of 7.30 pm on Thursday falling by a whopping 500 points. The S&P 500 and NASDAQ were both down 2% and 2.75% respectively ad the sell-offs intensified.
Global bond prices also fell lower on Thursday and investors around the world sold off massively as they feared higher inflation could erode bond yields.
What is going on?
Investors are worried that massive injection of stimulus in the US and in most European countries could trigger higher inflation which will erode profits on bond yields assuming their fears materializes.
US inflation rate for the month of January 2021 was 1.4% the same as the month of December 2020. US inflation was as high as 2.3% a year ago yet investors remain worried. In response to this fear, bond yields have hit multiple one-year highs. This fear is has now spread to the US equities market.
US President Joe Biden is seeking a $1.9 trillion stimulus package which many had hoped will please the market. However, it appears investors are rather afraid that it could trigger a “reflation” eroding whatever positive jolt it could have had on the wider economy.
What this means for your stocks
A rise in interest rates is triggering a massive sell-off in US stocks ad investors fear a return to higher inflation could signal the market could be entering a bearish era. Stocks have hit multi-year highs since January as investors poured in billions of dollars into stocks. If this sell-off persists then investors in US stocks could see the value of their portfolio plummet.
Tech Stocks are particularly affected by the sell-offs with investors dumping heavyweights like Netflix, Tesla, Amazon, Microsoft, Facebook, Google all falling. Meme stocks, an acronym for stocks popular with Reddit and Twitter retail investors have also suffered losses.
Nairametrics SSN subscribers are advised to track their portfolios accordingly.
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