Sources: Hot money exits from govt debt markets in waves amid expectation of devaluation

Foreign investors have pulled out over LE28 billion from secondary capital markets in the last week amid expectation of a move by the government to devalue the national currency, according to data and sources Mada Masr spoke to in recent days. 

To attempt to balance out the massive capital flight, the government has hiked interest rates on its key debt instrument, which reached record highs on Sunday. 

The yield — return offered by the CBE to debt traders — on 90-day treasury bills rose from 31.2 percent to 31.419 percent. The government approved selling over LE52.7 billion in T-bills, exceeding its initial target of LE35 billion by more than 50 percent.

Treasury bills and bonds are traded in two markets: the primary market, where the CBE sells directly to traders, and the secondary market, where debt instruments previously purchased through the primary market are resold.

Two money market and asset management experts told Mada Masr that the general rise in treasury bill yields is tied to an ongoing exodus of foreign investors — or hot money — from the secondary market. To offset this withdrawal, the government appears to be attracting foreign investors by offering higher yields in the primary market.

According to data from the Egyptian stock exchange that Mada Masr reviewed and an analyst at a financial investment firm who spoke to Mada Masr, hot money outflows from the secondary market for government debt instruments reached LE4.7 billion on Sunday alone, LE24 billion last week, and LE24.5 billion in November.

As the Egyptian pound continues to decline against the US dollar, averaging LE50.6 to the dollar on Monday, all three sources suggested that these foreign withdrawals were driven by expectations of further depreciation. Investors seem to be preempting losses by exiting now, with plans to re-enter the Egyptian market once the exchange rate stabilizes after an expected depreciation, which would present a favorable opportunity to purchase government debt at lower costs.

The figure below illustrates the rise in treasury bill yields over the last six months:

The rise in yields offered by the CBE translates to growing costs for the public treasury in servicing domestic debt, adding to the burden of public debt interest payments. In the current fiscal year, interest on public debt accounted for 47 percent of total public expenditures.

Prime Minister Mostafa Madbuly recently stated that the pound could fluctuate by up to 5 percent in the near term. According to the managing director at an asset management firm, Madbuly’s comments may have amplified foreign investors’ move to withdraw from the government debt market. “The prime minister’s remarks were ill-advised. The executive authority should not comment on monetary policy in this manner,” the source said.

Foreign investments in Egypt’s government debt rely on carry trade, which takes advantage of the substantial gap between low yields in developed markets and high yields in developing markets like Egypt. However, this trade is sensitive to the local currency’s exchange rate. Investors prefer to enter the market when the local currency’s value is low, allowing them to acquire debt instruments at low rates. They base their decisions on speculations about the local currency’s value, for any depreciation post-investment results in losses, as their holdings — treasury bills and bonds — are denominated in the local currency.

“Foreign exits began in September,” the same source said, “coinciding with the maturity of six-month treasury bills that had been purchased heavily by foreign investors following the pound’s devaluation in March. Many opted not to renew their investments at maturity.”

The analyst at the financial investment firm said that the government has grown more willing to accept higher yields specifically on 91-day treasury bills, which is why it is selling more than initially targeted, because it wants to avoid committing to elevated yields on longer-term instruments.