CBN to Mitigate Forex Risks with 10-Year Contracts
The Central Bank of Nigeria (CBN) is planning to offer futures contracts good for 5 to 10 years, in an effort to attract more long-term funding to the country as Africa's top oil producer.
Through this initiative, national leaders are attempting to manage risk for over a decade by offering longer-term futures to the local population of over 200 million citizens. For the uninitiated, futures are contracts between a buyer and a seller regarding a commodity or currency to be bought or sold at a specific price and a specific time in the future. This helps hedge funds against a moving market.
This is not the first time that the country has reached out to investors with futures contracts. In 2017, the CBN offered up foreign-currency futures to the FMDQ Securities Exchange Plc. with a maximum duration of 13 months. This was done to relieve pressure on the Naira by spreading dollar purchases over a period of time, while also allowing investors to hedge funds against fluctuations in Naira.
Recently, the Chief Executive Officer of Lagos-based FMDQ Bola Onadele has pressed for these 5 to 10-year futures. According to him, market traders and the FMDQ were "engaging the central bank to extend the curve of the FX futures because it will create stability for capital inflows into Nigeria."
The offer is indeed looking to bring more capital into the country, as the Financial Times points out that Brent crude prices, Nigeria's leading commodity and 90% of its foreign exchange earnings, fell below the government's estimated levels. With its external reserves also dwindling, the government is trying their best to prop up the currency.
"The availability of this FX futures product reduces, if not eliminates, the need to hoard FX and front-load on FX requirements," Onadele reiterated. As the foreign exchange market is, according to FXCM, the most liquid market in the world with an average daily trading volume exceeding $5 trillion, it's not hard to see why investors flock to it. However, the soon to be offered futures are meant to eliminate investors hedging against it, and as "foreign-portfolio investors tracking value will buy the futures, so will foreign direct investors and long-term borrowers in foreign currency."
Currently, Nigeria has a multi-exchange rate system that the International Monetary Fund has highly disapproved of. This setup gives the government a fixed official exchange rate, a floating or fluctuating rate for the specific goods or sectors, and a rate for inter-bank forex markets. The official rate of the Naira to the dollar is 305:1, and is used to provide the government and select oil companies with a cheap exchange rate.
This, however, has proved to be inefficient as it weighs on the country's economy, encouraging corruption and stifling growth. In fact, the CBN has recently injected $210 million into the inter-bank forex to ensure stability and boost liquidity in that segment of the market, with the CBN injecting more and more funds three times a week.
As the Nigerian government continues to manage risk and prop up our
currency, Onadele believes that providing longer-term future contracts
can also help protect against exchange rate volatility. He continues to
explain that these longer contracts will help in driving capital into
Nigeria, adding that they also provide "opportunities for Nigerians in
diaspora to bring their money home."