Last week the Organization of the Oil Exporting Countries decided to cut production quotas again, this time with Nigeria very much in mind. Nigeria’s level of oil production is not entirely in its own hands.
The CBN’s foreign exchange reserves have shed US$381.40 million so far in December, bringing the gross figure to US$39.32 billion (a 30-day moving average). 1-yr OMO yields at 14.64% are 264bps below what they were at the start of the year (17.28%). In our view, this may pose a challenge for the CBN in attracting much-needed foreign portfolio investment (FPI), and the recent negative rating outlook on Nigeria from Moody’s may not help. In our view, however, the current level of FX reserves are sufficient to sustain the Naira at current levels for the rest of 2019 and well into H1 2020.
Bonds & T-bills
The secondary market yield for a Federal Government of Nigeria (FGN) Naira bond with 10 years to maturity fell by 87bps to 11.43%, and at 3 years fell by 63bps to 10.53% last week. The yield on a near-364-day primary market OMO fell by 43bps to 14.64% while a Nigerian T-bill with similar tenure closed at 7.01% in the secondary market.
The CBN’s restriction on activity in the OMO market is a major driver of bullish sentiment seen in the bond market and the T-bill markets. Last week yields contracted across all tenors in the bond market. The T-bill auction held last week was oversubscribed 10.8x for the 91-day paper, 4.6x for the 182-day paper and 6.4x for the 1-year paper. OMO maturities due on 26 December are likely to compress bond and T-bill yields available for local investors further.
The price of Brent rose by 1.29% last week to US$65.22/bbl. The average price, year-to-date, is US$64.08/bbl, 10.62% lower than the average of US$71.69/bbl in 2018, but 17.06% higher than the US$54.75/bbl average seen in 2017. Oil prices have recorded two consecutive weekly gains on the back of the positive direction of US/China trade talks, and additional cuts by OPEC. While the growth is welcome, it does not negate continued oversupply and weak demand which we think will put a cap on further price increases.
The Nigerian Stock Exchange (NSE) All-Share Index fell by 1.19% last week, bringing the year-to-date return to negative 15.57%. Last week Presco (+14.90%), Dangote Sugar (+10.30%) and Fidelity Bank (+3.0%) closed positive while Nestle Nigeria (-3.70%), Honeywell Flour Mills (-2.94%) and Unilever Nigeria (-2.38%) fell.
The equities market saw continued profit-taking last week, which led to just two positive trading sessions. With only nine working days left in the year, there is an absence of any positive catalyst to revive the market, in our view. We note, however, good valuations on choice stocks which investors may consider as they position for 2020.
What deeper OPEC cuts mean for Nigeria
The Organisation of the Petroleum Exporting Countries (OPEC) and its 14-member countries, as well as its strong ally, Russia, have agreed to deepen oil production cuts in the first quarter of 2020, so as to prop up crude oil prices and tackle rising output, especially from the United States. Meeting in Vienna on 5-6 December, the cartel opted for additional 500,000 BPD cuts. This puts the total production cuts for the cartel at 1.7 million BPD.
OPEC produces about 30% (29.7 MBPD) of global oil supply, which is 2.6 MBPD fewer than a year ago. A little less than half of that reduction comes from OPEC agreements, with the rest of the shortfall coming from Venezuela and Iran. In the past, Saudi Arabia has done most of the heavy-lifting in curbing the supply glut by over-complying with its quota of 10.3 million BPD and producing on average, 9.8 million BPD year-to-date. The kingdom recently pledged an additional 400,000 BPD supply cut.
A major concern for the cartel will be enforcing compliance this time around. Iraq and Nigeria have notoriously produced way above their respective quotas but Saudi Arabia, through over-compliance, compensated for the shortfall.
For Nigeria, two elements; price and supply, are at play. OPEC cuts have supported oil prices at around US$50.00-US$70.00/bbl during the past year. Additional cuts are likely to put a floor on oil prices in Q1 2020. This is good news for Nigeria whose 2020 budget forecasts oil prices at US$57.00/bbl.
Oil prices, which jumped briefly at the news of the new OPEC deal, fell shortly afterwards because the market is still awash with supply (mostly non-OPEC) and demand is still frail. Now more than ever, adherence to the new quota is likely to be strictly demanded with little to no headroom for non-compliance.
On the supply side of the equation, Nigeria’s current production quota is 1.77 MBPD and the most recent cuts allot 21 thousand barrels per day as Nigeria’s share of the overall cut. Effective 1 January 2020, this brings Nigeria’s new production quota to 1.75 MBPD. For a country whose 2020 oil production forecast is at 2.18 MBPD, this level of production implies that the government will be disappointed with its 2020 oil revenues.