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Africa’s emerging markets have caught the eye of many FX industry participants over recent months. In this LeapRate Guest Editorial, Alex Gurr, Research Analyst at Blackwell Global, details the way ahead for Nigeria’s volatile sovereign currency.
Currency movements have a massive impact on the state of all major economies around the globe, and the effects are felt in the largest to the smallest of countries. Is it something governments and countries can control?
Yes, it’s possible, but it comes at a cost and generally even the largest governments are unlikely to ever try and defend a currency as the market can quickly turn in the
face of weakness.
In the case of Nigeria and after yesterday’s central bank ruling, it may be a case of investors at home stuck with a currency that is likely to devalue further. Recently, the central bank was quoted as saying “Banks have to sell all dollars they buy from the market, not to keep them until the following day”. This seems a highly irregular ploy from the central bank, but one also has to consider that the central bank has hiked interest rates to 13% in an effort to stem the bleeding of the Naira.
Historically speaking, raising interest rates rapidly does little to stop a currency from devaluing. In fact, markets may take this as a sign of weakness and apply more pressure in the interbank markets.
Nigeria is Africa’s largest economy, but it also has a massive dependence on oil.
The impact of recent sharp drops in oil has had a catastrophic effect on the currency and the tax receipts of Nigeria, with sharp budget cuts of at least 8% forecast in 2015 as a result of the drops. Overall, oil accounts for 35% of GDP, and when it has dropped almost 50% this year alone, the impact it has on Nigeria is dire and the long term effect it’s going to have on any currency tied to oil will be drastic.
The chart above shows the impact that a drop in oil can have. Canada, which is diversified in its services and primary sector, has taken a small beating on the charts, while other major export nations like Brazil and Nigeria, both heavily dependant on oil exports, have taken a beating from the currency markets and suffered from volatility. With the general expectation for an ever drop in oil, these currencies will continue to be affected deeply.
However, trading FX or following FX markets allows for smart money thinking. A falling currency presents itself as an opportunity and not a calamity as many would say during this period.
At present, the Naira has fallen over 12% against the USD. There are two options in the FX market: you can hedge by buying the USD on margin (a move requiring very little capital outlay), or alternatively look to short oil contracts. Both strategies provide some sort of security at present in the Nigerian market at a time of uncertainty. With the drop in oil, the economy of Nigeria is likely to reel from it for some time and it will take a jump in prices again to stave off any further devaluation – something that OPEC seems to care little for at the moment.
This is a Guest Editorial by Alex Gurr, Research Analyst at Blackwell Global.