On May 17, 2023 the IMF announced that it had approved a $3 billion Extended Credit Facility (ECF) for Ghana. The approval comes 11 months after Ghana announced that it was seeking a program with the IMF to support its economic program. As a demonstration of how crucial the IMF deal for Ghana, the approval of the ECF will come with an immediate disbursement of $600 million.
I have written extensively about how Ghana got into a situation where it needed the IMF , why none of the homegrown solutions were going to be an alternative, and what government did as far as domestic debt restructuring was concerned. In this post I am going to stick to the implications of the IMF deal for Ghana’s financial market which has been negatively impacted by the country’s debt crisis since January 2022.
From mid-2022 some fund managers experienced difficulties in meeting redemption requests from clients because of heavy losses the funds were seeing in their bond portfolios as well as investors seeking to withdraw their funds to invest in high-yielding treasury bills or the quickly appreciating US dollar. This liquidity crisis prompted the SEC to issue a directive to funds to revalue their assets given the current bond prices and to let these values reflect in the accounts of their customers. For a full and simple explanation of the mark-to-market valuation, kindly read this. This reduction in the investment account balances that customers suffered triggered severe backlash and even led to one investment company shutting down their offices because their staff were getting attacked. Then in December the government announced the Domestic Debt Exchange Programme (DDEP) which resulted in bonds, mostly held by financial institutions, losing an estimated 30% of their value.
With the coming in of the IMF program many investors want to know whether this means activity on the market is going to go back to pre-crisis levels and whether their redemptions would come in faster than they currently are. They also want to know what this could mean for returns on their investments. Let’s try to answer these questions below.
First off, I do not envision investing activity recovering any time soon simply because the bond market has suffered a huge downgrade in its risk profile. Banks, investment firms, and individual investors do not currently view bonds as a safe, predictable, long-term investment because of the huge losses suffered in 2022 as well as the restructuring done through the DDEP. For that purpose, treasury bills will remain the main fixed income security trading in the market. In the press release which announced the ECF, the IMF states:
As T-bills were not included in the restructuring, the short-term domestic debt market should remain functional and a critical instrument for both investors and the government until the bond market is restored. Indeed, recent auctions have seen a significant decline in yields. Nonetheless, the need for the government to issue a substantial amount of T-bills in 2023 poses a domestic financing risk. Continued progress in implementing the reform agenda, combined with outreach to investors around such successes, should slowly restore confidence to the domestic debt market. The first few domestic bond issuances following the restructuring, which would likely not happen until 2024, will be carefully managed to prioritize successful execution, perhaps using placements rather than auctions and starting with small volumes. Once domestic market access is more firmly established, primary issuance will switch to competitive auctions. Non-resident investors in domestic bond markets will not be offered special incentives.
IMF Country Report No. 23/168
In simple English, the bond market is not returning until 2024 at the earliest and even if it does, selected institutions will be invited to place bids for small volumes of bonds. Only later, should economic recovery proceed as planned, would new bonds be issued through auctions like it used to be.
The matter of an increased speed of redemption requests is a difficult one to address. This is because it is tied to activity on the bond market as well as inflows into the mutual funds. Recall that these funds are heavily invested in bonds. As fewer people are buying bonds the funds are unable to sell the bonds to generate liquidity to pay off customers. Also, one can expect that inflows into investment funds have severely reduced due to a lack of customer confidence. This also makes it more difficult for the funds to generate the liquidity necessary to settle the huge levels of redemption requests they must be facing. Nevertheless, the situation is certainly better now than it was from the third quarter of last year. The SEC, through GCB Capital, is facilitating the exchange of some of the newly issued bonds for cash in order to allow fund managers honour redemption requests. So we should generally expect customers to receive their funds faster this year.
Now to the matter of investment returns. A lot of the high returns, say 25%-35%, that was witnessed on government securities are going to be much more difficult to achieve in the near term. This is because these returns represented a huge interest expense to government. As the government is seeking to reduce the strain on its budget, it would be looking to reduce interest rates on its debt. We’ve already witnessed this with the forcing down of treasury bill rates from 35% to 20% in March. Therefore investors should expect a period of lower interest rates. On the positive side, we’ve seen inflation continue to drop in the past few months. If this trend continues then it should make up for the lower interest rates.
In conclusion, the recovery of financial markets will require that confidence returns to investors and they start returning their monies to the market. For that to happen, it would take time. It’s going to be a journey and not an event. Thus although the IMF deal is a positive occurence for the markets, I do not expect it to return the markets to where they were in 2021. That would take time and hard work from the government and market players.