Kenyan bonds face depressed yields as inflation, high interest rates hit market

Saturday August 27 2022
Clients inside a KCB bank branch.

Clients inside a KCB bank branch. Central Bank of Kenya recently increased benchmark lending rates to control rising inflation. PHOTO | FILE


East Africa’s banking institutions could be holding battered government bonds as the region’s fixed income market is hit by inflation, central banks’ rate increases and uncertainty over Kenya’s disputed presidential poll. At the peak of the Covid-19 pandemic in 2020, regional banks took flight to the supposedly safe ‘havens’ in government bonds and increased their holding of treasury securities to the detriment of private sector lending to cushion against loan default.

However, hard hit by roaring inflation and upward review of interest rates by central banks across the region to stem the high cost of living, the bond market is wading through a dreadful period with painful losses to investors.

“Rising interest rates will lead to losses across bank bond portfolios. The impact will vary from bank to bank depending on the size of the bond trading activity,” said Ken Gichinga, chief economist at Mentoria Economics.

The interest rate on Kenya’s 10-year treasury bond has risen by 1.42 percentage points in the past 12 months to 13.98 percent in August 24, 2022, from 12.56 percent in August 29 last year, implying a decline in the market value for these bonds. And for banks, this is not good news since the decline in the value of their bond holdings adversely impacts profitability, when carrying out a market revaluation of the investments.

Eric Musau, a director in charge of Research at Standard Investment Bank said although banks are facing losses on their long dated bond portfolio, the upward move of the interest rates has not been too drastic and inflation may moderate sooner than expected.

“Banks hold instruments that have different maturity profiles, and so the yield curve rises they can get higher return as their current holdings mature. The longer dated ones will see some losses,” said Mr Musau. Central bank data shows that Kenyan banks hold more than Ksh1.83 trillion ($15.37 billion) in government bonds, constituting about 30.5 percent of the total assets estimated at $50.58 billion by December 2021.


Bond prices move inversely to interest rates, implying that as rates rise, bonds lose value and as rates decline, bonds rise in value. The decline in bond values is as a result of rise in interest rates that is accelerating throughout the bond markets as central banks try to contain inflation induced by rising oil prices and supply disruption due to the Russia-Ukraine war.

Reginald Kadzutu, chief executive of the asset management firm Amana Capital Ltd, however, said CBK’s monetary policy rate has a very weak transmission mechanism and does not reflect on the price the government borrows.

“Nonetheless most banks have very few bonds held for trading the rest are on hold to maturity,” said Mr Kadzutu.

In Uganda, the yield on the 10-year bond increased to 14.1 percent in the three months to June 2022 from 13.9 percent in the three months to March.

while bond yields on the 15-year and 20-year tenors increased by 60 basis points to an average of 15.5 percent from an average of 14.9 percent in the same period, according to the Bank of Uganda (BoU).

In Tanzania, treasury bonds constituted 82.7 percent of the government’s domestic debt by June, according to the Bank of Tanzania (BoT).

Last year Kenyan banks’ holding of Government securities increased to 30.5 percent of the total assets from 29.6 percent in 2020 while loans and advances to the private sector as a share of net assets declined to 48.5 percent from 49.2 percent in the same period.

According to CBK the overall interest rates on government domestic securities recorded marginal increases in 2021, extending into the first half of 2022.

But the investments are facing a rough ride with the rise in interest rates spelling danger to the lenders ‘profitability

According to CBK raising policy rates to stem inflation is expected to push up interest rates higher, leading to high borrowing costs.

Barely two weeks ago Rwanda’s central bank raised its lending rate by 100 basis points, the biggest increase in recent years, to six (6) from five (percent) to stem rising inflation that hit 15.6 percent in July from 12.6 percent in the prior month, well above the 0.8 percent average rate recorded last year.

“This (inflation) is a big concern for us. We are talking to other government agencies to intervene. Inflation is expected to remain high over the next three quarters and start easing in the second half of 2023 when the headline inflation converges towards the five percent benchmark,” said John Rwangombwa Governor, National Bank of Rwanda

During the second quarter (April-June) of this year (2022), Kenyan Government issued seven Treasury bonds targeting to raise Ksh222.71 billion ($1.87 billion) but fell short of the target by Ksh19.85 billion ($166.8 million), only managing to raise Ksh202.86 billion ($1.7 billion), according to data from the Capital Markets Authority. Turnover in the corporate bond market also fell to Ksh11.87 million from Ksh358.5 million in the same period last year.