The Naira has shed significant value against the US Dollar since January 2022. As of August 2022, the exchange rate of the dollar to the naira on the black market stands at around N650/$1 (coming down from N710). The Central Bank of Nigeria in its bid to curb the fall of the Naira, increased interest rates for the second time this year to14% in response to inflation.

However, not everybody is buying into the CBN’s move to reverse the ugly trend of the fall of the Naira as the Senate- Nigeria’s highest legislative body recently summoned the Governor of the Central bank to give explanation on the free fall of the naira, despite efforts to reverse the trend.

While the economy seems gloomy, it does not mean you should exit the market. An effective risk management strategy can ensure you weather the storm of the free fall of the naira.

Why Is The Naira Losing Value?

Persistent Inflation

Nigerians have been battling inflation for the past two years but the Russia-Ukraine conflict has heralded a spike in prices of goods beyond the financial capacity of many Nigerians. In July 2022, inflation in Nigeria reached a high of 18.6%.

Insecurity also plays a part as farmers are scared to go to farm regularly because of kidnapping for ransom. This has also caused a hike in food prices.

Social intervention & poverty alleviation programs like N-power, and Covid stimulus packages also put more money in the economy. Upcoming elections have also increased spending in Nigeria and all these contribute to inflation.

The CBN Ban on FX Sale to B.D.C. Operators

Since July 2021, the CBN discontinued the sale of forex to BDC operators that is black market sellers, in a bid to strengthen the Naira. It now vested on the commercial banks the sole responsibility of selling forex to the public.

The commercial Banks are mandated to sell forex for Personal Travelling Allowance (PTA), Business Travelling Allowance (BTA), medical exigencies etc. This implies that those who need forex for other purposes such as trading currencies against each other, purchasing things online from foreign countries, etc., will have no option than to turn to the black market.

For those who genuinely need PTA & BTA, the bureaucracy of applying for the funds seems too tedious as they have to be put on a long queue. Also, Nigerian students needing Personal Travel Allowance (PTA)puts a lot of pressure on the CBN and hurtsthe naira.

For example,a CBN report showed that Nigerian students spent $221million on foreign education between December 2021 and February 2022. Spending so much on educational tourism can impact the Naira.

Interest Rate Hikes by Advanced Economies

In recent times the Bank of England, the Federal Reserve Bank and the European Central Bank have all increased interest rate. The ECB rate hike was the first in 11 years.

Karan from SafeForexBrokers.com explains “the US Dollar is strengthening, and this is affecting all the other currencies & their inflation. A stronger US Dollar means all the countries that are net importers of commodities, food etc. have imported inflation. The measures of increasing interest rates by Central Banks are aimed at curbing inflation but it also to have a positive effect in strengthening their currencies, which is to protect against imported inflation from commodity imports.”

As the major currencies such as US Dollar & Euro increase in value, it has a negative effect on the value of the Naira.

Going on the Defensive

The free fall of the naira requires a defensive posture to investing and if need be, a re-balancing of your portfolio to contain defensive assets. Let us take a look at some below:

Eurobonds

A Eurobond is fixed debt income security provided in a foreign currency different from that of the country where it is being issued. Eurobonds can be issued by either governments, or corporate organisations. Eurobonds can also be issued in various currencies like the Euro, Pound, US dollar etc.

For instance, the Debt Management Office just announced it will list the $1.25B Eurobond on the NGX & FMDQ exchanges. This Eurobond is denominated in dollars and pays a coupon of 8.75%. Listing on an exchange also means you can buy and sell the Eurobonds at any time before the end of its lifespan in March, 2029.

So how does Eurobonds help protect your investment against the fall of Naira? Eurobondsusually have a long tenor so this means, if the Naira falls, your investments are locked in a foreign currency, probably the Dollar that is appreciating in value.

This is because the interest and principal are paid in the currency in which it was issued. PurchasingEurobonds in Nigeria has the same process as purchasing Naira denominated bonds. They are usually bought at the primary market during the initial offer, or at the secondary market which is the stock exchange.

The governmentlicenses commercial banks and brokers who facilitate the sales of these bonds to the public, after completing the necessary documentation.

Save in Foreign Currency

One way to mitigate thefall of the Naira against your investment is by saving your income in a foreign currency preferably one that is doing well like the U.S dollar.By saving in a foreign currency, your income or savings will not lose value as the naira loses value, instead you profit off the fall of the naira.

Nigerian commercial banks have domiciliary accounts where you can save funds in a foreign currency and withdraw in same foreign currency. This can go a long way in ensuring your investments do not lose value.

Futures Contracts

Just recently, the Nigerian Exchange Group (NGX) launched the first Exchange Traded Derivativemarketin West Africa, where you can trade equity futures contracts.

A future contract is a legal agreement between two parties to buy or sell a predetermined amount of an underlying asset, at a predetermined price at a set date in the future. Futures are usually traded on a stock exchange and this is an important distinction.

When a futures contract expires, the contract holder must buy or sell the particular security, or settle the price difference in cash. Investors use futures contract to hedge against losses as a result of price fall of an asset or security.

Currently the NGX has listed NGX pension Index futures, and NGX 30 Index futures; which allow you speculate on the rise and fall of the stocks that make up these indexes.

For example the NGX 30 index tracks the 30 most capitalized companies listed on the NGX exchange. So if you had previously invested in an index fund that tracks the NGX 30 index (such as the Greenwich Alpha ETF), and you fear the index is going to underperform, you can buy a futures contract.

Buying the NGX 30 index futures contract, will give you the right to buy or sell your shares of the index fund that tracks the index at an agreed price at a future date.

Futures contracts also serve as a fear indicator in the market. This is because when there is fear in the market, people begin to buy futures to protect themselves so as prices of futures go up, it means danger is around the corner.

Forward Contracts

A forward contract is a binding agreement between individuals or businesses to purchase or sell a certain amount of an underlying asset on a set future date.

While a futures contract is traded in an exchange, the forward contract is traded over the counter (OTC) between the two parties. This means for the futures contract, there is an intermediary or middleman, while there is no such middleman for the forward contract.

For example, if you are a producer of beverages and you fear soybeans prices will soon go up, you can enter into a forward contract with a farmer to lock in your desired price for a future date. However, there is counterparty risk with forward contracts since there is no stock exchange to mediate.

Invest in Defensive Stock

As the Naira falls, companies find it difficult to meet overhead costs and this may affect their profit and prompt investors to sell off their stock. These companies may not be able to pay dividends again.

Equipping your portfolio with stock of companies that produce consumables and health care products could be a safe idea. This way even if the country slips into a recession, you still get paid dividend since these companies are not heavily leveraged, and have robust balance sheets.

These companies can also pass the increased cost of production to their customers without disenfranchising them, thus making them almost inflation proof.

Cloudy With a Chance of Naira Fall

It is predicted that the Naira may continue this fall for a long term before it begins to appreciate, considering that the Dollar is appreciating. The strategies explained above can enable you protect your investment against the bearish outlook.