JPMorgan’s new $330 billion bond index gives African countries almost half its weight

The Wall Street bank plans to launch its Government Bond Index–Emerging Markets Edge, known as GBI-EM Edge, before the end of September.

Africa will receive almost 45% of the benchmark’s total weighting, according to a JPMorgan investor note reviewed by Reuters⁠.

Egypt, Morocco and Nigeria are expected to be among the countries with the largest allocations. Angola and Zambia have also qualified, while other African participants are expected to include Kenya and Namibia.

JPMorgan has not yet published the complete index and final country weightings on its freely accessible website. The named markets should therefore be checked against the bank’s final constituent list when the benchmark launches.

Why the 45% weighting matters

An index gives investors a standard for measuring the performance of a group of bonds.

Funds that follow an index may buy the securities it contains in roughly the same proportions. Other investment managers use the benchmark to assess whether their portfolios are performing better or worse than the market.

JPMorgan’s emerging-market indices are among the most closely watched in global finance. Inclusion can put a country’s bonds before international investors who might otherwise overlook smaller or less liquid markets.

Giving African countries almost 45% of GBI-EM Edge means that nearly half of the benchmark’s movement could be linked to changes in African bond prices, interest rates and currencies.

It does not mean that African governments will immediately receive 45% of $330 billion.

The $330 billion represents the approximate value of eligible bonds tracked by the benchmark, not a fund that JPMorgan will distribute among participating countries.

The amount of new foreign investment will depend on how many asset managers decide to follow the index and how much money those funds control.

Investors are being offered higher returns

GBI-EM Edge is expected to offer an average nominal yield of approximately 10.4%.

That is about 440 basis points, or 4.4 percentage points, above the yield on JPMorgan’s mainstream emerging-market local-currency bond index.

Back-testing by the bank also suggests that the frontier benchmark would have produced annualised returns approximately 1.2 percentage points higher during the past nine years.

The higher yield is the main attraction for investors. It also reflects the additional risks involved in lending to governments whose currencies, inflation rates and financial markets can be more volatile.

Foreign investors may receive high interest payments and still lose money if the local currency depreciates sharply against the dollar.

They may also find it more difficult to sell bonds quickly in smaller markets, especially during periods of political or economic instability.

Rules limit the smallest and riskiest securities.

JPMorgan will include only bonds with an outstanding value equivalent to at least $250 million.

Each bond must also have no less than two-and-a-half years remaining before maturity. No country will be permitted to exceed 8% of the index.

The country cap prevents a few large issuers from dominating the benchmark and spreads investors’ exposure across several markets.

The $250 million minimum had raised concerns that Zambia would be excluded because many of its domestic securities were smaller. Zambia subsequently increased the size of eligible bonds and secured a place.

Angola has also been opening its approximately $18.6 billion domestic bond market to more foreign investors. The country’s finance minister cited the JPMorgan index as one reason for the changes.

Local-currency borrowing can reduce one danger

Greater international demand for domestic bonds could make it easier for African governments to borrow in their own currencies.

Many African debt crises have been worsened by large dollar and euro obligations. When a country’s currency falls, it needs more local money to repay the same amount of foreign debt.

Local-currency borrowing shifts much of that exchange-rate risk from the government to the investor.

Source: Africabusinessinsider