A bond is a contract between a lender and a borrower, whereby the borrower agrees to pay the lender interest and repay principal at stipulated periods. It’s similar to an IOU, issued by the Government or a Corporate institution as a way of raising funds for particular projects.
When you purchase a bond, you are lending money to a government, local government council, state government, federal agency or a corporation, known as the issuer. The government uses it to fund budget deficit, for instance, or to build roads, electric power stations, finance factories, etc. When you purchase a bond, in return the issuer promises to pay you a specified rate of interest during the life of the bond and to repay the face value of the bond (the principal) when it ‘matures’
What is an FGN Bond?
FGN Bonds are Debt instruments or contracts issued by the Federal Government of Nigeria for an agreed period of time. The investor lends an amount of money to the government and earns interest on the investment until the maturity of the bond when the initial payments will be returned.
What are the Benefits of an FGN Bond to the investors?
- It serves as risk-free investment
- It is income is tax exempt
- It provides relatively high and stable returns
- The principal element ( collected at maturity) can be used as collateral for securing credit facilities from banks
- Bondholders that want cash can trade the bonds on the floor of Nigeria Stock Exchange(NSE) for immediate cash before maturity
- It qualifies as liquid assets for banks from two years to maturity
Who Can Invest in FGN Bonds?
Anyone can invest in a FGN bond. They can be individuals or corporate bodies.
When does the Government Issue Bonds?
The Government via the Debt Management Office DMO will first issue a primary auction. Freshly issued bonds usually takes place on the third Wednesday of every month.
Where Can I Buy an FGN?
You can buy from the following PMI’s. Just go to any of their branches and request for a form and guiddiance
- Access Bank Plc.
- Associated Discount House Ltd.
- CitiBank Nigeria Ltd.
- Consolidated Discounts Ltd.
- Diamond Bank Plc.
- Ecobank Nigeria Plc.
- Fidelity Bank Plc.
- First Bank of Nigeria Plc.
- First City Monument Bank Plc.
- FSDH Merchant Bank Ltd.
- Guaranty Trust Bank Plc.
- Kakawa Discount House Ltd
- Stanbic IBTC Bank Plc.
- Standard Chartered Bank Nigeria Ltd.
- Union Bank of Nigeria Plc.
- United Bank for Africa Plc.
- Zenith Bank Plc.
FGN Bonds have maturity years ranging from 5 years to 10 years to 20 years. The maturity of a bond is the number of years remaining for an already issued bond to mature (due for payment of principal)
How do I invest in FGN Bonds?
You can invest in bond through a Primary Dealer/market maker (PD/MMs). PD/MMs can be banks, investment houses, brokers etc. . To invest you approach your chosen PD/MMs and fill a form. In the form you fill your Personal Information, bank details for payment of your interest, CSCS nos, the amount you wish to invest, your bid interest rate and then sign. See Step by step process below:
How to invest in FGN Bond
1. Application forms can be obtained from any of the authorized dealers(PDMMs), or download from the DMO’s website
2. Complete the application forms and submit through any of the PDMMs
3. Common- price auction system is normally employed as opposed to multiple price auctions
4. Payments for the allotment are payable in full on application
5. Minimum of N10,000.00 and multiple of N1,000 thereafter
6. Investors can also access the FGN bonds after the auction through the secondary market
7. FGN bonds purchase is confirmed by registration in the depository (CSCS) or by issue of certificates
8. Interest is paid semi-annually until the maturity date when the principal amount is repaid
9. Payment of interest is through issue of interest warrant(cheque) or direct transfer to current or savings bank accounts
10. Bondholders who do not want to hold the bonds until maturity date can sell them at any time on the floors of Nigerian Stock Exchange or Over the Counter (OTC), through, any of the PDMMs
Why do I have to bid interest?
FGN Bonds are sold via an auction system where investors quote interest rates for bonds they wish to buy. As such, bond applications with interest rates that are below the minimum average interest rates otherwise called the marginal rate quoted are accepted and those higher may be rejected. For example, if the average minimum interest rate is 12% then bids below 12% will be accepted. Therefore different investors can have different interest rates provided it falls below the minimum average bid price. Someone can have 10% another 11%, 9%, 10.5% etc.
What is the Marginal Rate for Bonds and How does it work?
Bonds like any other asset is affected by the interest rate pressures. As such despite the coupon rates the FG indicates it will pay bond purchasers and sellers determine the price of a bond based its expected yield. For example, FG Offer for sale FGN Bond with a coupon rate of 10%. As such N100 unit (bond price) of the bond will earn N10 in coupon interest. However, when you are about to buy the marginal rate determines the price you pay. So, if the marginal rate is 13%, you pay N76.9 for a bond with a Face Value of N100 per unit. This is derived at by dividing the fixed coupon N10 by the expected yield 13% (10/0.13) to arrive at N76.9. As such the N10 coupon that will produce a yield of 13% will be based on a price of N76.9. So basically when the yield is higher than the coupon the bond price is sold at a discount and when the premium is higher than the yield the bond price is sold at a premium.
What if I lose my bid is there still a way I can buy?
You can buy or sell bonds at the secondary market. So for those who do not wish to hold to maturity they can just go to the Over The Counter (OTC) market on the floor of the Nigerian Stock Exchange and buy. The secondary market is open from 10am to 2pm Monday to Friday. The minimum investments are 50 million and 100 million per transaction.
How Quickly Can I convert Bonds to Cash?
If you do not wish to hold to maturity, you can convert bonds to cash to selling on the secondary market through your PD/MMS who are mandated to give a two way bid/offer price. Because bonds are typically stated in of 50million and 100million amounts below are generally illiquid in the secondary market and are sold on a best effort basis.
When is the interest paid?
The coupon Interest on FGN Bonds are paid semi annually.
Where will my Interest Payment be paid to?
Your interest payment will be credited to the account that you indicated when you filled the form.
Can my interest payments be rolled over on top of the principal?
No. The coupon is not rolled over automatically. It is credited to your accounts as cash. However, you can then use the interest to purchase the next round of bond sales should you want to enjoy the benefits of compounding interest.
Are the Interests Tax Free?
Yes it is Tax free as you do not pay tax on the interest
What Security do I have?
FGN Bonds are secured by the full faith and credit of the Federal Government of Nigeria. Their default capability is close to zero
What affects the Bond Price?
The Bond price is affected by the yield. The higher the yield the lower the price. For example a Bond Price originally cost N100 at 10% coupon rate (N10 interest). The price drops to N90 due to forces of demand and supply. The yield is therefore the N10 divided by the N90 0r 11.1% price in the hand of a new purchaser.
What other Factors affect Bond Price?
a. The credit status of the issuer
b. The forces of demand & supply of such securities
c. The inflation and interest rate movements
d. Activities and performances of the equities market.
What is the difference between a bond and a stock?
The key difference between stocks and bond is that stocks make no promise about dividends or returns, but when the Government Issue a bond, it guarantees to pay back your principal (the face value) plus interest. If you buy the bond and hold it to maturity, you know exactly how much you are going to get back. That is why bonds are also known as ‘fixed-income’ investment – you are sure of a steady payback or yearly income.
The buyer of stocks or shares in a company has purchased part of the equity and becomes part –owner. He is only entitled to dividend declared by the company when it makes profit.
What are the types of Bonds?
- Sovereign Bond(such as FGN Bond)
When you buy FGN bonds you are lending funds to the federal government for a specified period of time. The FGN bond is considered as the safest of all the investments because it is backed by the ‘full faith and credit’ of the government. They have no default risk, meaning that it is virtually certain your interest and principal will be paid as and when due. The income you earn is exempted from state and local taxes.
- State and Local Government Council Bonds
When you purchase state and local government council bonds you are lending to the issuers who promise to pay you a specified amount of interest (usually semi – annually) and return the principal to you on a specific maturity date. State and local government bonds are debt obligation issued by the state government, local government councils and other governmental entities to raise money to build schools, roads, hospitals as well as other projects for public good.
- Government Sponsored Enterprise Bond
These are bonds that help support project relevant to public policies, such as helping certain groups, such as farmers, homeowners, students, etc to raise money for financing specific projects. These bonds do not carry the full-faith and-credit of government. The investors are likely to hold them in high regard because they have been issued by a government agency.
- Corporate Bond
Corporate bond are debt obligation issued by private or public corporations. The corporations use the funds for building facilities, purchase of equipment to expand the business, etc. When you purchase corporate bond, the corporation promises to return your money, or principal at maturity date, but you are being paid interest semi – annually. The interests you receive are taxable. Corporate bonds do not give you an ownership interest in the issuing corporation.
Are there Risk and Reward in investing in bond?
Any time you lend money you run the risk that it will not be paid back – credit risk. Another source of risk for certain bonds (bond with call option) is that your loan may be paid back early, or ‘called’ this is known as prepayment risk. When you buy a bond, the prospectus will indicate whether a bond is callable and give you a ‘yield-to-call’ figure. The greatest danger for a buy –and-hold bond to an investor is rising inflation rate – inflation risk. A rise in inflation makes prices fall and yields-or interest rates-rise. However, inflation risk, credit risk and prepayment risk are all figured into the pricing of bonds. The more the risk the higher the yield. Investors demand higher yields for longer maturities, as the longer you tie your money up in a bond the more at-risk.
Why should I invest in FGN bond?
- Starting or expanding a business
- Settlement after apprenticeship
- Pay children school fees in future(e.g for University education)
- Building a house
- Future projects by town unions, associations, student union
- To fund future social events such as Marriages and weddings, etc
- Settlement of pension insurance obligation( for Corporate Fund Managers), etc
What are the benefits of FGN bonds to the Economy?
- It fosters economic development by promoting the use of lon-term funds for lon-term investment in the economy
- It serves as an efficient way of mobilizing domestic financial resources for productive investment in a non-inflationary manner
- It allows self reliance of the country by reducing over reliance on short-term borrowing form CBN & commercial banks
- It provides a basic infrastructure for the development of the financial system and the overall economy
- It serves as a diversified portfolio investment outlet to corporate and individual investors
What are the benefits of FGN bonds to the Government?
- It helps government funds its deficits in a non-inflationary manner
- It provides benchmark yield-curve for pricing other securities/bonds
- It engenders rational management of Government’s fiscal and monetary operations
- It provides the basic infrastructure for the development of the financial system and the overall economy
- It strengthens the implementation of monetary policy by the Central Bank of Nigeria
- It introduces transparency, discipline and stability in the financial system
What is dematerialization of bond certificates?
It is a term which describes a shift from issuance of physical certificate to an electronic form. It involves the use of a depository, in this case, the Central Securities Clearing Systems Ltd(CSCS) which provides the platform for the securities.
Although DMO still issues physical certificates on request, modern securities trading system de-emphasizes the use of physical certificates. Advancement in electronic communication and custodian services allow book-entry records and trade verification which has made trading more reliable and easier to manage than the use of physical certificates.
How can I be aware of the forth coming issues?
- National Dailies
- DMO Website – FGN bond Issuance Calendar
Which Government Agency Manages the FGN Bond?
The Debt Management Office (DMO) is the Government agency that manages the FGN Bond. DMO was established on 4th October, 2000 to centrally coordinate the management of Nigeria’s debt, which was hitherto being done by a myriad of establishments in an uncoordinated fashion. This diffused debt management strategy led to inefficiencies. For instance, in the Federal Ministry of Finance(FMF) alone, four different departments have functions for the management of external debt in the following format click here for more info about DMO