Africa's Eurobond market has been dubbed the "Wild West" for its volatility and riskiness. However, it has also been a source of high returns for investors willing to take on the risk.
Despite challenges posed by the 2020 pandemic and recent global political shifts, the secondary market for buying and selling African debt remains strong. It is fueled by Eurobond issuances from African governments and corporations, drawing in an international mix of brokers, traders, and asset managers. The market reacts quickly to information or speculation, often sparking swift trade surges to capitalize on opportunities or to reduce potential losses.
The volatility of the Eurobond market is due to political instability, economic instability, and currency risks. Many African countries are plagued by political instability, which can lead to defaults on Eurobonds. Moreover, African economies are often volatile, which can make it difficult for countries to repay their debts. And African currencies are often volatile, which can make it difficult for investors to hedge against currency risk.
Despite the risks, the African Eurobond market has been a source of high returns for investors willing to take on the risk. In 2021, for example, the average return on African Eurobonds was 11.4%. This compares to an average return of 5.2% for global Eurobonds. Thus, the main question remains to know how can traders benefit from a volatile bond market?
The key point here is speculation on price movements. Speculation on price movements increases opportunities for profits. This is because when bond prices are fluctuating, traders can make money by buying bonds when prices are low and selling them when prices are high. This is known as "trading on the margin." Furthermore, volatile markets offer higher potential returns than calmer markets.
Cyprus-based trader, Simbarashe Jindu, an analyst at MeritKaptial Ltd., said the following:
“It’s not a place where most people trade, because sub-Saharan Africa (SSA) is one of the more volatile spaces in the Eurobond market. But it attracts those looking for higher yields, as compared to other emerging market (EM) papers like Saudi Arabia, yields in SSA are 3% higher and more."
It is likely that most traders who venture into the SSA space of the Eurobond market might be short-selling those bonds in order to make profits. Short-selling bonds involve borrowing bonds from a broker, selling them at the current market price, and then repurchasing them at a lower price in the future to return to the lender. If the bond price falls, the trader can repurchase the bonds at a lower price and return them to the lender, making a profit on the difference in price.
While short-selling presents enormous risks such as unlimited losses, margin requirements, borrowing cost, and short-squeeze; traders who master the strategy of short-selling make significant profits. This is because short-selling bonds can be used to hedge against other investments in bonds and it can also be used to speculate on interest rates. If a trader believes that interest rates are going to rise, they can short-sell bonds, as the price of bonds typically falls when interest rates rise.
It is essential to emphasize that investors should only invest in African Eurobonds if they are willing to take on the risk. They should also carefully research the issuers of the Eurobonds before investing.