Egypt devaluation calls grow louder, longer as crunch time nears

Traders are on a record-long streak of hedging against a decline in the Egyptian pound as some Wall Street banks warn growing pressures on the currency could soon force the central bank’s hand in allowing another devaluation.
Time may be short for a country facing what Citigroup Inc said is growing pent-up demand for dollars that won’t ease without more currency flexibility and stronger investment flows. Half measures haven’t been enough, stalling deals and resulting in an underperformance of Egypt’s bonds.
The market verdict also reflects scrutiny of Egypt’s pledge in October to move to a flexible exchange rate, which helped it clinch a $3bn deal with the International Monetary Fund. But the pound has been on a short leash for weeks as a dire inflation outlook at home becomes a focus for authorities, especially after hiking fuel prices and with only days left before the holy month of Ramadan. Accelerating inflation is adding pressure on the currency, which has traded “relatively flat” since the January devaluation “despite clear signs of ongoing FX liquidity shortages,” Farouk Soussa, an economist at Goldman Sachs Group Inc, said in a note.
Ahead of the first review of the IMF’s programme this month, the derivatives market is signalling a deeper slide in the pound even after three devaluations in the past year lopped off almost half its value.
The one- and 12-month contracts on the currency in the non-deliverable forwards market posted their 10th week of losses in the five days through Friday, the longest such streak in data going back to 2007.
In another measure of expectations for a devaluation, Commercial International Bank’s depository receipts on the London Stock Exchange are trading at a 14% discount to their shares in Cairo.
Egypt will need to loosen its grip on the pound “sooner, rather than later,” said Edwin Gutierrez, head of emerging-market sovereign debt at abrdn in London.
“It’s still a very managed currency, which is not what the fund wants to see — or emerging-market debt managers for that matter,” Gutierrez said. “The equilibrium is for a weaker currency, which would cause higher inflation, as they aren’t getting any capital inflows.”
The Arab world’s most populous nation is struggling again to clear out billions of dollars of imports that have remained blocked at its ports. That’s created an unfulfilled demand for hard currency and worsened the fallout of Russia’s invasion of Ukraine on one of the world’s biggest buyers of commodities such as wheat.
The backlog is currently estimated at around $4bn, from as low as $2.5bn in January, according to Citigroup. Reflecting a deterioration in confidence, foreign-currency deposits increased in January by the most since July, it said in a report last week.
Facing investor impatience and doubts over progress in pursuing asset sales, the government said it will begin the process of offering two military-affiliated companies this week, and is planning to put forward another four large firms.
The central bank may have to raise interest rates by as much as 300 basis points when it meets later this month, after February’s inflation far surpassed forecasts, according to Goldman Sachs.
In February, policymakers defied most analysts’ expectations by leaving borrowing costs unchanged for the first time since September, saying they were assessing the impact of a combined 800 basis points of increases in 2022.
While posing a risk for inflation, a weaker pound would help ease pressure on Egypt’s balance of payments and make the funding gap more manageable.
In the non-deliverable forwards market, the one-month contract on the pound has weakened about 4% since the end of February to 32.6 per dollar, while the 12-month contract is at around 38.
Non-deliverable forward contracts allow investors to take a view on the exchange rate and settle the difference between the agreed rate and the actual price in dollars.
The pound traded at almost 31 versus the dollar on Monday. It’s weakened about 2% since end-January, less than declines seen in the Russian rouble, Argentina’s peso, the Zambian kwacha and South Korea’s won. The Egyptian currency’s real effective exchange rate is 23% cheaper than its 10-year average, according to Citigroup.