A bond is a fixed-income financial instrument that the government or corporation uses to borrow money from investors to acquire capital. In exchange for the capital, investors get an interest coupon at predetermined intervals. The intervals can be annually or semi—annually. These interest coupons are a percentage of the face value. Let us say the government decides to issue a bond worth 3000 Kenyan Shillings with a fixed annual interest rate of 10% per annum and expires in 10 years. If you decide to buy the bond at a face value of 3000 Kenyan Shillings, you will get 300 Kenyan Shillings every year for 9 years, and on the tenth year, you will receive your coupon of 300 shillings together with the initial investment of 3000 Kenyan shillings. A bond can be a good instrument for medium to long-term investment.
The most common types of bonds in Kenya are Treasury bonds and Corporate bonds. Treasury bonds are medium to long-term government securities that have a fixed interest rate over their lifetime. They are different from treasury bills which are short-term government securities. Treasury bonds are an important component of the country’s financial system. They are sold by the Central Bank of Kenya. According to an article written by Rose Ngugi and Justus Agoti in 2009, (https://afdb.org/fileadmin/uploads/afdb/Documents/Knowledge/30753253-FR-123-NGUGI-BONDS-PAPER-AEC.PDF) the treasury bonds market is more liquid with higher trade value and more traded days as compared to the corporate bonds market. Moreover, treasury bonds have a higher volatility, meaning high risk, for the longer tenors than the shorter tenors. This explains why most investors prefer the short tenor bonds to the long tenor bonds. On the other hand, the corporate bond market is found to be less volatile and is comparable to the short end of treasury bonds. Corporate bonds are issued by companies that are looking for funds to fuel growth. Their tenor is shorter, and they have a higher interest rate as compared to government-issued bonds. In 1996, East African Development bank was the first to introduce a corporate bond in Kenya.
The bond market was introduced in Kenya by the Kenyan Government in the 1980s in a bid to use treasury bonds to finance government deficit. In 2003, it contributed at least 10% to the country’s total Gross Domestic Product. Bonds have helped the government to finance domestic debt. The bond market development has a significant positive effect on GDP in Kenya and the Kenyan government should take policy initiatives to foster growth of the treasury bond market which is important in providing finance for capital intensive infrastructure projects so that the country’s vision 2030 objectives can be achieved. This is according to a study carried out by Kiragu Miriam W,2015(http://erepository.uonbi.ac.ke/handle/11295/94495), to examine the impact of the treasury bond market development on economic growth in Kenya.
Public debt has always been used to finance government expenditures in the less developed countries. It refers to the sum of the nation’s external debt, which consists of money borrowed from foreign countries, and domestic debt. Domestic debt is normally created through various financial instruments such as bonds, treasury bills and overdrafts from the central bank. In Kenya, the Internal Loans Act provides the legal framework for the Cabinet Secretary to finance to borrow, on behalf of the government, from the public by issuing treasury bills and treasury bonds. However, since 2003, government securities have been skewed in favour of long-term borrowing through treasury bonds. (Putunoi and Mutuku, 2013)
From the graph above, Kenya’s public debt has been increasing between the year 2010 and 2020. In 2010, domestic debt accounted for 54.19% of the public debt and in 2020, domestic debt was at 48.25% of the public debt. Therefore, in 2010, domestic debt was higher than external debt whereas in 2020, domestic debt was lower than external debt. This is due to the COVID-19 pandemic, where the government had to step up borrowing from bilateral and multilateral lenders such as World Bank, to contain the pandemic. According to Capital Markets Authority report, the pandemic drove up demand for treasury bonds and this increased the turnover from 651.35 billion Kenyan Shillings in 2019 to 690.58 billion Kenyan Shillings in 2020. This high demand however, led to a significant drop in bond yields in the year 2020. According to cytonn report, investors should be biased towards short term to medium term bonds to risk. This is because of the uncertain environment brought about by the effects of the COVID-19 pandemic.
The bond market has not always been accessible to all Kenyans until the year 2017, when M-akiba was launched. M-akiba is a retail bond that helps the government to raise capital for various infrastructure projects in Kenya. Originally, the minimum initial investment required to purchase a bond was 50,000 Kenyan shillings. With M-akiba, one can invest in a bond from as low as 3,000 Kenyan shillings. It is very affordable, and it helps to improve the personal financial management of Kenyans. Furthermore, it is accessible since it can be accessed through the mobile phone. The CEO of Nairobi Securities Exchange, Geoffrey Odundo, once stated in an interview carried out by African Business Magazine, that the adoption of m-akiba has been slow since its launch in 2017. He also added that there are more than 300,000 registered account holders but active buyers are less than 10,000. This is a platform that can be used by anyone who is above the age of 18 years. Young people are advised to use m-akiba to invest in long-term bonds as they prepare for a bright future ahead.
The newest bond introduced in Kenya’s bond market is the green bond. They are regular bonds whose proceeds are exclusively for projects with environmental benefits. These bonds were launched on 20th February 2019. They help to raise capital for green projects that address the risk posed by the country’s exposure to climate change, environmental degradation and associated social impacts. The green bonds were brought about by the green bond programme which was initiated in 2017 by the Kenya Bankers Association, Nairobi Securities Exchange, Climate Bond Initiative, Financial Sector Deepening Africa and FMO- Dutch Development Bank, with an aim of diversifying products in the Kenyan capital markets. During the launch of the green bonds, Mr. Paul Muthaura, the Chief Executive of Capital Markets Authority , stated that over the next five years and beyond, green instruments will play an important role of driving the growth of Kenya’s capital markets. Any creditworthy institution can issue the green bonds. The green bond is not a new thing as it was first issued by the European Investment Bank in the year 2007, and it has grown exponentially since then. Proceeds from the green bond are allocated to various sectors such as energy, buildings, transport, water, and waste among other sectors. The good thing about green bonds is that they benefit both the investor and the environment at large.