Financial analysts have expressed alarm over the Bank of Jamaica's (BOJ's) decision to hike interest rates paid on its open market instruments.

On Monday, the central bank increased interest rates across all tenors, from a 85 basis points increase on 30-day instruments to a 150 basis points jump on one-year securities.

The BOJ, in a press release, had said that the revisions reflect concern about the rising trend in inflation and its impact on the attractiveness of Jamaican dollar investments.
"While many of the factors that triggered the spike in inflation during the December quarter are already abating, inflation expectations have risen and are reflected in investors' portfolio choices," said the release.

Financial pundits, while acknowledging anticipation of a BOJ intervention due to increased pressure on the local currency, which has depreciated by J$1.18 or 1.7 per cent since the start of the year, said they were caught off guard by the high level of interest rate increase administered by the regulatory body.

"We did not expect that level of increase, but we knew that something had to be done because the dollar was going downwards too fast," disclosed Sonia Owens, trading and investment manager at Barita Investments Limited. "I was wondering whether something like an index bond was coming."

The managing director of securities brokerage Money Masters Limited, Claudette Crooks, told the Business Observer that her firm had anticipated that the BOJ would supply currency to the market or offer some instruments to the market to mop up liquidity as opposed to the "drastic" interest rate increase, which she believes will have an adverse impact on the country's overall debt stock, which is now close to a trillion dollars.

"Where we sit, we had anticipated that the central bank had to do something because of the level of pressure that we had seen on the currency," said Crooks. "What was more expected was a new instrument - another CD possibly - in the market or selling currencies to the market rather than this move which will have an impact on the cost of the overall debt, which is quite large."

Charles Ross, managing director of Sterling Asset Management, expressed similar concerns as Crooks', noting that the hike will be detrimental to the fiscal accounts and will contribute towards an unhealthy growth environment.

"It's going to have a major negative impact on the budget and the fiscal deficit, and it is also going to make it alot more difficult to acheive growth," argued Ross. "We need to come out of this interest rate conundrum where we create a lot of money, put pressure on the exchange rate and then we jack up interest rates and hope that it will solve the problem."

Owens and Crooks believe that the pressure on the exchange rate has arisen out of many Jamaicans converting to US dollars, with Crooks suggesting that this may be as a result of the increasingly popular alternative investment schemes.

"There is something happening and I really can't put my finger on it, but I feel like alot of people are converting to US dollars," noted Owens.

"Is it that persons are converting to go into the alternative schemes?" asked Crooks. "I think part of the conversion is accounted for by this move by investors and it really needs to be sorted out one way or the other where some structure is brought to the entire unregulated market.
"Fashion a regulatory environment that is inclusive but at the same time have a limit that will enable both the traditional and alternative schemes to co-exist in a relatively stable financial environment," added Crooks.
However, in analysing the central bank's move, Rex Shettlewood, research manager at Mayberry Investments Limited, noted that the decision by the BOJ is on the back of concerns over the declining Net International Reserves (NIR). The NIR, he said, at the end of December 2007, stood at approximately US$1.81 billion - sufficient to cover just over 12 weeks of reserves in goods and services imports; he noted that the move was needed to prevent any further decline.

"This threshold is nervously flirting with the international standard of 12 weeks, and there is a cause of concern regarding our ability to sustain internationally accepted levels in light of the need to retain robust reserves to defend the currency," highlighted Shettlewood. "Additionally, any worsening in the NIR may have implications on the island's economic outlook and credit worthiness by international players."

Shettlewood, in breaking down the effect that the upward movement in interest rates will have on the market, is of the view that the local currency will not experience devaluation in the short term, particularly due to the pending inflow of US dollars from the Lascelles deMercado/ Angostura transaction.

Trinidadian spirits conglomerate Angostura is looking to acquire Lascelles deMercado and bring the Appleton Rum brand under its stable of spirits. The deal is placed at around US$10 a share, bringing the whole package to around US$900 million.

"The real test however, comes following the release and conversion of the Lascelles funds in the marketplace and how the market reacts at that time," said Shettlewood. "Therefore, it is our view that the current policy action should, given the current market conditions discussed, prevent a further devaluation of the local currency in the short term, but as the liquidity filters out of the system investors will have to evaluate how the stabilisation will be maintained."
Projections on the future movements of interest rates were mixed.

Sterling Asset's Ross said that based on what has traditionally happened, interest rates are likely to move up in the short term.

"If the past is anything to go by we can expect further moves in the next coming months," disclosed Ross. "I dont think any of us would like to see that, but certainly that is what has happened in the past - especially after an election year."

Crooks, who noted that the movements "will really be driven" by what happens on the foreign currency market, expects the rates to float around these levels for a while.

"I can't see us going back to a high interest rate environment at all," said Crooks. "We have been there and done that, I don't think it achieved a whole lot so I would really expect interest rates to more or less hold at these kind of levels, bearing in mind the time of year and the normal market behaviour that we tend to have at this time."

Shettlewood disclosed to this newspaper that a cursory survey of the markets revealed that investors were remaining cautious, opting to place funds short in order to await new market issues. He said that in the event the dollar continues to devalue, we may see further increases in interest rates going forward, but however noted that many investors were now looking to Jamaican dollar portfolios.

"Presently, investors are likely to convert portfolios to Jamaican dollars as the interest rate differential widens when compared to that offered on US denominated instruments, assuming inflation is contained," he said.

Chasing the dream to become a rising star

2008 Dancers Boom a roller coaster ride

Costing that click…