Financial Instruments

Financial Instruments: Your Investment Options Explained

Overview

Financial instruments are the actual investments your pooled funds purchase. Each type has unique characteristics, risk profiles, and return structures. Understanding these differences helps you make informed investment decisions.

Treasury Bills (T-Bills)

What Are Treasury Bills?

Treasury Bills are short-term government debt securities that mature in one year or less. They're sold at a discount from face value and pay no interest - your return comes from the difference between purchase price and face value.

T-Bill Structure:
├── Issuer: Government (Federal/State)
├── Duration: 91, 182, or 364 days
├── Purchase: Below face value (discount)
├── Payment: Face value
├── Payment: Face value at maturity 
├── Interest: None (discount = return) 
└── Risk: Lowest (sovereign backed)

Real Example: Face Value: ₦1,000,000 Discount Rate: 18% Purchase Price: ₦820,000 Your Return: ₦180,000 (21.95% actual)

 How T-Bills Work

Timeline of a 91-Day Nigerian T-Bill:

Day 0: Auction Announcement

├── CBN announces ₦200B auction

├── 91-day bills at estimated 17-18%

├── Settlement T+1

└── Competitive bidding

Day 1: Bidding

├── Primary dealers submit bids

├── Range: 17.0% - 18.5%

├── Total bids: ₦450B (oversubscribed)

└── Clearing rate: 17.65%

Day 2: Allotment

├── Successful bids allocated

├── Payment due same day

├── Securities credited

└── Trading begins

Day 3-90: Holding Period

├── No payments received

├── Value accretes daily

├── Can sell in secondary market

└── Price rises toward face value

Day 91: Maturity

├── Automatic redemption

├── Face value paid

├── No action needed

└── Funds available


T-Bill Mathematics

Key Formulas:

Discount Rate to Price: Price = Face Value × (1 - (Discount Rate × Days/365))

Example: ₦1,000,000 × (1 - (0.18 × 91/365)) = ₦1,000,000 × (1 - 0.0449) = ₦1,000,000 × 0.9551 = ₦955,100

True Yield Calculation: True Yield = (Face Value - Price) / Price × 365/Days

Example: (₦1,000,000 - ₦955,100) / ₦955,100 × 365/91 = ₦44,900 / ₦955,100 × 4.01 = 0.047 × 4.01 = 18.85% (annualized)


Global T-Bill Comparison
Country
90-Day Rate
Currency
Minimum
Tax

Nigeria

17-19%

NGN

₦1M

10% WHT

USA

5.25%

USD

$100

Varies

UK

5.00%

GBP

£1,000

Income tax

Kenya

15.8%

KES

KES 100k

15% WHT

South Africa

8.25%

ZAR

R1,000

Varies

Ghana

29.5%

GHS

GHS 1,000

Exempt

Why Invest in T-Bills?

Advantages:

  • Safety: Government guarantee

  • Liquidity: Active secondary market

  • Predictable: Fixed return known upfront

  • Tax Efficient: Often favorable treatment

  • No Defaults: Governments can print money

Disadvantages:

  • Lower Returns: Safety costs yield

  • Inflation Risk: May not beat inflation

  • Interest Rate Risk: Value drops if rates rise

  • Opportunity Cost: Stocks might do better

  • Currency Risk: For foreign T-bills

Government Bonds

Understanding Bonds

Bonds are longer-term government debt that pay regular interest (coupons) and return principal at maturity. Unlike T-bills, bonds provide income during the investment period.

Bond Structure:

├── Issuer: Federal/State Government

├── Duration: 2-30 years typically

├── Face Value: Par amount (e.g., ₦1,000)

├── Coupon: Fixed % paid periodically

├── Frequency: Quarterly/Semi-annual

└── Risk: Low (government backed)

Anatomy of a Bond

Example: FGN 16.2884% MAR 2027

Breakdown:

├── Issuer: Federal Government of Nigeria

├── Coupon Rate: 16.2884% per annum

├── Maturity: March 2027

├── Payment: Quarterly (4.0721% each)

├── ISIN: NGFGB2027S01

└── Minimum: ₦50 million (wholesale)

Cash Flows (₦100M investment):

├── Mar 2024: ₦4,072,100

├── Jun 2024: ₦4,072,100

├── Sep 2024: ₦4,072,100

├── Dec 2024: ₦4,072,100

├── ... continues quarterly ...

├── Mar 2027: ₦104,072,100 (principal + final coupon)

└── Total Received: ₦148,865,650


Bond Pricing Dynamics

What Affects Bond Prices:

  1. Interest Rate Changes ├── Rates ↑ = Bond prices ↓ ├── Rates ↓ = Bond prices ↑ └── Inverse relationship always

  2. Time to Maturity ├── Longer = More volatile ├── Shorter = More stable └── Converges to par at maturity

  3. Credit Quality ├── Rating downgrade = Price ↓ ├── Rating upgrade = Price ↑ └── Default risk premium

Example Rate Impact: Current bond: 16% coupon, ₦100 price Market rates rise to 18% New price ≈ ₦94 (6% loss) But you still get 16% if held to maturity!

 Types of Government Bonds

  1. Fixed Rate Bonds ├── Constant coupon rate ├── Predictable income ├── Interest rate risk └── Most common type

  2. Floating Rate Notes (FRN) ├── Variable coupon ├── Tied to benchmark ├── Less rate risk └── Income varies

  3. Inflation-Linked Bonds ├── Principal adjusts with CPI ├── Real return protected ├── Lower nominal yield └── Hedge against inflation

  4. Sukuk (Islamic Bonds) ├── Sharia compliant ├── Asset-backed ├── Profit sharing not interest └── Growing market


### Bond Investment Strategies

  1. Buy and Hold ├── Purchase at issue ├── Collect all coupons ├── Receive principal ├── Ignore price swings └── Best for: Income seekers

  2. Trading Strategy ├── Buy when rates peak ├── Sell when rates fall ├── Capture price gains ├── Plus coupon income └── Best for: Active investors

  3. Ladder Strategy ├── Multiple maturities ├── Reinvest as mature ├── Smooth income flow ├── Reduce rate risk └── Best for: Conservative

Example Ladder: Year 1: ₦10M in 2-year bonds Year 2: ₦10M in 2-year bonds Year 3: ₦10M in 2-year bonds Result: ₦10M maturing annually


## Commercial Papers

### What Are Commercial Papers?

Commercial papers are short-term debt instruments issued by corporations to meet working capital needs. They're like T-bills but from companies instead of governments.

Commercial Paper Basics: ├── Issuer: Large corporations ├── Duration: 30-270 days ├── Structure: Discount (like T-bills) ├── Purpose: Working capital ├── Risk: Low-Medium (depends on issuer) └── Returns: Higher than T-bills


### Corporate Credit Ratings

Rating Scale (S&P/Fitch):

Investment Grade: ├── AAA: Highest quality (rare) ├── AA+/AA/AA-: Very strong ├── A+/A/A-: Strong ├── BBB+/BBB/BBB-: Adequate └── Minimum for most investors

Speculative Grade: ├── BB+/BB/BB-: Speculative ├── B+/B/B-: Highly speculative ├── CCC+/CCC/CCC-: Substantial risk ├── CC/C: Extremely speculative └── D: Default

Nigerian Examples: ├── Dangote Cement: A+ ├── MTN Nigeria: A ├── Zenith Bank: A- ├── GT Bank: A- └── Airtel: BBB+


### Commercial Paper Analysis

Due Diligence Checklist:

  1. Issuer Strength ├── Revenue: ₦500B+ ├── Profit margin: 15%+ ├── Debt/Equity: <1.0 ├── Interest coverage: >3x └── Cash flow: Positive

  2. Industry Position ├── Market share: Top 3 ├── Competitive moat: Yes ├── Growth prospects: Stable ├── Regulatory risk: Low └── ESG factors: Good

  3. Paper Terms ├── Clean structure ├── No hidden terms ├── Clear use of funds ├── Reasonable yield └── Standard documentation


### Real Commercial Paper Examples

Example 1: MTN Nigeria 180-day CP

Details: ├── Issuer: MTN Nigeria ├── Amount: ₦50 billion ├── Tenor: 180 days ├── Discount rate: 20% ├── Rating: A (Agusto) └── Use: Network expansion

Why Attractive: ├── Telecom essential service ├── 75M+ subscribers ├── Strong cash generation ├── Dollar revenue hedge └── Track record: Never missed

Example 2: Dangote Sugar 90-day CP

Details: ├── Issuer: Dangote Sugar ├── Amount: ₦20 billion ├── Tenor: 90 days ├── Discount rate: 19% ├── Rating: A- (GCR) └── Use: Raw material import

Considerations: ├── FX exposure risk ├── Commodity price volatility ├── But: Market leader ├── Government protection └── Acceptable risk/return


## Corporate Bonds

### Long-Term Corporate Debt

Corporate bonds are similar to government bonds but issued by companies. They typically offer higher yields to compensate for additional risk.

Corporate Bond Features: ├── Tenure: 3-15 years typical ├── Coupon: Fixed or floating ├── Security: Secured/Unsecured ├── Covenants: Protective terms ├── Call options: Sometimes └── Risk: Medium (varies by issuer)


### Bond Covenants and Security

Common Protective Covenants:

  1. Financial Covenants ├── Debt/EBITDA < 3.5x ├── Interest coverage > 2.5x ├── Current ratio > 1.2 ├── No dividend if breach └── Quarterly reporting

  2. Negative Covenants ├── No additional debt ├── No asset sales ├── No change of control ├── No new guarantees └── Protect bondholders

  3. Security Structure ├── First charge on assets ├── Guarantee from parent ├── Escrow accounts ├── Insurance policies └── Recovery value

Example: Access Bank Bond ├── ₦50B subordinated debt ├── 16.5% coupon ├── 7-year tenor ├── Tier 2 capital ├── Call option year 5 └── Basel III compliant


### Sector Analysis

Sector Risk/Return Profiles:

Banking Sector: ├── Yields: 15-17% ├── Risk: Moderate ├── Factors: NPLs, Capital adequacy ├── Best picks: Tier 1 banks └── Avoid: Weak capital banks

Oil & Gas: ├── Yields: 18-22% ├── Risk: High ├── Factors: Oil price, FX ├── Best picks: Integrated majors └── Avoid: Pure upstream

Consumer Goods: ├── Yields: 16-19% ├── Risk: Moderate ├── Factors: Purchasing power ├── Best picks: Market leaders └── Avoid: Single product

Telecoms: ├── Yields: 15-18% ├── Risk: Low-Moderate ├── Factors: Regulation, Capex ├── Best picks: Market leaders └── Avoid: New entrants

Infrastructure: ├── Yields: 17-20% ├── Risk: Moderate ├── Factors: Government payment ├── Best picks: Essential services └── Avoid: Greenfield projects


## Structured Products

### Beyond Plain Vanilla

Some pools may invest in structured products that combine features of different instruments.

Types of Structured Products:

  1. Convertible Bonds ├── Bond + Equity option ├── Lower coupon ├── Upside potential ├── Downside protection └── Complex pricing

  2. Asset-Backed Securities ├── Backed by receivables ├── Monthly payments ├── Credit enhancement ├── Prepayment risk └── Higher complexity

  3. Hybrid Instruments ├── Debt/Equity features ├── Contingent conversion ├── Step-up coupons ├── Perpetual options └── Regulatory capital


## Comparing Instruments

### Risk-Return Matrix

                Low Risk              Medium Risk           High Risk
                ─────────────────────────────────────────────────────►

High Return │ │ Corporate Bonds │ High-Yield Bonds ▲ │ │ (AA-BBB) │ Structured Products │ │ T-Bills (Emerging) │ Commercial Paper │ │ │ │ (A-rated) │ │ ├──────────────────────┼───────────────────┤ │ │ Government Bonds │ Commercial Paper │ Convertibles │ │ (Emerging Markets) │ (BBB-rated) │ │ │ │ │ │ ├──────────────────────┼───────────────────┤ Low Return │ T-Bills (Developed) │ Corporate Bonds │ Distressed Debt │ Gov Bonds (Developed)│ (BB-rated) │ └──────────────────────┴───────────────────┘


### Duration and Liquidity

Instrument Duration Liquidity Min Investment ───────────────────────────────────────────────────────────── T-Bills 30-364 days Very High Low Government Bonds 2-30 years High Medium Commercial Paper 30-270 days Medium High Corporate Bonds 3-15 years Medium High Structured Varies Low Very High


### Tax Treatment Comparison

Tax Implications by Instrument:

Nigerian Residents: ├── T-Bills: 10% withholding tax ├── Bonds: 10% withholding tax ├── Commercial Paper: 10% WHT ├── Corporate bonds: 10% WHT └── Structured: Varies

Non-Residents: ├── T-Bills: May be exempt ├── Bonds: Treaty rates ├── Commercial Paper: Treaty ├── Corporate bonds: Treaty └── Check tax treaty!

Strategy: ├── Consider after-tax yield ├── Treaty benefits ├── Timing of income ├── Character of income └── Get tax advice!


## Instrument Selection Guide

### For Conservative Investors

Recommended Portfolio: ├── 60% T-Bills (various maturities) ├── 30% Government bonds (<5 years) ├── 10% A-rated commercial paper └── 0% High-yield/Structured

Expected Returns: 15-17% Risk Level: Low Liquidity: High


### For Moderate Investors

Recommended Portfolio: ├── 30% T-Bills ├── 40% Government/Corporate bonds ├── 20% Commercial paper (A/BBB) ├── 10% Structured products └── Diversified across issuers

Expected Returns: 17-20% Risk Level: Medium Liquidity: Medium


### For Aggressive Investors

Recommended Portfolio: ├── 10% T-Bills (liquidity) ├── 30% Corporate bonds (BBB) ├── 30% High-yield bonds ├── 20% Commercial paper (BB) ├── 10% Structured/Convertibles └── Active management needed

Expected Returns: 20-25% Risk Level: High Liquidity: Low-Medium


## Market Dynamics

### Interest Rate Environment

How Rates Affect Each Instrument:

Rising Rate Environment: ├── T-Bills: Benefit (roll to higher) ├── Long Bonds: Suffer (price drops) ├── Short Bonds: Moderate impact ├── Commercial Paper: Benefit └── Floating Rate: Benefit

Falling Rate Environment: ├── T-Bills: Suffer (roll to lower) ├── Long Bonds: Benefit (price gains) ├── Short Bonds: Small benefit ├── Commercial Paper: Suffer └── Floating Rate: Suffer

Current Strategy (High Rates): ├── Overweight T-Bills ├── Short duration bonds ├── Lock in long rates ├── Avoid floating rate └── Prepare for reversal


### Credit Cycles

Economic Cycle Impact:

Expansion Phase: ├── Credit spreads tight ├── Defaults low ├── Good for corporate debt ├── Take more risk └── Lock in funding

Peak/Late Cycle: ├── Spreads widening ├── Quality matters ├── Reduce corporate exposure ├── Increase government └── Shorten duration

Recession: ├── Spreads wide ├── Defaults spike ├── Flight to quality ├── T-Bills outperform └── Avoid weak credits

Recovery: ├── Best opportunities ├── Spreads compress ├── Credit healing ├── Increase corporate └── Extend duration


## Future Instruments

### Coming to Piron

Roadmap for New Instruments:

Phase 1 (Current): ├── T-Bills ✓ ├── Government Bonds ✓ ├── Commercial Paper ✓ └── Investment Grade Corporate ✓

Phase 2 (Q2 2025): ├── Eurobonds ├── Diaspora Bonds ├── Green Bonds └── Infrastructure Bonds

Phase 3 (Q3 2025): ├── Revenue Bonds ├── Municipal Bonds ├── Project Bonds └── Sukuks

Phase 4 (2026): ├── Trade Finance ├── Invoice Discounting ├── Supply Chain Finance └── Receivables


## Key Takeaways

### Investment Principles

1. **Match Duration to Needs**: Don't invest long-term money in short instruments
2. **Diversify Wisely**: Spread across instruments, issuers, and maturities
3. **Understand the Risks**: Each instrument has unique risk factors
4. **Consider Total Return**: Coupon + price appreciation + tax
5. **Stay Informed**: Markets change, adjust accordingly

### Red Flags to Avoid

- Yields too good to be true
- Unrated instruments
- Complex structures you don't understand
- Concentrated exposure
- Mismatched currencies
- Unclear documentation
- No secondary market

### Best Practices

1. Start with government securities
2. Build knowledge gradually
3. Diversify across types
4. Monitor your portfolio
5. Rebalance periodically
6. Keep some liquidity
7. Think after-tax returns
8. Use pools for access

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*Remember: Higher returns always mean higher risk. There's no free lunch in finance. Choose instruments that match your risk tolerance and investment timeline.*# Financial Instruments: Your Investment Options Explained

T-Bill Structure: ├── Issuer: Government (Federal/State) ├── Duration: 91, 182, or 364 days ├── Purchase: Below face value (discount) ├── Payment: Face value at maturity ├── Interest: None (discount = return) └── Risk: Lowest (sovereign backed)

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