Liquidity-Driven Rate Compression Persists as Government Front-Loads Borrowing

Executive Summary

Kenya’s fixed income market continues to operate in a high-liquidity environment, supporting aggressive demand for government securities and further compression in short-term yields.

T-Bills were heavily oversubscribed for the second consecutive week, with subscription rising sharply to 267.8%, driven primarily by strong demand for the 91-day and 364-day papers. Yields declined across the curve, reflecting sustained liquidity and limited near-term fiscal pressure.

Meanwhile:

• The government is significantly ahead of its domestic borrowing target.
• Eurobond yields remain broadly stable, signaling improved external confidence.
• The shilling remains anchored around Kshs 129.0.
• Forex reserves remain comfortably above statutory thresholds.
• PMI data signals moderating but continued economic expansion.

The dominant theme remains liquidity-led rate compression, with domestic funding pressures easing materially.

1. Treasury Bills Market – Liquidity Dominates

T-Bills recorded strong oversubscription at 267.8%, up from 196.7% the previous week.

Key Observations:

• 91-day paper: 323.9% subscription
• 364-day paper: 508.3% subscription
• 182-day paper: Weak demand at 5.0% subscription

Yields continued to trend downward:

• 91-day: 7.6%
• 182-day: 7.8%
• 364-day: 9.2%

The government accepted Kshs 50.0 bn of Kshs 64.3 bn bids (77.8% acceptance), demonstrating selective allocation discipline.

Strategic Interpretation

The persistent demand reflects:

• Elevated system liquidity
• Reduced short-term funding stress
• Commercial banks reallocating excess cash
• Limited alternative short-term investment options

Most importantly, the government is 95.8% ahead of its prorated domestic borrowing target, having already net borrowed Kshs 761.2 bn.

This materially reduces near-term issuance pressure.

2. Borrowing Position – Fiscal Cushion Strengthens

The government has effectively front-loaded borrowing in FY’2025/26:

• Total net domestic borrowing: Kshs 761.2 bn
• Target (prorated): Kshs 388.9 bn
• Surplus position: Substantial

This creates:

• Lower refinancing risk in the near term
• Reduced upward pressure on yields
• Increased flexibility in managing future auctions

However, sustainability will depend on revenue performance and fiscal consolidation progress.

3. Liquidity Conditions – Stable but Slight Tightening

Liquidity tightened marginally:

• Interbank rate: ~9.0%
• Interbank volumes declined 46.5% to Kshs 6.7 bn

Despite minor tightening from tax remittances, system liquidity remains ample.

This liquidity backdrop explains continued downward pressure on short-term rates.

4. Eurobond Market – External Confidence Holds

Eurobond yields recorded mixed performance:

• 7-year (2024): down to 6.7%
• 12-year (2019): down to 7.0%
• 10-year (2018): slight uptick to 6.1%

Overall trend remains stable to mildly positive.

The external position remains supported by:

• Forex reserves at USD 12.4 bn
• 5.3 months import cover
• Stable exchange rate

This reinforces Moody’s recent rating upgrade and supports Kenya’s improved sovereign perception.

5. Currency Stability – Anchored at Kshs 129

The shilling appreciated marginally to Kshs 129.0.

YTD movement remains minimal, signaling:

• Reduced FX volatility
• Improved reserve coverage
• Lower imported inflation risk

Stable currency conditions continue to anchor inflation expectations.

6. Macro Signal – PMI Moderates but Expands

Stanbic PMI eased to 51.9 from 53.7 in December.

While still above the 50.0 expansion threshold for the fifth consecutive month, growth momentum is moderating.

Key themes:

• Output and tourism remain strong
• Manufacturing resilient
• Cost pressures rising (tax & input costs)

The macro picture supports moderate but stable growth heading into 2026.

Market Outlook & Strategic View

Short-Term Rates

Downward pressure likely to persist given:

• Front-loaded borrowing
• High liquidity
• Stable inflation

Unless liquidity tightens sharply, yields may remain anchored.

Medium to Long-Term Bonds

Secondary bond curve remains upward sloping.

Long-term investors continue demanding higher compensation for:

• Debt sustainability risk
• Fiscal deficit pressures
• Structural revenue challenges

However, reduced near-term default risk supports medium-term confidence.

External Position

Eurobond stabilization and rating affirmations signal:

• Improved investor sentiment
• Reduced refinancing risk
• More sustainable external liquidity

Investment Implications

✔ Favor short-duration instruments in the near term for capital preservation.
✔ Monitor long-end yields for tactical entry opportunities.
✔ Watch fiscal revenue performance for sustainability signals.
✔ Remain attentive to global rate spillovers and liquidity shifts.

Conclusion

Kenya’s fixed income market remains liquidity-driven, with strong demand compressing yields across short-term instruments.

The government’s proactive front-loading of borrowing has significantly reduced immediate fiscal stress, allowing rates to remain stable despite macro uncertainties.

However, longer-term fiscal sustainability and revenue execution remain the critical variables for 2026.

The current environment favors stability — but vigilance remains essential.