Choppiness prevails; investors may turn cautious
Week ended on May 20, 2022 started on a bad note with the benchmark index declining by 1.9% on the first trading day as lack of economic direction weighed heavily. Even though the market recovered in later trading sessions, but overall performance remained choppy, lacking clear direction throughout the week. Finally, the market closed the week at 43,101 points, down 0.89%WoW. Average daily trading volume also slipped to 220.8 million shares, from 274.04 million for the earlier week. Overall, political uncertainty and indecisiveness over prerequisites for IMF program resumption put Pakistan’s economic situation into a tailspin leading investors towards risk-averse behavior.
Other important news flows during the week included: 1) Remittances growing strongly by 11.2% to US$3.12 billion in April 2022 as compared to US$2.81 billion for March this year, 2) Large-scale manufacturing (LSM) industries recording 10.4%YoY growth during first nine months of the ongoing fiscal year, 3) Pakistan and the United States resuming their efforts to rebuild bilateral ties with a series of meetings between their foreign policy chiefs in New York, 4) Pakistan and the International Monetary Fund (IMF) commencing review talks in Doha on Wednesday in a renewed effort to strike a staff-level agreement, and 5) Government imposing a ban on the import of 38 non-essential/luxury items.
Sector wise, fertilizer sector was among the sectors posting a positive performance as investors moved to high dividend yield stocks. Engineering sector posted a positive performance with an increase of 2.4%WoW. A against this, Cement sector was amongst the worst performers with a decline of 3.1% for the week as coal prices continued the upward trend.
Flow wise, major net selling was recorded by Mutual Funds (US$7.28 million), and foreigners also remained net sellers with US$6.08 million). Banks absorbed most of the selling with net buy of US$11.5 million.
Top performers include: POML, EPCL, HGFA, ASL and PSMC, while top laggards were: SML, TGL, CHCC, ILP and GATM.
Market is likely to remain choppy going forward as a host of economic challenges weigh in on the investor sentiments. Some respite may be provided if the fuel prices are unfrozen in the country, which will help the government in its parleys with IMF. However, the downside of the same will be spiraling inflation, which will likely cross the 15% in the coming months. Analysts advise the investors to remain cautious.
State Bank of Pakistan announced its half-yearly schedule of Monetary Policy Committee (MPC) meetings where the next meeting is scheduled on May 23, 2022. Analysts expect the central bank to increase the benchmark interest rates by another 150bps to 13.75%, the highest it has been in over a decade. Owing to the current commodity super cycle and questionable resource management, the country is experiencing soaring trade deficit which is depleting the import cover and thus putting pressure on currency. Unless the currency finds its equilibrium position, we may see the interest rates rising even further in the future.
The secondary market yield curve is currently in inverted shape with short term yields (6-month) hovering at 14.9%, while the long term yields (on 10-year papers) currently hovering around 12.9%. The yields also reflect street’s consensus of yet more rate hikes in the short term as commercial banks take full advantage of complete stop to budgetary borrowings from the central bank.
GoP is faced with a dilemma of unwinding the subsidy program on fuel consumption, which will entail significant political cost, and stopping the cash hemorrhage which is arising as a result of the subsidy program. At the same time, the pressure is also building to secure the IMF funding which will give some stability to PKR amid rapid reserve depletion. Given the political costs associated with the decision, the current setup is dithering over rolling back the subsidy program. This indecisiveness is putting huge strain on fiscal space which cannot be sustained much longer.
Analysts believe that the country will have to increase fuel prices to curtail the arbitrage for outward smuggling which is creating a vicious cycle of increasing borrowing needs and thus increasing borrowing costs.
Lately, the federal government announced of banning import of various luxury items such as mobile phones, cars, home appliances and various other food and daily use items, in order to contain the import bill. However, no decision has yet been taken to roll back subsidy program on the consumption of fuel.
As per AKD Securities, only about 4 to 5% of import bill (based on FY21 trade numbers) will be affected by these duties and the underlying issues in the economy that result in recur-ring external account imbalances remain completely unaddressed. A low hanging fruit that can be easily harvested is rolling back the unfunded subsidy program that may also help smooth the negotiation process with the IMF. However, the GoP has so far remained indecisive regarding the subject matter. Depleting FX reserves have put a severe downward pressure on the currency which has crossed PKR200/US$, depreciating by 9% since the new government took charge.
Currently the country has import cover of less than two months while significant external debt maturities appear on the horizon. Current political setup’s inability to raise fresh capital and/or roll over the maturing debt has compounded the situation even further. On the positive side, monthly Current Account numbers for April 2022 showed a robust improvement from US$1.02 billion during March 2022 to US$623 million in April 2022. The improvement comes about on the back of a seasonal surge in remittances which were reported at an all time high level of US$3.1 billion (up 11.2%MoM).
Market is expected to remain choppy, especially in the wake of rapid currency depreciation and as the talks with IMF linger on. Apart from the macro risks, the investors should also closely track developments on the political front. The valuations are likely to squeeze further as SBP is expected to raise interest rates by up to 150bps in the coming Monetary Policy announcement. Investors are advised to remain cash rich and build positions once the interest rate hike and decision regarding subsidy reversal are made.