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Market remains choppy, budget opposition and FATF meeting may keep investors nervy

The market performance during the week ended 21st June 2019 remained choppy and the benchmark KSE-100 Index of Pakistan Stock Exchange (PSX) closed at 35,125 points, down 1.26%WoW. The week opened on a weak note, as rupee continued to depreciate. Governor, State Bank of Pakistan, Reza Baqir, held a press briefing on Monday to guide on economic outlook particularly about 1) adoption of market determined exchange rate regime and 2) continued monetary tightening. Proposals regarding power and gas tariffs hike also surfaced during the week, furthering market fears of continued pressure on macro indicators.

The news flow during the week revolved mostly around debate on budget for FY20 and economic data including: 1) Senate Committee’s rejecting of Finance Bill and proposing exchange rate at Rs150 to US$ and interest rate at 12% respectively, 2) CAD narrowing by 29.3% during 11MFY19 to US$12.6 billion, 3) remittances jumping 10% during 11MFY19 to US$20 billion, 4) launching of Rs200 billion Pakistan Energy Sukuk-II by end June this year, 5) foreign exchange reserves held by the central bank falling by US$203 million to US$7.60 billion, with total reserves hovering at US$14.63 billion.

Top performers during the week included HUBC, ASTL, EFOODS, POL and OGDC, while HASCOL, NCL, KAPCO and FFBL remained the laggards. Average daily turnover declined by 8.5%WoW to 124.8 million shares, where volume leaders included MLCF, WTL, SMBL, TRG and KEL.

Pakistan succeeding to avoid blacklisting from the ongoing FATF’s plenary session could extend the ongoing rally, witnessed in the last two trading sessions. PTI government with the wafer-thin majority could face challenging situation in getting budget approved particularly when opposition is making tough calls, keeping investors jittery and limiting their participation.

In the backdrop of heightening geopolitical tensions and increasing polarization on the global stage, we highlight the relatively conclusive note for the process initiated by the FATF. There was firm diplomatic commitment from member nations Malaysia, China and Turkey. The ongoing efforts by the GoP have been more proactive in addressing deficiencies. While fundamentals are expected to set in, sooner than later, a positive statement on Pakistan’s efforts for meeting FATF guidelines, would reduce ‘systematic risk’ to the market.

The second tranche of Rs200 billion Sukuk is likely to be released shortly to partly resolve circular debt issue in Pakistan.

The government released its first installment of Rs200 billion in March 2019 out of an aggregate circular debt amount of Rs850 billion, power sector related payables now touch Rs1.3 trillion. In the first tranche, the amount of Rs60 billion was paid to Pakistan State Oil (PSO) through Hub Power Company (HUBC) and Kot Addu Power Company (KACPO) and other Generation Companies (GENCOs). Overall Independent Power Producers (IPPs) received 23% of their total overdue receivables.

 

Meezan Bank is likely to invest Rs70 billion at a markup of KIBOR+0.8% in energy Sukuk. This will have a positive impact of 2-3% on MEBL’s earnings. This quantum of amount also correlates to the first tranche where it led the consortium with an investment of Rs88 billion. Analysts believe a similar formula would be applied where up to Rs60 billion will be paid to respective listed IPPs out of Rs200bn tranche.

Pakistan State Oil (PSO) is expected to be paid indirectly through KAPCO, HUBCO and GENCOs which can potentially 1) unfold company’s dividend potential, 2) reduce its short term finances and 3) use it to finance its working capital. The third tranche of Sukuk payment, up to Rs270 billion is also under consideration by the Government of Pakistan to further reduce the circular debt amount.

After witnessing a decline in price of more than Rs100/bag, cement prices in local market have shown some improvement, rising up to Rs540/bag in North. The increase comes after Federal Excise Duty (FED) has been proposed to increase to Rs100/bag from Rs75/bag in Budget2019-20 while axle load was also changed, increasing the transportation costs for the local players. Reliable sources indicate a further increase in price up to Rs30/bag is on the cards. However, analysts expect the prices to come under pressure as economic conditions weigh heavily on the local demand while expected commencement of additional capacity by PIOC/ LUCK in 1QFY20/2QFY20 will further worsen the supply glut. While reduction in coal prices have provided a much needed sigh of relief to the manufacturers, down by 35% to US$62/ton, from US$96/ton in December 201818. Ongoing trade tensions between USA and China have had a major part to play in this dramatic decline as global growth outlook remains cloudy with significant downside risks looming on horizon.

Moreover, pressure was fueled by China as it looked inwards to fund its coal requirements while global oversupply issues further accelerated the decline. Moving forward, though pressure on coal prices is expected to continue, analysts expect some recovery during 2HFY20 as China will look to speed up the capacity cuts while other global players also adjust supply sides. The aforementioned developments do not provide much excitement compared to the base case due to contrasting implications for local players where increase in prices offsets the increase in costs only. Basing the expectations for full FY20 on current conditions, increases the EBITDA margins to 27%, from 24%.

The two likely largest beneficiaries will be LUCK and DGKC, the companies with the highest portion of exports in their sales mix, 27% and 18% for LUCK and DGKC, respectively.

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