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Index scores strong recovery; corporate results support but geopolitical tense weigh

After recording heavy losses in the earlier week due to heightened tensions on geopolitical front, Pakistan Stock Exchange (PSX) posted a strong recovery during the week ended 23rd August 2019 as tensions eased slightly eased. The rebound can be termed a dead cat bounce after the market posted a decline of 46% from its peak of 53,000. The benchmark index closed the week at 31,350 points, up 9.0%WoW. With the strong rally, activity in the market the average traded volume also rose to 174.42 million shares. Foreigners remained net sellers during the week with outflow recorded at USD4.96 million.

Key news flow during the week included: 1) The Government of Pakistan (GoP) appointing Aamir Khan, Chairman of Securities & Exchange Commission of Pakistan (SECP), 2) US President, Donald Trump initiating telephonic diplomacy between Pakistan and India to lower the tension in the region as he spoke to Pakistani Prime Minister Imran Khan and India’s Narendra Modi, 3) Prime Minister Imran Khan approving an extension in the tenure of Chief of Army Staff, General Qamar Javed Bajwa for three years, 4) current account deficit (CAD) shrinking by a massive 73% in the first month of this fiscal year to US$579 million in July, as compared to US$2.13 billion in same period of 2018-19, and 5) Government’s Pakistan Investment Bonds (PIBs) auction witnessing record participation with total bids crossing one trillion rupees mark.

Volume leaders during the week were: TRG, MLCF, BOP, UNITY and WTL. Stocks leading the performance board during the week included: PIOC, ASTL, GWLC, FCCL and NML.

Analysts expect the investors to focus on the inflation reading as the market approaches end of the month. The corporates scheduled to announce results next week include NBP, FCCL, INDU and FATIMA. However, geopolitical situation still remains a risk and any escalation can weigh significantly on the market. Also, market can be expected to continue the rally witnessed in first four days albeit at a relatively muted pace after taking a breather on Friday.

The Government of Pakistan (GoP) conducted second Pakistan Investment Bonds (PIBs) auction after signing the IMF program. The GoP borrowed Rs415 billion, Rs55 billion and Rs25 billion through 3, 5 and 10 year bonds at cut-off rates of 14.25%, 13.55%, and 13.15% respectively. The cut-off rate remained unchanged for 3 year bond. However, for 5 and 10 year bond yield curve was further inverted by 25bps and 40bps, respectively.

Out of total participation of around one trillion rupees, the GoP fetched Rs495 billion (50% of the bid amount) in fixed rate PIBs against 29% of the bid amount in previous auction. In 10-Year floater PIBs bond, the GoP raised Rs41.5 billion out of total participation of Rs47.5 billion at 75bps above the benchmark rate. Spread over benchmark rate remained unchanged for floater bond.

Cumulatively the GoP raised Rs821.5 billion in last two auction after signing IMF program. Yesterday’s auction was amongst the largest auctions conducted during the IMF program.

Above average participation hints that investors want to lock in their funds at current yields as they believe rates may come down due to falling inflation and lower GoP appetite. The substantial participation and rates were in line with market expectations. Historically, auctions of similar sizes were also conducted by PML-N government during 1H2014 to meet the IMF requirement of shifting borrowings from the central bank to the commercial banks or other investors. Analysts believe the auction was in line with the IMF criteria of extending maturity profile of government loans.

 

Following the results of the latest PIB auction, witnessing decline in cut-off yields, analysts anticipate the central bank to ease policy rate. Any decline would bode well for equity market. Analysts highlight major characteristics of Pakistan’s financial markets (thinly traded debt market limits predictive power of yields) that negate many of the widely held international trends based on this phenomenon (harbinger of recession). Flagging inflation reads for 3QCY19 (and any additional revenue measures adopted along the way) to crystallize the rate cut forecast.

For Banks, longer tenor bonds, despite relatively stuffed spreads still offers appeal given with flat private sector offtakes, fresh lending yield of 50bps, and risk-free return on these investments where credit risks could surge in the ongoing macro environment.

Contrasting macro of debt market and equity market metrics to ascertain the interactions between these variables, highlight the largely inverse movements arising from yield inversion.

While an overlay of consumption growth highlights a slow recovery scenario, based on splitting period returns and dissecting monthly market performance over the period of recovering spreads in the past, higher monthly gains, lends weight to additional period gains for market participants to leverage returns, on the bumpy road to macro recovery.

Jumpy oil prices and resulting volatility in E&P stocks have pressured performance recently, illustrating how external factors scar an otherwise cushioned investment case (dollar hedged profitability, counter-cyclical other income) or reveal deeper blemishes (delays in receivables clearance, improved gas system liquidity yet to filter through to payouts).

Amidst a weak operational outlook, analysts present sensitivities to Arab light price movements, where current price levels reveal attractive multiples, even in a ‘lower for longer’ oil price environment (US$40/bbl), while implied oil prices (back working from current stock prices) reveal OGDC/PPL trading at discounts as compared to long term average of 30% for FY18 exploration activity presents a weak picture on multiple fronts. Analysts expect some strength to emerge from an improved security environment and stable drilling costs.

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