EQUITY FUNDS UNDER WOES
FOZIA ISHAQUE (firstname.lastname@example.org)
Feb 09 - 15, 2009
The stock market in Pakistan was showing bullishness and resilience since the beginning of 2007. It achieved new milestones with spectacular performance up till Q1 2008. KSE 100 share index touched almost 16000 points in mid April, 2008. During that period the capital market played a pivotal role in attracting foreign investment in the country. Investors from European and the Gulf countries exhibited intense interest to pour money in various sectors of the economy. The energy, construction and housing sectors were becoming the hub of attraction especially for the investors from the Middle East, Malaysia and Singapore. But the whole spell did not last for long and financial crisis exploded in America resulted in default of giant business tycoons.
Same pattern was followed by other advanced countries and the rest of the world. There also erupted global energy and food crises which added an insult to the injury and gave a lethal blow to poor economies that were already susceptible to external shocks. Like other leading stock markets Pakistan's market also suffered huge setback. The KSE 100 share index declined from its peak level of 16000 points in mid April, 2008 to 4815 points on January 26, 2009 declining by 69.3% in just 9 months.
Similarly aggregate market capitalization also nosedived from Rs.4,780 billion to Rs.1,544 billion in the same period. The worst-ever global financial crisis accompanied with domestic liquidity pressures badly affected the asset management industry of Pakistan. There was an outflow of around 50% from funds in categories of equity funds in mutual fund market. It shows that the investment size of these funds slumped sharply in the emerging markets. When there was an upward movement of stock market there was a hike in the growth momentum of asset management industry also. It is evident from the fact that in 2002, there were only 2 asset management companies and now the total number of asset management companies is around 30. As of end of June FY07, the mutual funds sector comprised of 66 funds with 47 open end funds and 19 closed end funds. The number of funds increased to 95 by the end of FY08. Open end funds dominate the sector due to investors' preference for ease of exit and the flexibility of this investment option offers.
It is notable that asset management business in Pakistan still rests in nascent stage. As per current statistics mutual funds account for only 3.2% of the country's GDP, as compared to about 13% for India and 85% for the USA. Similarly, the size of assets under fund managing companies is 10.75% of bank deposits against 150% in USA reportedly. When stock market was thriving, the mutual fund industry also flourished and was yet to explore niches and harness its full potential.
The growth in mutual funds in Pakistan was attributable to: (i) liberalization of the sector; (ii) economic growth and macroeconomic stability that attracted investors including foreign investors to the stock market; (iii) increased liquidity with institutional investors, which was channelized into the stock market and mutual funds; (iv) high corporate earnings that increased the earnings potential for mutual funds; and (v) a buoyant stock market that provided mutual funds with good returns in the form of capital gains.
Liberalization helped to facilitate entry of the private sector in the mutual funds industry. Historically, the industry was dominated by public sector funds. However, creation of an enabling legal framework to allow mutual funds to be set up in the private sector and transfer of ICP managed closed end funds to two private sector investment advisers in FY03 boosted the number and size of funds under the management of the private sector, increased competition and efficiency of the sector and enhanced the quality of fund management. It also provided opportunity to financial institutions like banks and brokerage firms to diversify into fund management through subsidiaries and associated companies.
In April-May 2008 professional fund managers at Asset Management Companies (AMCs) could not anticipate the current financial turmoil in the country, which resulted in the massive redemption of Rs60 billion from total assets under management of AMCs. According to the Mutual Funds Association of Pakistan (MUFAP), assets under AMCs management fell by Rs60 billion or 15% to Rs335.17 billion in September from Rs395.04 billion in March.
Mutual Funds may be regarded as one of the best avenues for investment available, particularly to small retail investors on account of lower transaction costs, diversification, unchained liquidity in case of open-end funds and most significantly, the experts advises from fund managers. Whereas mutual funds may not shield investors from the risks associated with overall market failure, the diversification they provide may reassure public investors as regards the failure of individual companies, hence making them less wary of insider opportunism in any given corporation.
The pie of any mutual fund is made of purely money market, debt market, equity market or motley of all as per its investment objective. The debt market in Pakistan is very small built up almost entirely of government bonds while corporate bonds hold a miniscule portion. The saga of the equity market does not need any explanation. The only avenue that was left was money market and now that too is a thing of past.
Equity Fund Managers disinvested only 10% of their total size of investment at the equity markets before the crises commenced at stocks markets. The crises at local bourses caused wipeout of Rs25 billion alone from equity funds out of total Rs60 billion redemptions. Investors in this category of fund did not pull out their money on the massive level, but decline in Net Asset Values (NAVs) resulted in vanishing this Rs25 billion.
Broadly, there are four types of mutual fund categories in Pakistan: namely the Equity Fund, Income Fund, Balanced Funds, and Islamic Funds. Recently, the mutual fund managers have also introduced kinds of Funds, Specialty Funds and Pension Funds, which are in their infant days and trying to grow up.
The equity and income fund has borne the brunt of current liquidity crises in Pakistan. Funds under the Income Fund category are invested at capital, money and debt markets. And assets in equity funds are invested in share markets. Corporate entities are the major investors in income fund and liquidity crunch in some of key financial sectors compelled them to redeem another Rs35 billion from this category of fund during March to September 2008.
The investors of Income Fund were not in loss as return to them rose up owing to increase in interest rates in the country following central bank raised discount rate three times in calendar year 2008 to 15% at present. However, the unavoidable crises at Karachi stock market, which downed KSE 100-index about 41% or 6,500 points since April 18 to date, have affected Equity Fund investors.
The mutual fund industry is passing through the lowest position in history, because it has witnessed a massive redemption and an overall economic slowdown. In the last 5-6 years the mutual fund industry has been witnessing a massive growth. This correction is just a wakeup call for regulators and for managers to address all the issues that would be coming up in near and remote future. If optimal and investment prone environment is made available after the economic meltdown is over, the mutual fund is going to be the favorite sector for investors to make investment.