An exclusive weekly Stock Market report bt Khadim Ali Shah Bukhari & Co.

Updated on Dec 18, 2000

The Pakistan market is up 10% since our "Buy Call" on a bear market rally two weeks ago (see our Dec 2 weekly review). For the week ended Dec 16, 2000 the KSE-I00 index rose 5.8% from 1338.71 to 1416.61. Constantly positive news flow kept investor sentiment bolstered.

The most critical development was the sudden exit of former prime minister, Nawaz Sharif, from Pakistan along with his family. This immediately focused attention on the possibility of a civilian government being put in place much earlier than expected. This news was sufficient to trigger a major upward move in the stock market, which in our view, was already in the process of bottoming out, after touching the year low of 1276 on November 30, 2000. Major positive news items included the increasing possibility of talks between Pakistan and India; approval of US$ 355 million energy sector restructuring loan by the Asian Development Bank; assignment of a B+ local currency rating for the new Pakistan Investment Bonds by S&P; rise in foreign exchange reserves to US$ 1.35bn from US$ 1.13bn in the previous week and reduction in the banks' minimum cash reserves requirement from 7% to 5% by the State Bank of Pakistan, thus signaling potential reduction in interest rates going forward.

There are three broad drivers of equity market valuation. First, risk free rate, second, risk premium and the third is future growth rate estimates. In our opinion, over the past one-month all these elements have moved from the negative territory towards the positive. With international oil prices relatively lower, cost-push inflation fears are receding. Further, with forex reserves rising, pressure on the rupee is also expected to reduce. As a result, the likelihood of the SBP reducing interest rates has increased. The reduction in cash reserve ratio is an indication of lower domestic interest in the future. Thus the risk free rate element in the valuation equation has turned positive.

Next, the market risk premium. We were already expecting the country risk factor to improve after IMF's approval of a standby loan facility to Pakistan. The possibility of a move towards civilian set up and reduction in tension across the border with India has reduced the market risk premium further in investors' eyes. S&P's assignment of a local currency B+ rating to the new govt. bonds has likely formalized the reduction of risk premium for domestic investors. Further, rising expectations of a Hubco - Wapda settlement has also injected more positive views of the market to local participants.

Finally, due to technical reasons, the current financial years' KSE - 100 Index's earnings growth is likely to see a jump. PTCL reported a 24% after tax profit decline in FY00. Hubco similarly reported an Rs 6.0bn after tax loss. With both the pivotals' earnings likely to normalize in FY01, the KSE - 100 Index profit growth in FY01 is forecast to shoot up by a massive 60% plus, versus a 27% decline in FY00. Even if the Hubco effect excluded, the KSE - 100 Index earnings are forecast to rise by over 30% next year. Most valuation models explicitly or implicitly incorporate the above three elements. If we do that explicitly then even on a conservative basis, in our opinion, the market has a 30% upside potential over the next twelve months, from 1300 levels.

In the short term however, we feel that around 1450 levels the market could take a breather. Many institutions stuck up at these levels could attempt to raise cash before the year-end CY00, thus capping near term market levels between 1450 - 1500 range. We don't mind that as this would allow investors to reliquify their portfolios and consequently, make them more active on the buyside in the New Year.

In term of specific stocks, MCB and Nishat Mills rose by 14.9% and 10.1% respectively, Engro showed a last day spurt to close the week up 7.2%. PTCL, despite large foreign selling earlier, managed to rise 11.1%. Hubco peaked off at Rs 19.20 on when profit taking set in closing up only 3.7% for the week. PSO was volatile but manage to close 2.8% up for the week.

Going forward, we recommend investors consider partial profit taking on recently built up positions as the index moves into mid - 1400 levels. This will allow them to have more cash available as the market corrects and consolidates before taking a longer-term direction. If the current rally is to be sustained, a key element will be the absorption of the long PTCL, Hubco, and PSO positions into long-term institutional portfolios.

An Update on Regulatory Developments in Pakistan's Capital Markets

Over the past two weeks the Securities and Exchange Commission of Pakistan (SECP) has issued several notices and regulatory orders that, put together, should help improve stock market efficiency in Pakistan.

The importance of checks and balances, accountability, transparency and service to the end users (investors in this instance) are critical elements of institution building in any country. In Pakistan this aspect has historically been neglected to the detriment of long-term business growth and public confidence. In this context it is heartening to see a regulatory body finally taking the much-needed steps to ameliorate the situation. Creation of a conducive environment for investing will, in our opinion, go a long way in rejuvenating capital market activity in the country.

Major areas covered by the recent SECP directives include:

•Prohibition on short sales
•SECP representatives to attend annual general meetings of listed companies
•Registration of brokers with SECP
•New Capital Adequacy requirement for brokers effective from December 21, 2000
•T+3 settlement system effective from February 1, 2001
•Encouraging exchanges to implement minimum margin requirement for brokers
•New regulations with respect to comprehensive disclosures regarding investment in associated companies by listed companies
•Stock Options for listed company employees

In our view, with the possible exception of the first item, all these steps are laudable and fulfill the need of the hour in order to make equities an attractive investment vehicle for the entire spectrum of investors. We have already dealt in-depth with our concerns regarding the first item in an earlier publication, where our concerns were more with the methodology of implementation.

MARKET ROUNDUP
..	LAST WEEK	THIS WEEK	% CHANGE
Mkt. Cap (US $ bn)	6.09	6.31	3.61%
KSE 100 Index	1338.71	1416.61	5.82%
Total Turnover (mn shares)	703.10	845.43	20.24%
Value Traded (US$ mn.)	257.05	390.89	52.07%
No. of Trading Sessions	5	5
Avg. Dly T/O (mn. shares)	140.62	169.09	20.24%
Avg. Dly T/O (US$ mn.)	51.41	78.18	52.07%
MSCI Pakistan Index
Pak Rs.	88.49	92.71	4.77%
US $	39.46	40.97	3.81%

.Source: KSE, MSCI, KASB

‰ ASIA PACIFIC & AUSTRALIA EXCHANGE INDEX LEVEL CHANGE EXCHANGE Bombay BSE 4137.16 -133.29 -3.12% Hong Kong Hang Seng 14975.53 -521.46 -3.36% Singapore Straits Times 1948.18 -32.36 -1.63% Sydney S&P ASX 200 3229.2 -47.80 -1.46% Tokyo Nikkei 14552.29 -374.90 -2.51 %

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