The trend is expected to continue but not without corrections

Jan 31 - Feb 06, 2005

During the calendar year 2004, the KSE-100 index recorded a gain of 1,747 points. The index comfortably crossed 6,200 level and closed at 6,218 on the last trading day of the year. Many analysts predict a similar behavior of the market during 2005. While some analysts are too optimistic, others also hint towards factors, which could possibly affect or at least contain unabated upward move of the index. However, the market has been ignoring all the apprehensions.

During the month of January alone, the index has gone up by 500 points. Now all eyes are set at 8,000 level. Apparently there seems to be no hurdle in attaining this level. There is ample liquidity to support buying euphoria. Economic fundamentals hint towards improved corporate earnings. Despite increase in the quoted prices of most of the scrips, dividend yield still remains attractive. The most satisfying factor is that buying is broad-based and led by the local investors, both retail and institutional.

The persistent improvement in the sovereign rating of Pakistan has once again made the foreign fund managers realize that they have been ignoring a fundamentally strong market. The recent response to the Sukuk bonds was also a pleasant surprise for the critics. The earlier than expected exit from the IMF's PRGF also forced the fund managers to redefine their strategy towards Pakistan. Stable exchange rate and substantial foreign exchange reserves also present a picture, which is entirely different from that of nineties.

Another factor contributing to investors' confidence is the overwhelming response to government policies that is evident from massive inflow of foreign direct investment into the country. Lately, the largest amount has come in the telecommunication sector, exhibiting the investors' faith in the growth potential of the sector. Earlier, a large influx was also witnessed in oil and gas as well as banking sector. However, power sector has yet to make a mark. There are enormous opportunities in power generation, transmission and distribution. It is also evident that the country is heading towards shortage of electricity but investors seem a little shy. This shyness can only be attributed to lack of commitment of the GoP in privatizing the state-owned electric utilities.

The two factors affecting equities market outlook are interest rates and inflation. The central bank has been trying very hard to strike a balance to facilitate investment. It has been managing interest rates to curb inflation. The softer stance of the central bank did lead to higher inflation rate but the recent Monetary Policy statement clearly indicates the new strategy to achieve the twin objects, containing inflation as well as raising interest rates without slowing down the pace of investment.

Higher international oil prices are fueling inflation in the country as well as putting pressure on foreign exchange reserves of the country. The GoP resisted increasing POL prices for more than six months but ultimately had to change its policy. Incidentally the first price increase was announced at a time international oil prices started showing a downward trend. However, very shortly the prices started moving up again. Therefore, the country is expected to continue to face cost pushed inflation.

Interestingly, higher oil prices are contributing to cost pushed inflation, but are also responsible for improving the bottom line of listed companies belonging to oil and gas sector, both exploration/production and marketing companies. Oil prices are not expected to come down in the short term. The factors responsible for higher price are low heating oil inventories in the US and supply constraints.

Higher oil prices are expected to keep profit margins of polyester staple manufacturers as two of the basic raw materials, MEG and PTA, are oil based. Another factor contributing to the pressure is bumper cotton crop in the country. This year the cotton output is estimated around 15 million bales. While the general perception is that the output will be much above the local demand, many analysts strongly believe that the perception is incorrect. Lately, there has been a substantial increase in the spinning capacity and the actual consumption will be much above the usual consumption.

Despite the higher production, cotton prices have not come down in the domestic market. However, the emerging trend of higher value addition is a positive sign. It is heartening to note that export of higher value-added products are on the rise. Though, lately there has been an increase in prices of most of the scrips belonging to textile sector, analysts could not resist from warning the investors. They say only a handful of companies can pay dividend. A large number of companies either carries the huge burden of accumulated losses or do not have strong cash flow.

Most of the listed commercial banks are expected to post attractive financial results. The trend is also expected to continue to earn higher profit due to rising advances and lowering non-performing loans. The rise in interest rates will also contribute improved bottom line.