KSE-100 momentum attracting foreign flows

Mar 06 - 12, 2006

The Karachi Stock Exchange's unrelenting bull run continued in February 2006, as the benchmark KSE-100 Index gained 932 points or 8.9 percent during the month to close at 11,456 points. Gains were led by a sharp movement in oil and gas exploration, whereas other sectors appeared to take a breather. The current bull-run is now starting its eighth month, and while there are periods of jitteriness amongst local investors, the general sentiment still remains upbeat.

A key feature of the current market run up that it has mostly been supported by underlying fundamentals and market prices in most cases are not too far from analyst fair values. The two biggest factors behind the market momentum have been 1) corporate earnings/ earnings related news, and 2) increased foreign investor participation in the market.

Corporate earnings for the quarter ending December 2005 have averaged growth of 29 percent, while the foreign portfolio investment in the fiscal year FY06 to date (July 2005 to Feb. 24, 2006) has risen to $457 million, as compared to $153mn in full fiscal year ended June 30, 2005.

Pakistan's banking sector in particular, which offers high earnings growth and reasonable share liquidity, has been popular amongst foreign investors.

Mohammad Sohail, director research at Jahangir Siddiqui Capital Markets said that for the last few weeks, equities value has been very volatile. Index is hovering between 11,000 and 11,600 points but with huge volumes of over US$1bn. Conflicting rumors about oil and gas discovery in Tal Block of NWFP has added fuel to this volatile market. And as exploration stocks are one third of the Index, it further impacts the benchmark KSE Index. Overall leveraged position (stock futures open interest is highest after March 2005) is also creating confusion in the minds of investors and that is why speculators and investors buy and sell their position after a short interval.

Once the results season gets over and dust settles down on the discovery issue, the market may stabilize if the leverage position comes to normal levels.

Khalid Iqbal Siddiqui, head of research at Invest Capital Securities said that the recent part of the stock market rally has been caused by speculation about huge discovery in Tal block. All three listed E&P companies, OGDCL, PPL, and POL hold stakes in this block. With OGDCL and PPL being the 1st and 3rd by weightage in the KSE-100 Index, respectively, any positive or negative rumour leads to what seems like wild swings in the equity Index. Investors are urged to make their decisions based on the existing fundamentals of the companies rather than speculating blindly about something which is not known yet.

Wajhat Ali, head of research at Elixir Securities, said that, leading the charge during the month were the two state-owned gas distribution companies, SSGC and SNGPL. Both companies are slated for privatization, with the last date for Statements of Qualification from interested buyers set for March 11, 2006.

The government conducted a road show in Singapore and London during the month in which it was claimed there was significant investor interest.

Prospects of a regional gas pipeline deal- the governments of all involved countries have expressed their determination to go ahead with the Iran-Pakistan-India pipeline and the Turkmenistan-Afghanistan-Pakistan pipeline- will mean growth for the local gas distribution companies too.

"We feel though that investors are getting a little ahead of themselves, and both SSGC and SNGPL are now overpriced", he said. News of a gas discovery in the MOL operated Tal Block, rumored to be of 2-3tcf set the oil and gas exploration and production sector on fire. The three listed E&P companies, OGDCL, PPL and POL each have a stake in the field ( 27.8%, 27.8% and 21.1%, respectively) and stand to benefit from the find. The size of the discovery is still being determined by the field operator, but news of the discovery was enough to drive POL and PPL's share price up 30% each, and OGDCL's share price up 13% over the course of the month. PPL is also on the privatization block, though its sale, last scheduled for December 2005, is well overdue. The government's announcement that it will list GDRs of OGDCL in a foreign (probably European) exchange has also been a factor in OGDCL's gains.

The three listed E&P companies have a 33% weightage in the KSE-100 Index and were primarily responsible for the rise in the index during the month. Market momentum in February was more nuance than is immediately apparent. While gas distribution and oil/gas exploration and production (E&P) were the best performing sectors (driven by news of an important discovery), other sectors were down during the month. This is a departure from past KSE trends when a strong bull run meant most of the market was up, and a steep correction meant the market was down across the board. Effectively, even as the market appeared to be rising, there was profit-taking in companies that appeared to be getting expensive. Hence while NBP and MCB gained 23% and 19%, respectively, during the month, prominent banks such as Bank of Punjab and Askari Bank were down - 12% and 1.5% on month-on-month basis respectively.

This is a reflection of the increased level of institutional involvement in the local market. Companies with a compelling story that offer value are accumulated and not given the chance to fall, even when the market is down. Investors who have been waiting for a correction before making an entry would therefore be disappointed.

"We see the market at a crossroad now. The steep run up has left few BUYs. Until the start of February, the heavyweights in the E&P sector had lagged the market, but the gains made in February mean that the E&P sector will not be able to prop up the Index in March," Ali said. However, most companies are not trading so far above their "fair values" as to warrant a sharp sell-off, so the fabled correction, long awaited, may turn out to be smaller than hoped (or feared, depending on your position in the market). In this environment, there is a danger that the market will stagnate. Even so, investors will look for value, and stock selection will be the name of the game. We have a positive stance on NBP, MCB, Askari Bank, ICI Pakistan, and Lucky Cement, and can only reiterate that even if the market does come down, these scrips will outperform.

Saima Naz, research analyst at WE Financial Service, said that since the beginning of the year 2006, the index has sporadically increased from the last year's ending figure. This rally was first led by the banking and cement sectors on account of expectations of higher corporate result announcement after SBP's instruction to increase paid-up-capital and cement on the expectations of higher dispatch levels. E & P sector later took the lead and finally helped the index to breach next highest level of 11,000 on the back of major Oil and Gas discoveries at Tal Block.

As viewed by many analysts this recent surge is the repetition of last year's market rally where the index broke all records and have increased manifold in very few days. Current scenario is rather stronger both on technical and fundamental grounds, compared to last year. Previously, the only contributors of the rally were OGDC and PTCL that together contributed 67 percent to the rise of 4,048 points from December 31, 2004 to March 15, 2005 on the back of privatization concerns that is now rather broad based where many stocks are involved in this upsurge.

In addition to it, the current reported leverage position is substantially lower. The leverage of badla and stock futures reached a peak of Rs78.2 billion on March 4, 2005 which is currently Rs40.5 billion, which indicates that the current rally is genuine. The current surge can be characterized as less speculative as evident by the lesser volumes than March 2005.