Investment opportunities must be weighed against risks

SHABBIR H. KAZMI, Special Correspondent
July 30 - Aug 05, 2007

Pakistan suffers from a very low savings to GDP ratio. Apparently the society seems to suffer from taking pride in cash spending, many times living beyond means. Thanks to the hard earned remittances sent by the near and dear, which prompt the relatives to spend more and invest nothing. There eyes open when the person come back and ask them to tell him where the amount was spent. Most of the time the person as well as relatives have nothing but to regret.

Some people also say that there is no incentive for saving in this country. The rate of return offered by the banks is negative, far below the rate of inflation. Interestingly, banks pay handsome dividend to the shareholders but the return on deposit is pathetically low. It becomes more pinching when one looks at the lavish set up of office of senior executives.

The selection criterion is normally based on two factors 1) security of investment and 2) rate of return. Normally, investors seek higher return for the risky investments. Not only that this is true for the individuals but corporate as well as the financial institutions often prefer to invest in government securities despite lower rate of return.

Pakistan may be among the few countries where the rate of return on government securities is higher than corporate bonds and/or dividend paid by the companies. This was a common practice in the past and return on some of the National Savings Schemes (NSS) products is still higher. Lately, an effort was made to cut the rate of return on NSS but investors were not happy, particularly the retired people and widows. The result was that the government came under pressure and raised the rate of return. However, the investors are still not happy and want further increase.

Normally people keep their cash in bank accounts and the three available choices are current, savings and term deposits. Previously no return was offer on current accounts. However, now some of the banks also pay return on current accounts. The return paid on saving accounts is very low, in fact negative keeping in view the rate of inflation in the country.


Though, banks offer reasonable return on term deposits, people are not inclined to lock their funds for longer tenor. One of the reasons is that the banks charge penalty on premature encashment. However, the common complaint is that return is still low.

In the past a lot many Pakistanis used to maintain foreign currency account, mostly in dollars. However, after freezing of foreign currency accounts in 1998 the situation very few people seem to be keen in maintaining foreign currency accounts. In nineties the biggest incentive for maintaining foreign currency account was persistent depreciation of Pak rupee against all the leading currencies.

The other incentive was borrowing option against foreign currency accounts. Commercial banks as well as the central bank encouraged people to maintain foreign currency accounts, because the country had nominal foreign exchange reserves.

After 9/11 inflow of dollars increased manifold and the exchange rate also remained stable. In such a scenario the difference between official and kerb rates became marginal and there was no incentive in keeping savings in dollar form.

The other reasons for the loss of interest in maintaining dollar accounts were that the country was flooded with dollar and the government also withdrew restrictions on remitting foreign exchanges from Pakistan.

The common complaint of depositors is that banks do not pay realistic return. They charge fabulous interest rate on advances but pay pathetically low return on deposits. Reportedly, the average spread in Pakistan is around 7.5%, almost double the global average. Despite this handsome spread banks are not willing to pay the depositors. Rather, they do not miss any opportunity of fleecing the depositors. Banks charge fabulous fees for various services i.e. service charges, collection charges, penalty for not maintaining required minimum balance and charges for using the other bank's ATM.

While rationalizing low payment to depositors banks very proudly talk about investing in technology. However, an average customer can hardly count the benefits of technology. Many a times ATMs are not functioning, online banking is not available due to technical reasons and bank take two to three days in transferring balance of cheques sent for local collection.

The banks also say that they could not pay modest return because of low return on the investment in treasury bills. If the T-Bill yields are low, why the banks invest in T-Bills? One understands that the banks have to invest in T-Bills to meet statutory liquidity requirement. But the investment of most of banks in T-Bills is much above the desired level.

According to an analyst banks find T-Bills the safest haven for investment. The banks also do not wish to take risk and are contended with few corporate clients. When they go beyond these customers to agriculture sector or consumer finance and mortgage finance the rate of interest is too high. For example on has to pay around 3% per month for rollover of credit on credit cards. Average lending rate for consumer finance or agriculture loans is above 15% per annum.

Another complaint of depositors is that banks prefer to distribute handsome dividend among the shareholders but depositors come low on the priority list. Thanks to brokers' fraternity shares of most of the banks are being quoted above Rs 200 per share. Therefore, the banks have to pay handsome dividend to keep return in equity attractive.


National savings schemes are the first choice of widows and retired people because of low risk and relatively higher rate of return. At one stage the government tried to curtail rate of return but received a lot of criticism and ultimately has to improve the return and offer specific products for the widows and retired people. In the past many financial institutions also chose to invest in these products. However, government imposed a restriction by fixing the cap on maximum investment in National Savings Schemes.

In the past these schemes were used by the successive governments to mobilize funds for meeting the budget deficit. In order to attract more funds government also chose to offer higher interest rate. However, with improved financial discipline during the present regime, government's dependence on these schemes lessened to a large extent. That is why the government is not keen in continuing with schemes carrying high interest rate.

Due to declining interest rates investors were forced to explore new options and they were advised to invest in equities market. The government also got some of the state owned enterprises listed at the local stock exchanges and also offered shares of these entities to the general public. Secondary offering was also made of the already listed public sector companies. These shares were offered under 'Privatization for People Program'. Before an IPO or secondary offering the government also held 'Road Shows' to let the people know about the entities whose shares were being offered. This helped in increasing the number of investors in equities market.

However, a number of equities market crises, mainly due to weak regulatory and surveillance mechanism created panic among the small shareholders. Prices of most of the shares came down due to panic selling and bulk of the shares were purchase by people enjoying strong holding power. It may not be wrong to say that at present entry into equities market could prove fatal for the small investors.


Investment in equities market could be made either directly or through mutual funds. It has been written repeatedly that small investors should not invest directly in the stock market. They should invest in mutual funds, reason being that the fund managers have the information and the expertise to read the emerging trends as well as evaluate the performance of the companies.

Since mutual funds have very large investment portfolio even if a few companies post losses the overall profitability is not affected significantly. The result is probability of earning dividend is higher. The fund managers also focus on making capital gains, selling when prices are high and purchasing when the market takes a dip. This is possible because they have ample liquidity at their disposal and therefore, enjoy holding power.

There are two types of funds namely open-end and close-end. An open-end fund is that where there is continuous buying and selling and there is no upper or lower ceiling. As against this, the paid-up capital of a closed-end fund is fixed and its shares are being traded at the local stock exchanges.

Initially, there was only one open-end fund, NIT, than came many closed ends of ICP. In the nineties private sector was allowed to establish closed-end funds and then open-end funds also. Under the privatization policy management rights of ICP funds were sold to PICIC and Abamco. The funds acquired by the two fund managers were subsequently merged and both the entities have emerged stronger.

Based on the types of investment mutual funds can be divided into Equities, Fixed income, Balanced, Money Market and Islamic funds. Equities fund mainly invest in shares of the listed companies and the best example is NIT. It is relatively difficult to forecast the income of equities funds because of vulnerability of income due to a number of factors not in the control of fund manager. However, a good asset management company develops and keeps on adjusting the portfolio depending upon the changing economic fundamentals of the listed companies.

Fixed income funds invest in term finance certificates and it is easy to forecast income of these funds. These funds have proliferated because of issue of term investment by the corporate entities. Since these issues are rated before flotation and are mainly issued by the company enjoying strong earning potential, the probability of loss is very low. However, the rate of return could be lower than funds investing in equities. The rule is simple, higher the risk higher the income.

Money market funds mainly invest in money market instruments. Balanced funds invest in a variety of products that include shares, fixed income bonds and money market instruments.


The emerging type of fund is Islamic funds. These funds mainly invest in Shariah compliant instruments. These could be equities as well as bonds. However, such funds cannot invest in shares of companies where the main chunk of income is raised through Riba-based operations (conventional commercial banks and insurance companies)or the companies undertaking any activity prohibited by the Shariah (involved in the manufacturing and distribution of products, whose use is prohibited by Shariah).

Lately, some Islamic financial products have been introduced by the companies endeavoring to achieve Riba-free operations. One of the Modaraba has floated Shariah compliant term finance certificates. Another company involved in the manufacturing of chemicals has also floated Shariah compliant TFCs.

Yet another type of Islamic bond, Sukuk, has been floated in the local as well international market. WAPDA has floated rupee denominated Sukuk in the local market and the largest subscription came from Islamic banks.

The Government of Pakistan has also floated dollar denominated Sukuk globally. This issue was oversubscribed and is an evidence of the strength of Pakistan's economy. However, local investors could not benefit from the issue. It is therefore, suggested that the government should issue more Sukuk, mainly for the construction infrastructure projects.

The only word of caution is that the Sukuk issue has to be backed by the asset. Therefore, this option could be exercised in case of projects enjoying depending income stream. Besides, the concept is relatively new and will take some time to develop its acceptance by the investors and the development of secondary market.

The ages old investment option is gold. It was said to be a common choice of females. The parents of brides usually give dowry and most expensive item is ornaments. It is still considered to be the strongest hedging against unforeseen events.

The latest passion is 'Ten toola bars'. These are certified bars being bought and sold widely. The reason for preference is that the probability of incurring loss is low. Historically, price of gold have moved up, baring a few exceptions. With the establishment of commodity exchange in the country, mainly dealing is gold, now offers options to more investors.

Investment in automobiles was a lucrative option till recently, mainly because of 'on money' or premium. With the permission to import secondhand cars the focus has shifted from locally assembled cars to imported CBUs.


Investment in real estate is an ages old option. Investment in buildings is driven by the need for regular rental income as well as capital gains. Buildings could be of residential type or commercial, including shops. The preference for residential or commercial building is driven by the motive or preference of the investor.

As more and more housing projects are coming up the strong market for open plots is emerging fast. The sole motive is capital gain because if the buyer wishes to construct his/her own house, the choice is developed area. The investors mainly invest in developing area and investment horizon range from five to fifteen years, depending on when the investor gets physical passion of the plot or sub-lease is executed.

In Karachi the most sought after areas are phase-VIII of DHA, Gulistan-e-Jauhar, schemes on/around Northern by-pass and Super Highway. Condominiums and high-rise buildings are the choice of well offs and schemes on by-pass are the choice of low income groups.

However, there is a word of caution for investors in open plots and apartments that they should make thorough check of the promoters and the NOC issued by the concerned authorities. Most of the disputes are the outcome of absence of clean title. Violation of building by-laws is also common and every care must be taken to monitor the progress. If at any stage it is known that construction has been stopped people should form strong pressure groups to get the title of the plot/building clean at the earliest.

The investment motive and horizon of two investors could not be identical or similar. Each individual has to decide at its own the type of investment. People seeking regular income should not invest in projects having long gestation period.

A common complaint is that middle man cheats some times. It is the sole responsibility of the investor to protect its investment. All investment decisions should be made prudently. If at any stage the investor realizes that he/she is incapable of making a prudent decision he/she should consult the reputed professionals. Ignorance of law is no excuse.