Karachi, January 02, 2023 (PPI-OT): What a mess!
CY23 likely to continue from where CY22 dumped: Our CY22 strategy for the PSX was ’61k or Bust’. It went bust, sadly. Our metaphor was Afridi and let’s just say he got bowled on the first ball. Unfortunately, we do not eye much of an improvement (at least in 1H) for the PSX in CY23. Pakistan it seems is caught in the midst of a perfect storm of adversities with spiraling inflation, falling reserves and external vulnerabilities. Politics appears to be a nightmare the country is unable to wake up from while the recent floods appear to have been plagiarized right from Moses’ biblical story.
Index target – like finding a needle in a haystack: Let’s face it, the government does not have an economic plan. Uncertainty kills, and unfortunately in this scenario, the market is the headless chicken that one really can’t put a target on. Events which will likely shape market direction in the year ahead include i) Re-entry into the IMF fold, ii) subsequent support from multilaterals and bi-laterals and iii) Elections 2023. With regards to the former, delays in the 9th review will only aggravate uncertainty where parallels with Asad Umer’s tenure (similar delay in IMF re-start) makes for an uneasy reading – market fell from ~42k in Aug’18 to ~36.8k during tenure, with further decline till entry into IMF. On the latter, announcement of elections may potentially lead to a relief rally. That said, any subsequent government needs to come with a heavy mandate in order to carry out economic reforms.
Politics aside, economic developments will continue to hog limelight: Pakistan’s external position has again depicted vulnerability where despite a relatively controlled CAD under the new regime (US$3.1bn in 5MFY23 vs. US$7.2bn in 5MFY22), US$23bn in debt maturity in FY23 amid dwindling Fx reserves (US$5.8bn as Dec 29’22) has rung alarm bells. With reserve build-up unlikely to happen (matching or close to matching inflow and outflow fx even as per SBP) in FY23, we believe weakness in the PkR is a theme likely to continue into the new year. At the same time, GDP growth in FY23 is expected to slow to 2.1%, driven by high base effects, flood related damages and disruptions, high inflation and less conducive global environment.
Further interest rate hikes will happen: With average 5MFY23 headline CPI at 25.14% and full year expected at 24.9%, core inflation (trimmed) in Nov’22 at 19.8% (Urban) and 25.4% (Rural), and the urgent need to get IMF on board, we foresee further rate hikes in the days ahead. In this regard, our economist expects the policy rate to settle at 18% with no easing expected in CY23. That said, from 2HCY22, we do foresee inflationary pressures easing off, primarily due to high base effect.
Market Strategy – the difficult one: Given the current precarious Fx situation and the entailing unofficial import restrictions, we believe cyclicals should most certainly be avoided. There are only two themes to play for in CY23 – i) US$ based revenue streams and ii) D/Y (greater than) 18% (our expected policy rate / t-bill yield). On the former, the Tech sector is the obvious choice where SYS and AVN are top plays. E and P is another sector with US$ based streams (albeit partially delayed) where preferred plays are MARI and POL. Given focus on circular debt (stock and flow), OGDC and PPL may continue to stay in the limelight if respective TFC and T-bill transactions are carried out.
If forced to choose, other top picks would include dividend plays where preferred plays include FFC (D/Y: 18.4%), EFERT (D/Y: 18.0%) and MCB (D/Y: 23.4%). Our one exception to the yield thesis is MEBL (and to an extent FABL) where we foresee continued strong deposit growth and higher interest margins (in Pakistan slang – shariat mein barkat).