IGI Securities Limited – Strategy 2020 – Pakistan Equity Market Outlook (14-01-2020)

Karachi, January 14, 2020 (PPI-OT): Market to Cherish Economic Recovery

Starting 2019, we saw a material slowdown in Pakistan economy. Much of this weakness reflected hard-hitting contractionary and reform measures that the government attempted to fix past governments’ growth blend and rein in systemic risks in the economy.

We expect economy to stabilize in 2020

While the effects of these contractionary measures will continue to show-up till 2020, we expect Pakistan economy to stabilize in 2021. This should be underpinned by a combination of easing monetary conditions, supportive fiscal policy through the government’s tax and spending policies and bottoming out of industrial activity. In fact, a number of economic indicators we point highlight a shift towards stabilization.

Additionally, the present government is putting a greater emphasis on overseeing longer-term risks in the economy by bringing in series of stimulus reforms particularly targeting fiscal and energy sector. Progress on these reforms will be crucial, which alongside improved law and order situation and continuation of investment cycle with the start of CPEC phase II will frame a key setting for a sustainable growth trend.

What will drive economic growth?

However, we opine some additional easing will be needed to support economic growth over the next 12-months given the challenging domestic economy and external environment. Hence, we view starting 2hFy20, SBP and the government’s combined pro-active efforts in absence of inflationary pressure will allow for lower interest rates which will stimulate overall credit growth.

Fiscal side has been a weak point and resultantly economy will have to deal with reduced development budget this year around. However, disbursement on development budget has been strong so far and with the government opting for a pro-growth approach in 2hFy20 along with international funding, we may see some pick-up in infrastructure spending. Similarly, with IMF backing fiscal discipline is likely to come in play, therefore we think government can fund more infrastructure investments in 2020-onwards. However, this outcome can become less certain, as major drags could appear from Pakistan’s precarious geopolitical situation with its neighbouring country India and delicate relations with the US.

Valuations are below average and earnings look set to pick up

For year 2020, we estimate earnings growth of our coverage companies (~65% of the KSE 100 market capitalization) to post a +11% y/y growth to EPS of PKR 13.6 compared to PKR 12.2 and 10.9 in 2019 and 2018 respectively. In terms of 3-yrs forward outlook, we expect a ~8.1% cagr which is relatively in-line with trailing 3-yrs cagr of ~8.9%.

Market P/E multiple has already re-rated nearly ~49% since Aug-19 to stand at 7.6x and trades at forward 2020 P/E of 6.8x, which is still below its historic mean of 8.6x. With valuations for the overall market slightly below their long term average and economy exhibiting signs of stabilization, we may continue to see liquidity support from local and foreign institutions.

Targeting index level of 50,000

By December 2020, we eye index target of 50,000, generating a total return of ~23% from its current index level of 42.5k. We have taken a market P/E multiple approach as our basis for index estimation. Based on our index target of 50,000, market would trade at a forward P/E of 8.6x which is in-line with its historic average.

Where are the opportunities in equity market?

Against this backdrop, we are adopting a balanced approach, with ‘growth at a reasonable price’ and ‘high dividend yielders’ as our investment theme. We remain focused on banks, energy, materials and industrials which we believe will benefit from Pakistan’s medium term growth story.

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