PSX expected totread water next year on diverted inflows to bonds

KARACHI: Pakistan Stock Exchange (PSX) is likely to tread water next year as investment inflows are gravitating towards high-yield government securities on ratcheting up interest rates, a brokerage said on Monday.

“Given increase in the SBP’s (State Bank of Pakistan) policy rate of 425 basis points in 2018 to 10 percent, longer tenure government papers have started trading higher than 12 percent,” Topline Securities said in a market outlook report.

“Periods of high interest rates have historically kept the market forward PE (price-earnings ratio) low as local investors prefer to invest in high yielding bonds.”

Topline Securities said spread between earnings yield and treasury-bill yield in 2019 is expected to narrow to 150 basis points – spreads of 545bps in 2017 and 270bps in 2018. “This is due to steep rise in interest rates while earnings yields will rise by fraction of this supporting our view of flows moving to bonds.”

The brokerage said the recent global markets sell-off brought down forward PEs across the board including, emerging markets. Emerging markets (EM) Asia index of Morgan Stanley Capital International (MSCI) is trading at forward PE of 11.6x compared to 14.0x a year back.

The discount to MSCI EM is currently around 31 percent despite decline in Pakistan’s market. The new-year may not be exciting given expectations of limited upside in the market.

“However, selective stock picking can generate above average returns,” it added. “High quality non-cyclical stocks with stable business that will gain from weak rupee and high interest rate should be preferred for 2019.”

Topline Securities said KSE-100 Index is likely to trade in the range of 40,000-45,000, providing a gain of three to 16 percent, lower than required rate of returns.

Corporate profit growth will also be affected due to fiscal and monetary tightening. Corporate earnings growth for 2019 and 2020 are expected to clock in at 11 percent and 5 percent, respectively.

“The range is also dependent on where international oil prices settle for next year,” the brokerage said. “Banks, exploration, textile, fertiliser and technology sectors can provide better return than others.”

Pakistan is likely to get a loan from the International Monetary Fund for economic stability although there is lack of clarity on the government economic plan.