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Interest rate cut, opening of businesses likely to give impetus

The benchmark index of Pakistan Stock Exchange (PSX) closed the week ended 15th May 2020 at 34,008 points, up 2.23%WoW as investors focused on the reopening of parts of the economy and monetary policy announcement. There was an unprecedented contraction in economic activity (LSM down 22.0%MoM in March 2020), but market participants remained undeterred. The announcement of MSCI semiannual review brought fresh wave of interest in PPL and MARI (included in the small cap index, replacing NML and SNGPL).

Other major news flows during the week included: 1) Prime Minister ordering kick-start of construction activities on Diamer-Bhasha and Dasu Dam, 2) Saudi Arabia announcing to deepen oil cut, 3) OEMs recording zero sales in April 2020 due to lockdown and 4) government announcing Rs50 billion agricultural package that includes Rs37 billion subsidy on fertilizers. In a major announcement during the outgoing week, FEROZ disclosed that its subsidiary BF Biosciences (BFBL) has signed a non-exclusive license agreement with Gilead Sciences for manufacturing and selling Remdesivir — an experimental antiviral drug that is being used to treat coronavirus patients.

Foreigners remained net sellers (US$10.9 million) whereas net buyers were Individuals (US$5.56 million) and Mutual Funds (US$4.97 million). Top gainers of the week were: TRG, YOUW, CHCC, EFUG and FATIMA, while laggards were: IDYM, HMM, PMPK, SNGPL and INDU.

State Bank of Pakistan issued Monetary Policy Statement after closure of stock market on Friday, reduced its policy rate by 100bps to 8.0%. This is likely to help sustain market momentum in the coming week where short term burst in leverage plays cannot be ruled out. For a longer term perspective, E&Ps look attractive on valuation given potential recovery in oil price as countries move towards easing of lock down. That said, a closer eye has to be kept on a surge in coronavirus cases amid SOPs breach after easing of lockdown, which can push down market sentiments in the coming weeks.

State Bank of Pakistan (SBP) has lowered Policy Rate by another 100bps to 8.0%, which is being termed below market expectations. This is the fourth reduction in Policy Rate by the central bank since 17th March 2020, taking cumulative easing to 5.25% to address the worsening outlook of domestic economic activity in the wake of coronavirus pandemic. The Monetary Policy Committee (MPC) has termed the move cautiously optimistic and expressed commitment to ease the pain for the businesses by reducing the interest rates, if required.

SBP highlighted three key developments since the last Monetary Policy meeting: 1) petrol and diesel prices have been cut by 30-40 percent, 2) most countries, including Pakistan, have begun easing lockdowns and 3) initial volatility observed in domestic financial and foreign exchange markets has somewhat subsided in recent weeks.

Inflation outlook has improved further because of recent cut in domestic fuel prices. SBP expects inflation to fall closer to the lower end of both the previously announced ranges of 11-12% for FY20 and 7-9% for FY21.

 

SBP highlighted that failure of economic activity to pick up as a key downside risk to inflation, while potential food price shocks pose some upside risks. However, MPC believes inflation is not a concern and focus of the central bank remains on financial stability.

It was stated that monetary policy stance should support the economy over the coming months, while ensuring price and financial stability. It also expressed willingness to act further based on new data coming in the future. It was also highlighted that Pakistan is in constant touch with IMF over EFF program, and expect a staff level agreement soon.

SBP does not see a liquidity stress so far. Moreover, deposit withdrawals from commercial banks are not abnormal, keeping in view the prevailing uncertainty. From equity market’s vantage point, analysts believe the SBP decision will benefit the highly leverage sectors like Cements, Steel etc.

Unprecedented, harsh and clearly, one for the history books, reported auto numbers for the outgoing April’20 hit a complete halt, with no sales recorded for Passenger Car segment, and major OEMs reporting nil sales as dealerships, plants and product supply chains came to a grinding halt across the country. Already on an uneasy footing, April 2020 marks the point where 18 consecutive months of flat or declining YoY offtake came to a stop, showcased in weak cumulative 10MFY20 (total industry sales down 52%YoY, a levels last seen during FY15) with the core Passenger Car segment falling drastically (down 52%YoY – largest period decline ever). Segment-wise sales split for 800CC+/1,000CC/1,300CC+ for 10MFY20 were reported at 40/20/40% as against a long term 10yr average compositions of 48/18/34% marking significant thinning of 1,300CC+ demand against cost conscious, new model driven demand for 800CC+ vehicles. Pre-COVID’19, the launch of Yaris variants (1300-1500CCs) was expected to re-invigorate premium PC segment demand, allowing INDU to ride the wave of recovery, where recent uncertainty has clouded outlook considerably. That said, catalysts for supporting any recovery in demand are active (low rates, low inflation, lukewarm entry for new entrants). Unfortunately, over the short term, these are unlikely to hold significant weight, where the lack of clarity on COVID-19.

MSCI semi-annual review has lately been a forgettable exercise, with the latest iteration of the same likely to prolong the status-quo, where quantitative criteria set by the index provider are largely being met by current constituents. In terms of initiating the process of country downgrades, the consultation process involves significant subjectivity on the part of MSCI, which analysts believe will be conservative in the current period owing to the unprecedented nature of COVID-19 and resulting implications for financial markets. Pakistan has been hanging by a thread in the MSCI EM index since May 2019 (due to index continuity rules), engrossing a weight of 0.024% currently. Drawing parallels with previous downgrades in the EM space, MSCI’s discretion in specific cases during consultations are highlighted with significant variations in timelines, stretching from 6-12 months.

In the wider investment horizon citing unprecedented uncertainty, MSCI’s review has largely taken a back seat, with upcoming Monetary Policy Announcement, resumption of commercial activity in a post-COVID’19 backdrop and GoP measures to address economic spillovers (both positive – debt relief, relaxation on macro terms, and negative – human cost, unemployment) are likely to dictate market direction.

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