Pakistan stock market plagued by declining oil price

Like other international markets, Pakistan stock market once again plunged into negative territory. During the week ended 12^th February PSX‐100 index closed at 31,464 points (down 3.12%WoW) completely eroding the gains made a week ago. Market volatility was led by anxious investors opting for profit‐taking amid continued selling by foreign investors. During the week under review foreign outflows were recorded at US$17.2 million against US$2.2 million outflows recorded a week before.

Activity at the market failed to recover, where average traded daily volumes for the week declined to 141 million from 144 million shares. Key news flows driving the market included: 1) the GoP signed a 15-year agreement to import up to 3.75 million tons/year of LNG from Qatar at a price of 13.37% of Brent, to be imported by PSO, 2) Baluchistan government announced lifting‐off the ban on new projects of oil and gas exploration across the province and started negotiations with PPL, OGDCL and some international exploration companies, 3) the GoP borrowed over Rs116 billion at the rate of 6.10% through auction for 3‐year Fixed Rental Rate GoP Ijara Sukuk and 5) GoP directed OGRA to allow recovery of proposed Rs101 billion commercial loans to be taken by gas utilities from consumers in lieu of building pipeline infrastructure.

Leaders at the bourse included POL, SNGP, AGTL, and DAWH. The laggards were OGDC, FATIMA, HCAR, BAFL and EFERT. As earnings season gaining momentum the prominent companies scheduled to announce financial results include PSO, OGDC, PPL, DGKC, LUCK, HUBC and ENGRO. Analysts expect volumes to recover in anticipation of stronger corporate profitability. Although, persistent foreign selling continues to mar the sentiments a rally in regional markets can also bring some respite to the local market.

Pakistan’s biggest integrated electric utility K-Electric (KEL) is expected to release its 1HFY16 financial results shortly. According to a forecast the company is expected to post profit after tax of Rs15.4 billion (EPS: Rs0.56/share) reflecting an increase of 17%YoY, while 2QFY16 earnings are expected at Rs8.9 billion (EPS: Rs0.32/share), 14%YoY lower than levels seen last year. Profit before tax for 1HFY16 is expected to rise to Rs14.4 billion, up 80%YoY, aided by: 1) a 1.4% reduction in T&D losses to 22.4% during the period under review, 2) decline of 40%YoY in the cost of purchased electricity (currently at Pkr5.8/KwH) and 3) a 29%YoY reduction in financial charges. Despite these improvements, analysts caution about regulatory hurdles as dampeners to long term self‐sufficiency of supply (shifting to coal) and approval of major agreements (Multi‐Year Tarriff, Power Purchase Agreement). Prominent triggers to look out for are: 1) greater than expected reduction in T&D losses from pre US$500 million T&D revamp plan, 2) continuous decline in cost of purchased units, as FO prices fall, reducing the burden of T&D losses born by the utility and 3) significant headway on 700MW coal fired power plant to be set up with China Datang Corp, the land for which has been procured.

Total auto industry sales were recorded at 21,717 units, benefiting from the 'January Effect' prevalent in the industry. Cumulative, 7MFY16 sales remained robust, at 133,437 units increasing by 57%, supported by strong growth in offtake from PSMC (83,188 units sold, growing 90%YoY) and INDU (36,448 units sold, rising 24%YoY). Segment‐wise sales growth was led by the 800 and below 1000cc variants with sales growth of 85%YoY for 7MFY16 (44,594 units sold), followed by the 1000cc segment rising 42%YoY (14,145 units sold) and the 1300cc and above segment increased by 22%YoY (49,168 units sold). These trends in segment‐wise growth have flowed into the OEM's dominating each segment. A historical trend analysis of the past 10 years showcases January a good month.

Karachi needs colossal investment in public transport

Karachi city is bigger than 85 member countries of the UN, spread over hundreds of square kilometers and has a population touching 25 million. One of its biggest problem is lack of an efficient and quality public transport system. This has resulted in exceptionally large number of cars and motorcycles plying on the roads. This on one hand costs the country billions of dollars spent on import of fuel and causes worst traffic jams. The added problems are waste of hours of commuters, burning of extra fuel and emission of huge quantity of toxic fumes. This demands complete revamping of public transport, which is not possible without investing millions of dollars.

While Punjab government headed by PML-N is spending billions of rupees annually, Sindh government headed by PPP seems least concerned about providing a decent public transport for the people of Karachi which contributes lion’s share to the national exchequer. In the past some efforts were made by the City District Government by introducing CNG driven buses. While the number of vehicles were to be increased with the passage of time, the contrary has happened. Even the number of ages-old buses has declined. The situation at present is that people have buy cars and motorcycles on cash, as hardly any financing facility is available.

This blog is aimed at attracting attention of overseas investors, particularly from Japan which has the largest investment in automobile assembly business in Pakistan. JICA is financing various projects in Pakistan and it needs to be convinced that sale of Japanese brands will improve earnings of the sponsors of these companies. It is believed that JICA is exploring the possibility of reviving ‘Circular Railway’, which is like a futile effort to make a dead man walk.

Karachi needs nearly 3,000 long chassis buses that can carry minimum 100 passengers at a time. A consortium can be formed that can also mobilize funds from local stock market by listing a public limited company. In the first phase 250 buses may be inducted and then 100 buses per month. The consortium can comprises of buss, tyre and battery manufacturers besides some financial institutions.

Banks sinking elsewhere, rising in Pakistan

InformationClearingHouse has recently run a story on the emerging financial markets crisis. It says these markets are becoming increasingly chaotic; either retreating or plunging. Its view is that there is a gigantic market crash in the coming future, one that has possibly already started.

Pakistan is very much part of the global financial system and it can’t remain immune. However, the point that provides some relief is that country’s commercial banks are being run efficiently, those some critics call State Bank of Pakistan ‘orthodox’.

The mindset has saved the banks from bankruptcies over the last more than six decades. Two out of ‘Big-Six’ have already announced CY15 financial results, MCB Bank on 9^th and Allied Bank on 10^th of this month. It may still be worth to look at the macro picture and review the forecast prepared by Pakistan’s leading brokerage house, AKDSecurities. 

Influenced by capital gains and strong fee income, the brokerage house expects the Big-six to post an aggregate profit after tax of Rs131.3 billion for CY15, up 12%YoY. Sequentially, profits are likely to take a hit to Rs32.8 billion (down 7%QoQ) on declining NIMs as yield on earning assets adjust to reflect rate cuts.

Positive surprise can come from higher non-interest income should these banks choose to utilize their hefty capital gain backlog (revaluation surplus amounting to Rs173.8 billion). Likely to round-off CY15 on a high note, the brokerage house  expect CY16 to be a slow growth period with risk to NIMs arising from bulk of high yielding PIB maturities in 1HCY16.

While risk remains, it may be an opportune time to build positions in the banking sector where interest rate cycle reversal, expected in September'16, is likely to rejuvenate interest. Furthermore, valuations also make a strong investment case.       

Despite 300bps cut in discount rate, NII is anticipated to grow by 16%YoY while asset quality is expected to come under stress with provisions rising by 19%YoY to Rs19.8 billion during CY15. That said, any above expected growth in advances on the back of CPEC related development and pick up in local infrastructure activities can provide room for earnings upside.

With interest rate cycle likely to reverse in 2HCY16, still there is significant room for valuation rerating in an improved macro setting. In the near-term, any surprise on the capital gains front in the upcoming result announcements can be a swing factor providing reason for banks to rally.

IMF Review of Pakistan economy: Privatization remains a hurdle

The International Monetary Fund (IMF) has completed a review of performance of Pakistan’s economy. This has paved way for release of another tranche of US$500 million subject to the approval by the Fund's Board.

It is encouraging to note that the Government of Pakistan (GoP) has managed to meet all five covenants for the period ended 31^st December 2015 as recent foreign inflows amounting to US$2.4 billion helped in achieving US$9.3 billion NIR target, while retirement of budgetary borrowing from SBP kept NDA below its prescribed ceiling of Rs2.58 trillion.

Revenue collection was slightly below the required target reflecting impact of recently imposed duties. This helped the GoP to achieve targets for limiting budget deficit to Rs625 billion, which remained a major concern in the last review.

However, GoP was unable to meet structural benchmarks relating to PIA's privatization, where news flows indicate further delay. While clarity in this regard should emerge from the review report (likely to be released next month), low probability of privatization being completed this year does not bode well and likely to constrain fiscal space further, as Rs50 billion have been budgeted in FY16 under privatization proceeds.

IMF has maintained its positive tone on the country's economic outlook with optimism driven from investments under CPEC, higher construction activity and lower oil prices. However, weak agricultural output this year with low cotton production (down 33%) is a key risk where the Fund has reiterated its GDP growth projection at 4.5%. Inflation level is projected at 3.7% for FY16.

The news flows indicate a possible delay in privatizations of both PIA and power entities by GoP but the Fund has remained silent on the future course for privatizations - contrary to the last review where the IMF emphasized on it. The clarity on Fund's stance on privatization is likely to emerge from the review report to be released late next month.

There is strong perception that Pakistan will get the money irrespective of meeting or not meeting the agreed targets due to the support of its western allies, and neighbors Afghanistan and India. Analysts openly express fears that an economic meltdown could further destabilize the atomic power having a population of over 200 million, suffering from looking power shortages, wide spread corruption and ever growing militancy.

Fragile economy, energy crisis, corruption, militancy

Is World Economy Trapped in Death Spiral

Let me first of all refer to a news item that CNBC has reported. It says the global economy seems trapped in a "death spiral" that could lead to further weakness in oil prices, recession and a serious equity bear market. It also says that some analysts have turned bearish on the world economy this year, following an equity rout in January and weaker economic data out of China and the U.S. The other explanations include:

1. U.S. dollar has risen by around 20 percent against a basket of currencies.
2. Crude oil prices have tumbled by around 70 percent since the middle of 2014.
3. The dollar would weaken in 2016 and that oil prices were likely bottoming, potentially providing some light at the end of the tunnel.
4. The forecast reflects expectations of gradual improvement in countries currently in economic distress.
5. The various factors would lead to significant and synchronized' global recession and a equity bear market.
6. The silver lining is that the world economy will grow by 3.4 percent in 2016 according to the International Monetary Fund.

These are the excerpts from a report from the developed world prepared by the wiz kids. However, a person like me who belongs to the third world could only laugh at the amateurish approached of a leading international broadcaster.  I would term it ‘an attempt to mislead the audience’ as the media houses operate on the advice of ‘lobbyists’.

To substantiate my point it suffices to say that the global media has been talking about declining number of oil rigs in the US but oil output does not show any corresponding reduction, on the contrary output is on the rise. Reportedly number of active rigs has come down to less that from peak of over 1600.

Lately the World Bank has also warned that global growth rate would come down due to ongoing wars in the Middle East. Interestingly the developed world pushes the countries into proxy wars and then basing these create huge and cry about plunging economies.

I will conclude on the point that the US and Saudi Arabia were partners in taking oil prices to record high and now the animosity between the two is responsible for the rock bottom prices.

Previously the wars were fought with arms but now countries are subjugated by destroying their economies. The most glaring example disintegration of USSR and other living examples are Iran, Iraq, Libya, Nigeria and Sudan.

The moral of the story is that the death spiral is in nobody's interest but rational behavior, most likely, will prevail over. But the broadcaster has shown only one side of the coin. Now it is up to the audience and readers to find out the motives of super powers, their modus operandi and above all the disinformation spread to mislead the people, especially those who are being exploited.

Why analysts are talking about declining oil prices only?

Somewhere I read a story about the energy giants ‘seven sisters’ which virtually control the global economy. All analysts are talking about declining earnings of these companies but not about the benefits of low oil prices. The same is also true about Pakistan where analysts are too worried about earnings of less than half a dozen oil & gas exploration companies but hardly demand the government to stop persistent hike in taxes on petroleum products.

A few months back I raised a question in one of my blogs, who are the beneficiaries of declining oil prices? At that time my own inference was that the US is the biggest beneficiary, being the largest consumer of energy products. After lapse of a few months I still withstand my point of view. I even go to the extent of saying that not only all other oil producing countries are plunging into serious financial crisis but Saudi Arabia and Russia are worst hit. Lower oil prices may keep proceeds from oil export low for Iran but it may gain the most after easing of sanction it had endured for more than three decades. Its non-oil exports are likely to increase substantially and it may also succeed in attracting enormous foreign direct investment in virtually every sector. 

Declining oil prices have enabled the US in increasing its strategic reserves, oil imports remain high and indigenous oil production still hovers at record high levels, above 9.2 million barrels a day. Reportedly the US crude inventories have surpassed the 500 million barrels milestone. Two of the global benchmarks WTI and Brent bounced up and down throughout the week ended on 5th February. However, faltering global economies offer a chance to the US Fed not to hike the interest rate, resulting in weak dollar and pushing oil price higher again. 

The western media is now trying to create an impression that the collapse in oil prices is now bleeding over into the broader global economy. They talk about the ongoing down turn in oil exporting countries, from Saudi Arabia to Russia, Venezuela, Iraq, Nigeria, and more. They have strange rationalization that cheap energy should bolster consumption, but the drop in commodity prices has been so sharp that questions continue to arise about the creditworthiness of some oil producers, Venezuela tops the list. With billions of dollars in debt due this year a rapidly shrinking ability to deal with the crisis, a debt default may not be too far off.

Citigroup added its voice to those concerned about the health of the global economy, citing four interlinked forces – a strong U.S. dollar, low commodity prices, weak trade, and soft growth in emerging markets – for the sudden fragility and potential for a global recession. "It seems reasonable to assume that another year of extreme moves in U.S. dollar (higher) and oil/commodity prices (lower) would likely continue to drive this negative feedback loop and make it very difficult for policy makers in emerging markets and developing markets to fight disinflationary forces and intercept downside risks," Citigroup analysts warned.

ConocoPhillips (NYSE: COP) made news this week when it became the first US-based oil major to slash its dividend. Italian oil giant Eni (NYSE: E) was the only other oil major to have done so – it cut its dividend almost a year ago. ConocoPhillips cut its dividend by 65 percent this week, and the company’s CEO argued that the move would save $4.4 billion in 2016.

The oil majors are having trouble covering spending and also their shareholder payouts with their underlying cash flow. By and large, they are making up for the shortfall with new debt. Chevron took on an additional $9.6 billion in debt to cover dividend obligations, ExxonMobil added $10.8 billion in fresh debt, and BP took on another $4.6 billion. At some point, something has to give. S&P downgraded a long list of oil companies this week, including Chevron and Shell. It also put BP and ExxonMobil on review for a possible downgrade.

A quick rundown of the full-year earnings from some of the oil majors:

•    BP (NYSE: BP) lost $6.5 billion in 2015, one of the company’s worst on record.
•    ConocoPhillips (NYSE: COP) posted a loss of $4.4 billion in 2015.
•    ExxonMobil (NYSE: XOM) saw profits halve to $16.2 billion.
•    Royal Dutch Shell (NYSE: RDS.A) posted a profit of $3.8 billion, down 80 percent from 2014.
•    Chevron (NYSE: CVX) reported a loss of $588 million, its first loss since 2002.

KAPCO likely to post robust earnings growth

Pakistan’s largest independent power producer (IPP), Kot Addu Power Company (KAPCO), is scheduled to announce its second quarter (2QFY16) financial results on 23rd February 2016. The Company is expected to post profit after tax of Rs2.6 billion (EPS: Rs2.94) for 2QFY16, showcasing muted growth of 7%YoY taking 1HFY16 cumulative profits to Rs4.7 billion (EPS: Rs5.34). The Board of Directors is also expected to approve payment of an interim dividend of Rs4/share, where upside may stem from improved liquidity.

Earnings are likely to be a function of: 1) load factor of 57% as compared to 61% for the corresponding period year, 2) increased generation on gas (18.7% of units generated as compared to 5.5%) allowing for higher efficiency coupled with O&M savings and 3) drastic (68%YoY) dip in finance charges in part due to falling cost of borrowing, and lower working capital requirements from falling input costs.

Assessing the heavily regulated and GoP reliant nature of the Power sector, KAPCO bears risks in the form of: 1) liquidity concerns hampering payouts as the company had a negative spread on receivables as compared to payables, relying on short term loans to fill the gap, 2) mechanism for generation on LNG yet to be sorted, with standby letters of credit a possible roadblock and 3) delay in planned privatization due to the process being devoid of technically sound sponsors.