Macro Analysis /

Pakistan Strategy: Calling all contrarians

  • The KSE100 lost 4.6% in December (-5.6% in US$), bringing a very difficult 2022 to an end

  • It could get worse before improvement comes, with the import cover standing at just 1.1 months amidst policy paralysis

  • Saudi assistance and the IMF programme remain critical and we believe both will materialize. Buy into the dips

Raza Jafri
Raza Jafri

Executive Director, Research

Intermarket Securities
1 January 2023

Winter of our discontent

Pressure on Fx reserves, amidst the pending 9th IMF review and delays in bilateral assistance, took the KSE100 down 4.6%mom in December (-5.6% in US$), with the Index only just closing out the year above 40,000pts. Foreigners continued to exit, with legacy strategic stakes in MCB and BAFL sold down. Pakistan is plagued by policy paralysis on the economic front, but the new year also brings the possibility of a reset, with elections due in October. It could get worse before it gets better, with the shallow import cover likely to continue fraying nerves, but there is a case to be made that the bad is largely in the price, with forward P/E of 3.4x at a steep c 60% discount to the 10yr average. The continuation of the IMF programme remains critical, but interim relief could come earlier in the shape of fresh assistance from Saudi Arabia. Further weakness would be an opportunity to time the market, in our view, with significant room for upside through the cycle.   

Watch Bilateral assistance, IMF conditions and Politics

Politics: Mexican standoff The logjam in politics continues to persist, with PTI continuing to push for early elections and the PML-N trying to balance economic realities with relief efforts. This is prolonging the policy inaction and delaying the 9th IMF review, which should have been completed by now. Given the urgent need for action to revive the IMF programme and procure fresh bilateral funding, the possibility of a technocrat-led government has made its way into the discourse. Such a setup would need very strong backing and slack by political parties, which appears to be missing. The army, for its part, appears to have scaled back as it focuses on the resurgent TTP. It may still have to play a supportive role, for instance in helping to secure funding from Saudi Arabia and China, but there appears to be low appetite for much else for now. The base-case thus is for the PML-N led ruling coalition to complete its term.

Balance of Payments: Cutting it very close Pakistan successfully met the US$1bn sukuk maturity in early December, but confidence on meeting external debt obligations in 2023 is low, with Fx reserves now at US$5.8bn (1.1 month import cover). There is little conviction also that the donors conference scheduled for Jan 9th in Geneva will generate meaningful funds for post-flood reconstruction. Pakistan urgently needs the promised US$3bn from Saudi Arabia, together with the continuation of the IMF programme. PM Sharif has indicated there is no option but to comply with IMF conditions (market-based exchange rate, energy reforms, higher revenue generation), but the government needs to walk the talk a lot faster. So far, it has eased certain import restrictions and reduced subsidized interest rates for exporters, but seems to be keeping the PKR in check through a mix of controls and moral suasion. This is unsustainable and we expect the PKR to slip and quickly close the c 10% gap with the open market. Interest rates, however, may be close to peaking. We expect the policy rate to rise by 100bps to 17%, broadly in line with core inflation, in the next MPC meeting set for Jan 23rd.     

Equities: Buy into the dips Similar to December, we expect equities to closely track Fx reserves in the near-term. These could yet get lower, with commercial bank repayments of c US$1bn reportedly due in early January. There are headwinds for corporate profitability also, with additional taxation a tangible possibility in the wake of the floods, but this is not deterring the likes of ENGRO from continuing the trend of buybacks. We reiterate that the ultra-cheap valuations largely account for the risks already, and would take further weakness in the KSE100 as an opportunity to build positions. Such is the focus on the negatives (sell-side Index targets for 2023 are the most conservative in many years) that a semblance of improvement can lead to a quick rebound - for instance the energy chain has rebounded strongly as the government has turned its attention to addressing circular debt. For our top picks, we replace MLCF with MTL. The pivot into cyclical sectors may be put on hold until greater clarity emerges, while MTL's recent sharp correction has opened up a suitable entry point. Away from our formal coverage, we flag our liking for NATF and THALL.