Macro Analysis /

Pakistan Strategy – Make or break

  • Politics remained disruptive, feeding into indecisive policy making. The KSE100 lost 11% in US$ terms

  • Imran Khan’s actions and the IMF programme will remain of key importance in the near term

  • Risks may largely be in the price, but more clarity is needed on politics and reforms for equities to rally

Raza Jafri
Raza Jafri

Executive Director, Research

Intermarket Securities
30 May 2022

Confusion reigned in May

The aftershocks of Imran Khan’s government being toppled reverberated strongly in May. Mr Khan demonstrated mass popular support in multiple cities and called for early elections, while the PML-N led government dragged its feet on taking the tough steps necessary to restart the IMF programme. This initial inaction led to the PKR slipping to record lows and equities losing 5%mtd (-11% in US$). Recovery is now underway as the government reduced fuel subsidies last week. However, it is one thing to potentially recoup May’s losses and another to embark on a sustainable rally. The latter requires more visibility on politics and the economy.

Watch Imran Khan, IMF talks and the Budget

Politics is still very noisy

Imran Khan called off his march onto the capital at the last minute and gave an ultimatum for an election date to be announced. However, the government appears to be digging in, commencing belt-tightening measures with the stated intent to resume the IMF programme in June. We believe the government will be wary of calling early elections (its term ends in August 2023), but the situation remains fluid and this could yet change. Imran Khan will likely keep up the pressure if his ultimatum is missed later this week, and possibly march onto the capital again. In this regard, the National Assembly has quickly passed legislation that partly defangs the apex accountability body and disenfranchises overseas Pakistanis (electronic voting disallowed), possibly a sign of bets being hedged should early elections become unavoidable.     

Economy: Not out of the woods but default should be avoided

Staff-level talks with the IMF emphasized the removal of fuel & power subsidies, and a fiscally responsible FY23 Budget. This immediately resulted in a 20% increase in petrol prices, raising hopes that the government will be able to revive the stalled EFF programme soon, unlocking other multilateral funding and bilateral flows from Saudi Arabia and China. We believe default is off the table (a Eurobond maturity is due in July), but the economy will likely go through a painful stabilization phase that will test the government’s resolve. CPI may register in the high teens across the next few months and interest rates may stay higher for longer. With the current account facing headwinds from elevated commodity prices, Fx reserves buildup will remain challenging.

FY23 Budget can be a tough one

The SBP’s benchmark rate has almost doubled in less than a year to 13.75%. The upcoming FY23 Budget (due on June 10th) could now see the fiscal side shouldering more of the burden. The IMF has reportedly asked for PKR7,250bn tax collection in FY23 (11% of GDP), about 20% higher than the revised FY22 target. Some measures to achieve this may include a windfall levy on certain sectors e.g. banks, and an end to GST exemptions e.g. on urea and tractors. If the tax collection target is missed, it may be necessary to reduce development expenditure, as was the case this year. The government will provide targeted relief where it can, but the overall picture is one of austerity and belt tightening.    

Equities can bounce back but more needed for a longer rally

The KSE100 has clawed back some of its mtd losses and can continue to bounce back in the near term, with support coming from FM 100 inflows and expected economic stabilization. Top-down risks appear to have been largely priced in, going by the large valuation discount relative to the market’s own history as well as to the region. However, a longer-lasting rally needs more clarity on politics and structural reforms, which may only come through in a government with a full term ahead of it. Our portfolio of top picks shed 9% in May. We broadly maintain our recommendations, but replace FFC with BAFL. A urea price cap has recently been imposed by the government, while margin-sensitive banks such as BAFL are well placed in the high interest rate environment.