By Dr. Nayyer Ali

March 04, 2005

Bullish in Karachi

The Karachi stock exchange keeps setting records. For the week of February 14 the KSE-100 index surged over almost 500 points and closed at 7734. In the summer of 2003, when the index broke 4000, this column predicted that with good economic management the index could break 7000 within two years. It looks like we will break 8000. The Pakistani stock market has been the place to put money since 9/11, when it was trading at a level of about 1250.
The market has climbed a wall of worry the whole way. I remember a terrible article in Fortune magazine that ran in the Spring of 2002 that trashed Pakistan and its stock market. They certainly did a disservice to their readers.
Why is the market doing so well? Several factors are in play. First is that the market was profoundly undervalued in 2001. Stocks had been depressed for years due to the accumulated effects of the mismanagement of the 90’s and the flight of capital. The reforms of Shaukat Aziz and Musharraf had yet to bear much fruit, and the agricultural economy was stunted by Pakistan’s worst drought in its history.
But reforms were gathering pace, and industrial production had already started to rise in 2001. Inflation was low, and foreign exchange reserves had already doubled when 9/11 struck. The immediate impact was negative, but the long-term result was a significant improvement in relations with the West, and removal of the American sanctions.
The stock market responded to these events. Stocks doubled in the 12 months after 9/11 and kept going straight up, with only the occasional short-lived correction. The economy then began to surge. Good economic management, in particular a sharp reduction in the debt burden due to rescheduling of the debts, stimulated growth, as did a whole series of other reforms. In fiscal 2002, the economy grew 5.2%, and in 2003 this accelerated to 6.5%. This year the economy is heading for over 7% growth, with industrial expansion at 17%. Pakistan’s growth is being led by vibrant expansion of industry, which is a very healthy trend.
The other major stimulus to the stock market and the economy has been privatization. The selling-off of government owned companies has been a major success of the Musharraf era. The biggest achievement was the transfer of 85% of the banking sector into private hands. This has led to a huge growth in the efficiency of the banks and their ability to provide the credit necessary to the private sector to finance growth. Credit from the banks has hit all-time records.
Privatized state companies also represent investment opportunities for stockholders. The company shares are snapped up and prices driven higher in anticipation that private owners will run the firms more efficiently and with larger profit.
Over the next two years there is still a large portfolio of major government companies that need to be privatized. These include the 11 firms that arose from the recent breakup of WAPDA (8 electric supply companies and 3 distribution companies), the energy companies such as PPL, PSO, OGDCL, and both of the natural gas firms, the phone company PTCL, PIA, Pakistan Railways, and Pakistan Steel. Several of these firms, in particular PTCL, PSO, and PPL are slated to be sold by June. Sales of PTCL and PSO have been announced several times before, only to be put off. Hopefully, the government will carry out the transaction this time.
How much higher can the market go? At this point the market capitalization, the dollar value of all the companies based on current stock prices, is 35 billion, which is still a meager 33% of GDP. In developed markets, market cap can reach 100% of GDP. So based on this, we still have room to grow. Prime Minister Shaukat Aziz announced last week that the economy is now set to grow 8% per year for the next several years. If that is true, and if the government does in fact follow through with the privatization program, the KSE 100 will break 15,000 by the summer of 2008.

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