Breather at KSE-100

Following a rally of eight weeks straight, bulls at the benchmark KSE-100 finally gave in last week and paused to take a breather as the index closed 1.7 percent lower on week-on-week basis. Although a couple of feel good sentiment-building news marked last week, the market responded more to negative developments amid expectations that sooner or later a correction had to happen.

Hype surrounding growth in remittance and foreign direct investments and affirmations of long-term bond ratings at B-minus alongside stable outlook was offset by the Supreme Court’s GIDC decision and the government’s revised agreement with the IPPs. Poor earnings in the just started earning season did the rest.

One could, in fact, even argue that the market was looking for a reason for correction and it found that in the GIDC and IPP news flow. Similar sentiments appear to mark this week. As earning season continues, the market can be expected to respond poorly to likely poor earnings in many cases (as the pandemic affected fourth quarter), whereas future rollover due this week may also dictate market sentiments. As a result, one may expect weak to range bound behaviour at the overall index, sans sharp buy or sell side movements in select stocks, depending on short or long positions, earning surprises and so forth.

In a sense, for bull market wishers, the KSE-100’s current phase of slight correction and mild consolidation is better than making weak attempts at crossing strong resistances. As high-altitude trekkers and climbers know well, journey to a mountain top requires several camps in between. Besides, by this time next week, the gradual decline in Covid-19 numbers may also cement the case that pandemic worries should be over in Pakistan. Not that this should be advocated from public health perspective, but that is how the market reads these datasets.

But here is a question worth asking. What is the level of key market multiples (P/E, P/B, Dividend Yield) at which the KSE-100 should be expected to peak in the near to medium term?

Sell side players have been touting that Pakistan’s price to earnings are half of regional average and dividend yield is about twice the regional average. These metrics indeed give a good handle on peak and troughs when foreign investors are actively investing in domestic market, or if domestic investors are active players in regional markets, dumping stocks here and buying elsewhere or vice versa.

However, since foreigners haven’t been net buyers in Pakistan for a long time now, and locals aren’t active players in the region, the pitch of Pakistan’s lucrative valuations relative to the region doesn’t apply much to domestic investors operating in a quasi-closed environment. This logic should be as clear as the fact that just because tech stocks are trading at 32 times EBITDA at Honolulu stock exchange does not mean that domestic tech stock should also trade at similar multiples.

Sure, in the long term, the hope and promise of Pakistan may make current prices terribly cheap. But until such time regional comparisons become truly relevant, whether the KSE-100 should be expected to hit its near-to-medium term peak at P/E of 9x, 10x or 12x is a discussion worth having.