Karachi, July 21, 2022 (PPI-OT): PKR woes: 2017-19 deja vu; political noise driving panic

Pak Rupee has depreciated ~30% in last one year, with majority of the move seen in last 6 months. While sentiments remain jittery, we draw parallels with 30% PKR move over 2017-19, where levels of Current Account Deficit (CAD), Real Effective Exchange Rate (REER) and Net International Reserves (NIR) suggest that political noise is pivotal to current uncertainty.

12M CAD currently stands at ~US$16.8bn (4.7% of GDP) and is expected to trend lower, while in previous cycle the rolling 12M CAD hit a high of ~US$19bn (5.4% of GDP). REER ranged between 90-105 in 2017-19, while it is in the 93-97 range currently. NIR (excluding IMF liabilities, CNY Swaps, SBP forward Swaps and other CB liabilities) currently stands at negative US$5bn vs negative US$15.5bn at its lowest in the previous cycle.

Import cover averaged at 6-7 weeks in 2017-19, similar to current levels. Uncertainty dissipated once government decided to enter an IMF program in 2019 and also saw equity markets gain 35-40%. Political clarity is hence key as that could pave way to the IMF and address jitters in both currency and equity markets.

Jolting PKR movement, drawing parallels to 2017-19

Pak Rupee has depreciated ~30% in last one year, with majority of the move seen in last 6 months. While sentiments remain jittery, we draw parallels with 30% PKR move over 2017-19. In the 2017-2019 cycle, while government remained undecided on entering an IMF program, the SBP reserves dipped to a low of ~US$7bn (6.7 weeks import cover), with US$16bn net short FX liabilities (net international reserves) as of Jun-2019. The REER level in the previous period was between 90-105.

Today, REER stands at 93-97 and the reserves stand a little short of US$10bn, with an import cover of around 6 weeks, however, the net international reserves stand at a negative US$5bn level. 12M CAD currently stands at ~US$16.8bn (4.7% of GDP) and is expected to trend lower, while in previous cycle the rolling 12M CAD hit a high of ~US$19bn (5.4% of GDP).

Dollar inflows – FM reiterates likelihood despite noise

The Finance Minister, in his press briefing yesterday, has assured inflows of a sum of US$8bn by way of deferred oil and LNG payments, SDRs and cash deposits. As these inflows are expected to start flowing in a couple of weeks from now, and IMF disbursements are also nowhere near before mid-Aug, a 6-week import cover foreign exchange reserve picture does not rule out continuing pressure on PKR.

As per SBP’s numbers provided in May-2022, Pakistan’s has net financing availability of US$0.8bn in 1QFY23 and US$6.9bn for FY23. When materialized, IMF disbursements and prospective cash deposits would take the country’s import cover up to 8 weeks. This would further be supported by the deferred oil and gas deals by shrinking the immediate import payments to some extent.

Investment themes amidst ongoing PKR movement

The macro and currency pressures are also reflecting in equity markets. KSE100 index is back to Nov-2020 levels, while US$ market cap is back to 2010 levels, losing US$ gains of more than a decade. In the last round of PKR depreciation, equity markets gained some breather after the IMF program and unlocked valuations with improving import cover, followed by re-rating of 35%-40%.

While current macros warrant a slowdown in economic activity, with the lens of equity markets, the depreciating PKR against the US$ bodes well for export-oriented sectors such as Textiles and IT, in addition to dollar-based revenue generating sectors such as E and Ps. We highlight MARI among our top picks from the aforementioned sectors, while OGDC and PPL should be on the radar given any development in overdue payments.

An attempt to control the ongoing depreciation may invite another round of monetary tightening, which may continue to shift the preference of the smart money from cyclicals to financials, albeit keeping credit cost as a key risk.