Iran Stock Market Rally Raises Risk Of A Bubble

Iranian share prices have rallied 40% in the past four months, at odds with the country’s deteriorating economic fundamentals under the weight of sanctions and raising the risk of a stock market bubble, analysts say.

While a weak currency, high unemployment and double-digit inflation are contributing to a contraction in the Iranian economy as Western sanctions crimp the country’s energy and banking sectors, some listed companies are benefiting as a sharp currency devaluation has made them much more competitive.

That is boosting the share prices of companies like Sina Chemical Industries, up 145% since October, and Abadan Petrochemical Co, up 18% in that time.

Surging demand for shares, however, also reflects high inflation, a devalued currency and a lack of alternatives for local investors to park their cash, making the stock market overvalued and vulnerable to a sharp fall, analysts say.

Sanctions imposed by Western countries that have cut much of Iran’s access to the global financial system have made it difficult for wealthy Iranians to send their money overseas, said an economist in Tehran, who did not wish to be identified.

“There are some people who got extremely rich in the past few months, again because of the devaluation of the unofficial rate of the rial,” he said. “They don’t really have the option of sending their money to banks abroad or investing in other countries, so they invest in the Tehran Stock Exchange.”

The Tehran Stock Exchange’s (TSE) main index, TEPIX, closed at a record high of 33,889.4 points on December 11, and is up from around 24,000 in August with daily turnover averaging $67.1mn this year.

The heady gains have led exchange officials to warn investors not to get carried away by the recent rally.

“Experience tells us that buys must be made on the basis of analysis and a long-term view,” said Mahmoud Reza Khajeh-Nasiri, a senior exchange official, according to the Iranian Students’ News Agency in October. “Investors … should not be caught up in the excitement.”

With 300 or so listed companies, the bourse has a market capitalisation of $120bn, at the government’s exchange rate for the rial currency.

The rial has lost more than half its value in Iran’s open market in the last year as sanctions have prompted Iranians to convert savings to hard currency on the view that reduced oil exports and foreign exchange earnings will limit the central bank’s ability to defend the rial.

It now sells for about 30,000 to the US dollar in the open market. The government maintains a much stronger “reference” rate for the rial of 12,260 to the dollar that is only available for the import of some basic goods.

Depreciation of the rial has made foreign imports more expensive and boosted demand for locally made goods as the Iranian government has also limited the imports of some items in a bid to preserve its foreign exchange reserves. That is supporting the rise in some local companies’ shares.

“If there are additional restrictions imposed by outsiders or by the Iranian government on imports, then Iranian companies would become more profitable due to additional demand for their products and services,” said Hossein Ebneyousef, president of the US-based International Petroleum Enterprises, an oil and gas consultancy firm.

The stock market rally is also driven by demand for shares of companies seen as benefiting from a large gap between the government’s official rate for the rial and the currency’s free-market value.

“Stocks of some companies such as those in mining industries and base metals have become popular as a result,” the economist in Tehran said by phone.

They include the shares of Chadormalu, a producer of iron ore concentrate, which have jumped 67% since October.

The main players on the bourse, which opened in 1967, are banks, pension funds and “bonyads,” or wealthy charitable trusts that control a significant portion of Iran’s non-oil economy, as well as a pool of retail investors.

Foreign investors accounted for just 0.5% of listed companies’ share ownership in 2010, the latest available data.

Iran’s oil exports plunged by more than 50% in the last year as a result of US and European Union sanctions aimed at cutting Tehran’s funding for a nuclear programme Western countries suspect is designed for military purposes. That has cost Iran up to $5bn per month, according to US officials.

Tehran denies the programme is for nuclear weapons.

Since the European Union implemented an embargo on Iranian oil on July 1, the TSE has risen by 33% and with sanctions set to continue, Iranian money is likely to keep pouring into the stock market.

“Other investment opportunities for Iranians include gold, but gold prices have risen considerably as well and are also linked to the dollar so that’s not a real option,” said Ebneyousef. “The next traditional option is real estate, although that too is getting very expensive and unaffordable.”

Apartment prices in Tehran in the spring of 2012 were 31% higher than a year earlier, according to official statistics reported by the Hamshahri newspaper, as wealthy Iranians saw property as a relatively safe haven.

Some Iranian retail investors however said they did not feel confident investing in stocks, partly because any gains are susceptible to a further devaluation in the rial, especially if Iran faces another round of sanctions.

From February next year, US law will prevent Iran from repatriating earnings it gets from its shrinking oil export trade, a powerful sanction that will “lock up” a substantial amount of Tehran’s funds.

“Only a few months ago we saw how the (currency) market went upside down in a few days,” said Mehdad, 37, who runs a private family business and did not wish to be identified in full. He was referring to a 35% drop in the rial’s value in late September and early October, after a government move to prop up the currency backfired. “There is no guarantee that wouldn’t happen again. Investing in rials is a big mistake.”

Others said the market did not reflect the fundamentals of Iran’s economy, which the IMF forecasts will shrink 0.9% this year, and was distorted by inflation running officially at 25% and the weaker rial, which pushes up the nominal price of stocks though their real value remains the same.

But with sanctions set to remain in place, and alternative investment opportunities for Iranians increasingly limited, the lure of the stock market is likely to remain. That will expose Iranian retail investors to risk if further sharp swings in the rial or unforeseen political events prompt institutional investors to withdraw their money from already inflated assets.

“The TSE is effectively a sanctions-subsidized market,” said Paul Sullivan, a professor of economics at the National Defense University in Washington, DC. “It is a bubble. More sanctions could end up pumping it up more … The savings in Iran have to go somewhere within Iran if other options are blocked.”

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