EFG Hermes says devaluation is the sole option in Egypt

The devaluation of the Egyptian pound is necessary to improve liquidity and start an equity market rally, the leading investment bank EFG Hermes stated in its latest report called “What does 2016 hold for the MENA region”.

A rally is defined as a period of sustained increases in the prices of stocks.

“The Egyptian market is preparing for devaluation,” the report said. The recent policy moves included “a large increase in credit defaults (CDs) yields at government-owned banks, a surprise appreciation of EGP against the USD, the clearing of the backlog of portfolio capital and dividends, and efforts to limit price inflation”.

The real interest rates increased in 2015, creating a shortage of liquidity in the market but as devaluation in the currency occurs, liquidity will be reintroduced to the market, the report noted.

“An EGP devaluation should reverse a clear trend in portability for banks and non-financials that has emerged over the past five years,” the report said.

“Banks have made record return on equities (ROEs) lending to government and supplying scarce FX,” the bank said and that “non-financials have suffered from shortages of FX and energy”.

Addressing how non-financial companies will be affected by the devaluation, EFG Hermes projected that Oriental Weavers Carpet Company (ORWE), Orascom Telecom Media and Technology Holding (OTMT), Global Telecom Holding (GTH), and Lecico will all benefit from the devaluation.

Companies that have hedged against the devaluation included El-Sewedy Electric Company (SWDY), Sisi Kerir Petrochemicals Company (Sidpec), and Egypt Kuwait Holding (EKHO).

The pound devaluation will have a negative influence on the costs and debt payments of Arabian Cement, as well as the costs of Integrated Diagnostics Holding (IDH), Ezz Steel, and GB Auto.

EFG Hermes predicted that the annual average for dollar against the pound will be EGP 8.3 in 2016 and EGP 9 in 2017.

The overvalued Egyptian pound represents a considerable constraint on growth, the bank indicated. Equities will be unable to re-rate without a market-clearing move in the pound.

“High inflation differentials are another important driver of the real effective exchange rate (REER) appreciation and deterioration in the broad balance of payments in the past five years means that Egypt’s net foreign asset (NFA) position is very weak,” EFG Hermes’ report read.

The bank explained that as Egyptian assets become cheaper in terms of dollar over the next six months, GCC will become an important source of portfolio and direct investment once the exchange rate has stabilised.

“A successful devaluation would mean that Egypt becomes one of the few MENA markets to import capital in 2016,” it said.

Regarding its stance on the country’s positioning in 2016, the bank said it is “neutral” as it awaits a shift in currency policy that can catalyse growth and market performance. “We prefer smaller-cap names trading at a deep discount until the overhang clears,” it said.

The report stated that MENA countries should take into account lower oil prices and rising interest rates but they should not forget about the political tension in the region as they set their policies.

“Tension between the major regional powers – Egypt, Iran, Saudi Arabia, and Turkey – are high and Europe, the US, and Russia are being drawn into conflicts in Iraq and Syria,” the report said. “Meanwhile, peripheral states such as Libya and Yemen remain unstable.”

The report indicated that the market performance in Egypt will rely on the policy choices the country makes. It further criticised that Egypt and Saudi Arabia “have fallen short of the UAE in their communication of policy shifts, both to the public and to the wider investor community. We believe policy clarity is particularly important in a global context in which growth is becoming scarcer”.

“While we are broadly pessimistic on MENA and EM markets in 2016, we believe significant divergence between markets is policy, conditional on economic reforms,” the bank said.

The report expected Egypt’s GDP growth rate in 2016 and 2017 to be 3.7% and 4.1%, respectively. Year-on-year consumer price index (CPI) inflation is anticipated to reach 9.3% in 2016 and 11% in 2017.

International foreign reserves will reach $15.1bn in 2016 and $11.3bn in 2017, EFG Hermes estimated.

Source: Daily News Egypt