THE FUND:

Victory or not? All eyes on the Finance Minister.

During August, the fund went up by 1.1% as compared to the benchmark’s MSCI Pakistan Net (SEK)’s return of -2.3%. Pakistan’s broader Index slipped marginally downwards in anticipation of the government’s economic plan to bridge the trade deficit gap. Investors opted to remain “hopeful” under the current testing economic conditions, expressing a “too-early-to-judge” attitude. In August, the fund partially reduced its over exposure in Cyclicals, such as Cements and Steel and ploughed the money back into the Banking sector and diversified conglomerates. The increased exposure in Meezan Bank – one of the fastest growing local banks – and Fauji Fertiliser Bin Qasim was to capitalise on the stronger earnings growth from current levels, especially after the hopeful conclusion to a foreign investment in Fauji Foods, a subsidiary of Fauji Fertiliser, where alpha has already been captured by the fund.

THE MARKET:

August was a test of nerves. And a major one at that. Under normal (read: status quo) circumstances, the Current Account Deficit of USD 2.2bn (8% annualised GDP) in the month of July 2018 would have created havoc, if the political regime had been a tried-and-tested one. However, investors are giving the new government led by Imran Khan some leeway to settle in and take up the reins. Part of the reason is that valuations at end-2019 are undemanding at P/E ~8.5x mainly because the government is in the first month of operations and all economic and political plans are being reset. Economic Advisory Councils, Cabinets and a Structural Reforms Committee have been formed while ministers are being “briefed” on the prevailing conditions. Frankly, this time, it is easier to monitor updates as law-makers are presenting cases in Parliament more frequently as opposed to sharing discrete reports with members of the press.

We believe a key event for the government will be the arrival of Mike Pompeo, the U.S. Secretary of State, along with General Dunford, Chairman Joint Chiefs of Staff, on September 5th. Mike Pompeo has previously hinted that Pakistan’s potential discussion with the IMF to resolve its current difficulties may be challenged by the U.S. This was an indirect criticism of China’s economic and political ambitions. In this vein, the Pentagon has withheld USD 300m in military reimbursements. Successful or no, these meetings will determine whether Pakistan can easily access the IMF’s bailout package or not. Meanwhile, Pakistan’s new Finance Minister, Asad Umar, has said that “all options are open.” Market talks suggest a definite launch of Diaspora and Sukkuk Bonds on an annual basis to attract between USD 1bn to 2bn, and securing oil on a credit facility from Saudi Arabia and Kuwait. The Chinese banks are ever-ready to keep the reserves steady (as needed) at 7 weeks of import, at present. Measures to fix the economy would require a combination of hefty import duties on luxury items, further monetary tightening of up to 100bps immediately along with cuts in the Development Budget (to the tune of 1% of GDP). These measures are necessary despite the resulting cut in projected GDP growth rate to slightly above 4%.

In the political hullabaloo, some notable economic improvements have also been taken: (i) Real Effective Exchange Rate has contracted 17% from peak to 108, (ii) the government is actively promoting austerity measures to reduce governance-related expenses, (iii) the Supreme Court has created a task force to repatriate laundered money, (iv) the guaranteed Return on Equity on power plants has been lowered to 14%, and (v) “discretionary” funds allocated to politicians are being abolished. We expect that the pace of structural reforms is likely to set an upward trajectory. The Prime Minister has asked for a 3-month operational time-frame before judgments are passed on the government’s effectiveness. We are patient, given the nature of investing in Frontier Markets, and have chosen to accept the government’s self-imposed deadline. We are watching the situation closely, awaiting the unveiling of the Finance Minister’s economic plan in the next few weeks.

DISCLAIMER:
Capital invested in a fund may either increase or decrease in value and it is not certain that you be able to recover all of your investment. Historical return is no guarantee of future return. The state of the origin of the Fund is Sweden. This document may only be distributed in or from Switzerland to qualified investors within the meaning of Art. 10 Para. 3,3bis and 3ter CISA. The representative in Switzerland is ACOLIN Fund Service AG, Affolternstrasse 56, CH-8050 Zurich, whilst the Paying Agent is Bank Vontobel Ltd, Gotthardstrasse 43, CH-8002 Zurich. The Basic documents of the fund as well as the annual report may be obtained free of charge at the registered office of the Swiss Representative.