View from McLeod Road: The financial markets want better ties with America

Investors want assurance that Pakistan will remain connected to the global economy.

KARACHI:

It is the worry that keeps professionals in Pakistan’s financial services community up at night: just when the country is beginning to be noticed by global financial titans, Islamabad’s sour relations with Washington might put a damper on the whole thing.

The Karachi Stock Exchange has had a good run thus far this year, with the benchmark KSE-100 index up by around 21% since January 1. Foreign investors, particularly those in rich-world countries desperate for higher yields, are finally beginning to notice.

First there was the announcement by Deutsche Bank in November 2011 that it would launch the very first exchange-traded fund designed to track the MSCI Pakistan Investable Market Index. The fund will trade on the Singapore Stock Exchange and is a big vote of confidence from one of the large institutional investors in the world. Deutsche Bank’s ETFs manage close to $50 billion in assets worldwide.

But then came the big one earlier this month. MSCI, the New York-based investor index and research provider, announced that it would be launching the MSCI Frontier Markets 100 index, an index designed to make it easier for portfolio managers in developed economies to invest in riskier markets. Of the 100 companies in the index, 10 were Pakistani firms.

Yet what made this development big was that MSCI did not create this index in isolation, but in response to a request from one of its biggest clients, BlackRock, the largest asset management company in the world, with over $3.6 trillion in assets under management. For Pakistan’s financial markets, getting noticed by BlackRock is a very big deal. For anyone to get noticed by BlackRock is a very big deal.

Imtiaz Gadar of KASB Securities, arguably the most respected stock market analyst in Pakistan, notes that there are two benefits to MSCI’s new index: “Firstly, it would result in the flow of passive funds, and secondly, it would result in increased visibility [for Pakistani companies],” he said in a note issued to clients on Tuesday.

Yet there are nevertheless worries. Foreign investment will only flow into the country so long as the macroeconomic fundamentals remain stable. And on that front, the markets are quietly praying that the recent murmurs of a rapprochement between Islamabad and Washington pan out.

There are signs that the markets are betting on improved ties. The currency, notes Gadar, has stabilised at just above Rs90 to the US dollar. A stable currency ensures that foreign investors who put their money in rupee-denominated stocks do not see their returns erode when they convert their money back to dollars.

A stabilisation of ties with the United States would have important effects on the economy. US payments from its Coalition Support Fund would help reduce the size of the federal budget deficit, which in turn would help reduce the government’s borrowing and its inflationary effects.

US relations also affect the rupee, which has depreciated by 7.8% since the May 2 US raid on Abbottabad that killed Osama Bin Laden. By comparison, in the two years before that raid, the rupee had depreciated by only 4.2%.

Gadar remains optimistic about the recent parliamentary review of ties with the US. “While some opposition parties are playing to the gallery and signalling that a resumption of NATO supply routes without ending drone strikes will be resisted, we reckon a middle ground will be reached and supply routes re-opened shortly.”

In other words, the markets want normal relations with Washington. The last thing anybody wants is to become another Iran, where the leadership utters plenty of anti-American rhetoric, but whose businessmen struggle to trade with anyone in the world.

Published in The Express Tribune, April 23^rd, 2012.