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Sri Lanka: Colombo All Share Price Index to reach 12,000 by 2013-report

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Equity Analytic
Equity Analytic

By J.A. Fernando in Colombo

Colombo, 09 May, ( While for long term growth, the Colombo stock market needs to expand further, improving liquidity and introducing effective measures to curb manipulation; a recent research report on Sri Lankan equity investments by NDB Stockbrokers forecasts that the analysts expect the All Share Price Index (ASPI) to reach 12,000 levels by 2013.

“But do not believe the exceptional gains witnessed in 2009 and 2010 are feasible in the immediate future.” NDB analysts stressed adding that they remain bullish on the equity market, although that investment decisions based on logic rather than speculation is vital to sustain the positive momentum.

The Analysis by NDB stock brokers forecast that Lankan Equity Market needs expansion as the Sri Lankan equity market does not properly represent the overall economy. Accordingly, the report outlines that the key sub segments of the economy including Retail trade, Transportation, Banking and Insurance giants such as Bank of Ceylon (BOC), People’s Bank (PB), National Savings Bank (NSB), Sri Lanka Insurance Corporation (SLIC), Business Process Outsourcing giants such US listed Virtusa, Millenium Information Technologies (MIT), Textiles giants such as Brandix, MAS Holdings, Power & Energy giants such as Ceylon petroleum Corporation (CPC), Ceylon Electricity Board (CEB), Mining segments, Paddy, Minor Exports and Fishing segments are hardly represented in the equity market.”

“Hence we estimate the equity market represents less than 30% of the overall economy,” NDB analysts outline. However the report points out that the robust economic growth will be reflected in the increase in revenues recorded by all listed companies, although certain sectors will record higher growth compared to others.

“In line with the real GDP growth estimate of 8%, but we estimate an average revenue growth of 15% per annum.” The report further highlights adding that a one off benefit of over 10% is expected to the corporate profits in 2011 with the reduction of corporate tax from 35% to 28%. Analysts also forecast that in addition with economies of scale and increased utilization of capacity (operating leverage), the operating profit margins are estimated to improve by 1% per annum.

“Accordingly we estimate an average growth in core earnings excluding exceptional items per share, basis of 40% for 2011 and around 25% for 2012 and 2013.”

Meanwhile, the report also stress that raising of capital for expansion, in the form of rights issues would dilute profits on a per share basis in the short run while the NDB analysts have ignored that impact assuming that in the long run the businesses will maintain the Return on Equity (ROE), resulting in a substantial growth in profits on a per share basis.

According NDB analysts estimates the overall market Price to Forward Earnings (P/E) based on the estimated earnings for Financial Year 2010/2011 is 18 times.

“However the P/E increases to 20 times once the exceptional (non-recurring) gains are excluded.” The analysts forecast adding that over the next 3 year time, they consider a P/E of 15 times considering earnings excluding exceptional gains are justifiable since the initial growth phase of the country is likely to maintain the positive sentiment.

Accordingly NDB analysts forecast that in line with the growth in earnings, the overall share prices on average could gain 20% per annum over the next 3 years, while certain sectors and companies will outperform the overall market.

As per the report the stock market steamed ahead in January to February in 2011 with the All Share Price Index (ASPI) recording an 18% gain. While such an upraise had followed the exceptional gains made in 2009 and 2010, of 114% and 91% respectively NDB analysts outlines that around 40% of the gains made in January and February were shed in March 2011.

The market activity had been lukewarm in April 2011 with the indices remaining stagnant added with the turnover levels and foreign investor participation remaining low. The report also stresses that while banks have increased lending for share trading through margin trading facilities, the credit exposure of banks and broking houses for share trading is at over Rs.10 billion and Rs.2 billion respectively.

The increase in credit granted for share trading have contributed to short term, speculative trading.

“While such trading is essential to improve liquidity, it should result in increased level of activity within a relatively narrow share price band.” NDB analysts opine adding it should not result in steep increase in prices of shares in the absence of a fundamental rationale.

They highlights that the influx of IPOs combined with bank guarantees offered at attractive terms attracted a substantial number of investors to the equity market and as a consequence the initial public issues were over-subscribed by many times due to the artificial demand created. NDB analysts further stresses that the heavy over-subscription resulted in allocation of miniscule proportions of shares to applicants.

“Thus the effective cost per share shot up for investors who utilized seemingly attractive bank guarantees. This result in artificially high prices once the share starts trading in the secondary market.” The analysts outline.

According to the report excessive speculative trading could result in a crash and NDB stockbrokers outline that as per their earlier report, Taiwan is a case study in uncovering the long term repercussions of excessive short term speculative trading.

“The Taiwan equity market is yet to fully recover from the crash in 1990.” NDB analysts outline adding that they remain bullish on the medium term outlook of the equity market due to robust growth in corporate profits and the resultant attractiveness in terms of share. However NDB analysts’ forecasts that attempts to manufacture returns such as the returns made in 2009 to 2010 in the short term may result in creating asset bubbles and unpleasant consequences in Lankan capital market.

The report said that Sri Lanka posted a Gross Domestic Product (GDP) growth of 8.0% in 2010, which was ahead of IMF estimates of 7.0% and the second highest since independence and Lankan Macroeconomic performance had achieved best since 1978. Accordingly empirical evidence from countries such as India, China, Malaysia and Brazil indicate the success of diversification of industries. Hence, Sri Lanka should utilize its location advantages and development of ports by promoting industries such as steel, warehousing and shipbuilding according to NDB stockbrokers.

The report pin points the Service Sector as the star performer as it posted an 8.0% growth in 2010, the highest since 2002 and up from a 3.3% growth in 2009. The marked growth in the Hotels and Tourism subsector was supported by a 46% Year on Year (YOY) rise in tourist arrivals, and a 62% increase in tourists’ earnings as per report. Subsequently transport and communication sector growth was supported by a 17% increase in cargo handling, a 13% rise in post and telecommunication and an 11% increase in passenger and goods transportation.

New vehicle registrations had gained 76% YOY encouraged by a reduction of import duty since June 2010. The report pinpoints however the rising inflation which is above 9% is a main concern.

Meanwhile Foreign Direct Investment (FDI) in Sri Lanka had dropped to US $ 516 million in 2010, from US $ 601 million in 2009. NDB analysts expect the FDI figure to exceed US $ 1 billion in 2011. However, in other developing economies such as Vietnam US $ 9 billion worth of FDI has flown into the country in the first 10 months of 2010.

“Thus, in our opinion, more FDI needs to come into the country in construction and infrastructure, communication, information technology, entertainment and tourism, health, education and export-oriented product sectors to support economic growth” NDB stockbrokers suggested in its report.

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Vice President - Equity Analytics
Vice President - Equity Analytics

@Jithendra: Thanks - This summary makes sense! With your journalistic contacts, would it be possible for you to get a copy of NDB's full report and upload it on the Research section?


Global Moderator

yeah in the long term I think lankan market has long way to go. many large companies are still out of the market.


Senior Manager - Equity Analytics
Senior Manager - Equity Analytics

Shall we cross this bridge first?

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