SC Securities-Daily FT joint initiative Market Pulse makes strong case for investing in CSE

Since May to 2024 Presidential election date, the stock market had dipped by 16% and as the crucial polls neared most investors were fearful of the outcome. A week before the Presidential election’s outcome was known, the SC Securities-Daily FT joint initiative “Market Pulse” interview series on YouTube on 16 September explored pertinent issues as well as made a strong case that it is time to invest in the Colombo Stock Exchange. Here are excerpts from the interview conducted by SC Securities Senior Sales Manager M. Miflal with SC Securities Assistant General Manager Saliya Gamagedera who counts 33 years of experience and SC Securities Manager – Sales Laurence David, who brings 38 years of experience in the industry and specialises in both technical and fundamental analysis. The full interview can be viewed at (https://www.youtube.com/watch?feature=shared&v=bqFpdjMIDD4)

Q: Welcome to Market Pulse which provides valuable information to help you make informed investment decisions.

Over the last two years, we have observed improvements in economic fundamentals, which have corresponded with an upward trend in the All Share Index. In May, the index reached 12,500; however, since then, it has experienced a decline of nearly 16%. However, it’s important to note that the economic and company fundamentals have not changed significantly. Our investors need to understand the current market dynamics. To facilitate this, we are pleased to welcome two veterans from the stock brokering industry. To start, I would like to pose the first question to the panel. From a fundamental perspective, we’ve observed improvements in the economy, including an increase in foreign reserves, a rise in remittances, and a tourism industry that is gaining momentum with higher numbers of new arrivals. Correspondingly, the market reached nearly 12,500 levels. However, since that point, we have seen a decline of almost 16%. What do you believe is the reason behind this drop? I invite Mr. David to share his insights on this matter.

Laurence: As you mentioned, the market has experienced a 16% decline, making it relatively inexpensive at this point. Despite the positive developments in the country, I believe the primary factor contributing to this market drop is a pervasive fear psychosis that has taken hold. This fear stems from uncertainty as we approach the election of a new president. Investors are reacting to this uncertainty, which has led to a sense of panic in the market. As a result, many investors have begun selling to reduce their risk, leading to increased exit activity in the market. This trend can be explained by the economic principles of supply and demand: the supply of shares has surged, driving prices down significantly. Currently, we believe the market is extremely undervalued, and this fear psychosis is likely to dissipate soon. Now is an opportune time to enter the market.

Q: Saliya, would you like to add something? 

Saliya: If we go back to 1991, the All Share Index stood at 300 points. Today, despite the current discount, it hovers around 10,600 points. To put it simply, discounts are your allies. When there’s a discount, it presents an opportunity to capitalise on future rewards. Regarding the discount, it’s essential to understand that in a market, discounts arise because we anchor our expectations to a certain value — in this case, 12,500 points. From there, we observe a 16% discount, which reflects the current market conditions.

Similarly, we must understand that a savvy investor will always focus on the underlying values of the companies they are interested in. We have access to published data, such as quarterly financial statements and annual reports, which provide historical data. This data helps us calculate the present value of a company based on reported figures. Using our knowledge and experience, we then project a future value. So, on one hand, we have the present value, and on the other, we estimate the future value. The market then assigns its own price to these stocks, reflecting its perception of their worth.

This is where the concept of discounting and premiums comes into play. There are instances where the market price exceeds the present value. For example, if the present value is Rs. 10 and the market is trading at Rs. 15, we can say that the market price is trading at a premium relative to the present value. However, if the future value is projected to be Rs. 20, the market price is trading at a discount compared to the future value. In some cases, the market price may exceed both the present and future values, which is considered a premium paid in the market against both these values.

On the other side, when the market price falls below both the present and future values, that’s where discounting comes into play. It’s important to note that well-managed, strong companies rarely trade at discounts based on their present and future values, making such opportunities uncommon. However, we are currently witnessing such an experience. For example, almost all banks are trading below their Price-to-Book ratio, meaning they are trading at about half of their net asset value. If we consider the net asset value as the present value, these stocks are offering a significant discount, presenting a unique opportunity for investors.

Looking at the broader picture, 2022 marked an economic reset for the country. Over the past two years, we’ve seen significant progress and constructive activities. For instance, inflation, which once soared to 70%, has now dropped to just 0.5% as of August. Similarly, interest rates, which were above 32%, have now fallen into the single digits. These developments highlight the positive changes that have taken place in our economic landscape.

Speaking of exchange rates, in September 2022, the dollar was trading at over Rs. 360. Today, it has strengthened, with the rupee hovering between Rs. 300 to 305. Foreign remittances have increased, along with a rise in tourism revenue, both of which have contributed to an improvement in foreign reserves. This boost in reserves has enabled the Government to reconsider the restrictions on imports, which are now being gradually relaxed.

On the other hand, we can observe what has happened with energy and fuel prices, particularly in the context of energy. During the economic recovery, we faced severe challenges, including fuel shortages, which made getting fuel to petrol stations a nightmare. Today, the situation has vastly improved. The Petroleum Corporation has realigned its management and strategic decisions, and as a result, they are now performing well and even turning a profit.

At the same time, the fuel supply chain has been diversified with LIOC, Sinopec, and new market entrant RM Parks. These companies are responsible for sourcing their own fuel, allowing the Government to focus solely on supplying the CPC petrol stations. LIOC and other private players now manage their own imports, which alleviates the burden that was heavily felt in 2022. This is a positive step forward for the country. Similarly, if we look at the CEB, we see that their management is now on the right track, with the ability to source their own funds and effectively manage their operations independently.

A similar transformation is happening with the Water Board, which has also become self-reliant. When you look at the big picture, the resolution of energy and fuel challenges has significantly benefited corporates by lowering their top-line costs. Additionally, falling interest rates have reduced the financial burden they faced in servicing debt. These factors, along with the Government’s positive engagement with the IMF program, have helped the economy recover to its current state from the crisis we faced in 2022.

The anxiety in the market is not truly reflective of the underlying valuations. As a result, when prices offer a discount, the risk is reduced beyond the valuations assigned to these companies. This creates an opportunity for savvy investors to enhance their returns. Understanding the discount factor in the market and capitalising on it based on individual strategies presents a clear opportunity for growth.

Q: In trying to understand this fear that everyone is talking about, it’s important to ask: What is this fear really about? Yes, the market has declined due to this fear, but we’ve faced far greater fears in the past. For instance, after the Easter attacks, there was significant fear about whether such events would continue. Then came the COVID-19 pandemic, and we had no idea when it would end or if we would have to adjust to a ‘new normal.’ Following that, we experienced the unrest of the Aragalaya, with buses burning and internal instability affecting the nation. Right now, we aren’t dealing with any such major crises. So, what exactly is this current fear based on? Could you elaborate, Mr. David?” 

Laurence: At the moment, the prevailing fear is largely driven by unforeseen political uncertainties, particularly surrounding the upcoming election. There’s anxiety about who will be elected and what policies they will implement, and these concerns are fuelling fear in the market. Various groups are also amplifying this fear for personal gain. Investors are worried about what actions the new Government might take and how they will manage the economy, leading to a sense of instability. This uncertainty is poisoning investors’ confidence, prompting them to sell off their investments to minimise risk and potential losses, which, in turn, creates excessive selling pressure in the market.

However, this fear is different from what we experienced during the COVID-19 pandemic. Back then, we couldn’t even step outside, and the global situation was dire, with many lives lost. There was a clear and present danger—if you went out, you risked contracting the virus. The current fear is more abstract, rooted in the question: “What happens next?” Investors are left wondering if their investments are truly safe.

Yes, in the long run, I believe things will stabilise. Short-term volatility is present in any market, but the long-term outlook tends to be positive, which is where investors should focus. The fear right now is about whether to hold onto stocks or sell. When people begin selling in large volumes, other issues arise as well. It comes down to supply and demand—when the supply is high, the demand can decrease or even disappear, driving prices down further.

This is the fear investors are grappling with: will their stocks lose value in the market? We’ve reached a point where it feels like the end of the tunnel. Those who fuelled the fear have likely sold off their shares by now and may soon be looking to buy again. This is the kind of uncertainty we’re dealing with in the market—an unforeseen fear that might not even reflect reality.

Q: Saliya, would you like to comment?

Saliya: Yes, just as you mentioned, during the 2019 Easter attacks, the COVID pandemic, and the Aragalaya period in 2022, we witnessed different types of fear emerge. These were major incidents, each presenting its own challenges, and the fear they generated was unique to those events. Comparatively, what we see now is different—the level and nature of the current fear are not the same.

Unfortunately, during periods of fear psychosis, investors’ perceptions become distorted. It’s not just the doubts they have, but the information they rely on to make decisions also becomes skewed. This makes it harder for them to form a clear judgement.

As investors, it’s crucial to understand what this fear is really about. We’re dealing with the stock market—a place inherently tied to risk, and we need to be aware of that risk. If we don’t fully understand the risks involved, it will be difficult to succeed as investors.

As stockbrokers, it’s our responsibility to encourage investors to educate themselves on identifying and managing risks. While the stock market is known for high risk, you can mitigate this by understanding the nature of that risk. Fear is just one part of the equation. The key lies in knowledge—specifically, understanding valuations. If you know how to assess value, even something as basic as net asset value (NAV), you’re already ahead.

Take banks as an example. Right now, many of them are trading at half their net asset value. The important question is: why? Are they truly worth these prices, especially when we know that banks in Sri Lanka tend to be more valuable than their current NAV suggests? When a stock trades significantly below its net asset value, that’s a signal for investors to analyse why. Is this an opportunity or just market inefficiency? If it’s the former, that’s a bargain and a potential opportunity for gains.

Understanding and managing risk is closely tied to managing fear. Everyone experiences fear, and that’s okay. What’s important is how we manage and overcome it, as that will lead to above-average returns. Rarely do we encounter situations where both the present and future value of a company are priced significantly lower than their actual worth. When valuable companies trade at such a discount, it’s a rare occurrence, and having the right strategy in place can help investors take full advantage of it.

Q: To add to the discussion about fear, if we look back at the 2019 Easter attacks, there were significant changes to the economic fundamentals—tourism dropped drastically. With COVID, our reserves were severely depleted, leading to major economic shifts. However, the current political uncertainty we’re facing hasn’t caused any fundamental changes to the economy, yet the market has reacted by dropping sharply.

If we examine the three main political candidates, all are seeking a mandate to develop the economy and take the country forward. No one is aiming to revert to past failures; everyone is focused on growth. In contrast to Bangladesh, where democracy is limited, Sri Lanka is moving through a democratic process. The election has been announced, and we are progressing towards certainty with a new president and likely parliamentary elections to follow.

Given this context, the market’s 16% drop seems like an overreaction. We’re moving towards positive outcomes, yet the market is reacting as if there’s been a major shift in fundamentals, which there hasn’t been. What are your thoughts on this, Mr. David?

Laurence: When it comes to the current uncertainty, we’re looking at three main candidates. Two of them have never held office, while the third is a veteran. The uncertainty lies in who will be elected and what they will do. While we have confidence in one candidate’s past performance, the other two are less predictable. The key questions are: how will they handle the IMF, and what strategies will they adopt?

Today, the IMF has stated they are prepared to work with any elected leader, which is a positive sign. But the real concern is whether the new leadership will deliver and perform. This uncertainty has fuelled panic and fear in the market, causing the 16% drop. Despite strong fundamentals and economic indicators, this fear-driven reaction took over.

However, this uncertainty can also be seen as a gift to the market. A 16% drop presents opportunities for savvy investors. If you look at past trends, after the war ended, the market surged from 1,500 to 7,700, then corrected before rising again around the 2015 elections. Now, we’re at another critical juncture. The Aragalaya brought change, and whether we see more change or stability, the market will react accordingly.

What we’ve seen in the past is that events like these have brought the indices down, and now we’re in a similar situation. However, we’re optimistic that this downturn will be followed by a strong recovery, potentially reaching new all-time highs. The uncertainty is nearing its end—within the next 10 days, after the election results, we’ll know who the new leader is. From there, it’s a matter of waiting to see how things unfold politically.

While political decisions remain, the economy is on the right path. The market has offered a discount, which can be seen as a blessing. Now is the time to seize the opportunity.

Q: If you look at the Dhaka Stock Exchange, despite their political turmoil, the market came down but bounced back again. So, what do you think? Do you believe our market has overreacted? As David mentioned, we are on the right path, following a democratic process, not an undemocratic one. Given this, isn’t the 16% drop an overreaction?

Saliya: Whether it’s a 16% drop or less, the stock market is unique in that sellers often react without fully understanding value. For instance, no one would sell a Rs. 400,000 iPhone for Rs. 20,000, yet stocks with a net asset value of Rs. 100 can be sold for just Rs. 20. This creates opportunities you won’t find in other markets.

Overreactions and exaggerations are common, but we need to stay mindful of what’s really happening. Since 2022, we’ve been resetting the economy, and after two years, the fundamentals are now in place. The next phase of progress is clear—local and foreign debt restructuring is being handled with firm policies. No serious candidate would risk derailing this progress, especially given the difficult path we’ve all endured. As David mentioned, everyone has contributed, including through the PAYE tax.

Anyone coming into power now has to take the economy from point A to point B. But when fear sets in, people start imagining worst-case scenarios, which leads to irrational decisions. A mature investor, however, won’t be swayed by this fear. They’ll focus on the opportunities, always looking for bargains in the market rather than reacting emotionally.

That reflects the current situation. Fortunately, we’ve seen signs of support and the formation of a demand base over the last few days. From here, we can look for a potential reversal to the upside.

As David mentioned, during the conflict in December 2008, the ASI dropped to 1,800 points after reaching an all-time high of 3,000 in 2007. However, by February 2011, it surged to 7,800 points. The start of 2009 wasn’t promising, as the conflict peaked then, creating widespread fear that still lingers today. Yet, the market began to rise, often without clear reasons.

Although participation was slow initially after the conflict ended in May 2009, it picked up significantly at the start of 2010, leading to a massive rally that lasted until February 2011.

During the 2020 lockdown, we were limited to using our computers, with many unable to pursue other jobs or activities. The market index dropped to 4,200, and though many thought the fall was steep, it stabilised and began to rise. By January 2022, it reached a new all-time high of 13,500, delivering significant returns.

The present moment offers another incredible opportunity. Bold investors, as risk-takers, must analyse risks carefully, knowing their side of the story. Success varies by individual, and just because one investor profits doesn’t guarantee another will—it’s up to each investor to decide and seize the rewards.

In recent weeks, market turnover was around Rs. 200-300 million, but in the last few days, it has surged to over Rs. 1 billion daily. Can we say that smart money is entering the market at these discounted levels, with support holding strong?

Given this scenario, what strategy should investors adopt? Some remain cautious due to the pending election, while others are undecided. Is it wise to wait on the sidelines or start accumulating stocks during severe discounts? With the All Share Index down by 16%, we can assume that counters with a beta greater than 1 may have dropped even further, presenting opportunities.

Q: So, what strategy would you recommend our viewers adopt at this point? Let me start with you, David.

Laurence: Right now, as Saliya mentioned, after the war ended in 2009, the market began its upward trajectory in 2010. It took time for the development plans to take effect, and from May 2010, the market climbed by about 7,000 points. The key isn’t just about ‘good’ or ‘bad’ shares, but rather ‘cheap’ or ‘expensive.’ Even a good stock can be overpriced at times.

Currently, we are on a similar path. Costs like electricity and fuel have decreased, and the currency has stabilised. These factors will filter into improved market performance soon. Trade agreements have been signed, and all three presidential candidates have emphasised the importance of power and energy, which will drive future growth. Foreign investors, especially in the power and energy sector, are already showing interest, as seen with recent BOI agreements.

Additionally, candidates have agreed on reducing PAYE taxes, which would increase disposable income for the average person. This, in turn, will boost spending, stimulate the economy, and support retail businesses, creating a positive cycle for growth.

Similarly, if the Government focuses on infrastructure development, they will attract foreign investors, further supporting growth. We’re on the right path, and my advice is that now is the time to enter the market.

Retailers, investors, and traders are interconnected. It’s an ideal moment for traders to start buying, as high-net-worth investors and accumulators are absorbing volumes. Once retailers join in, prices will likely rise. Whether we like it or not, this is the natural behaviour of the market.

This is the right time to invest. Bilateral agreements, tourism recovery, and salary increments—especially in the private sector—are all creating more buying power. With low interest rates offering minimal returns and the stock market free from capital gains tax, it’s clear where to put your money.

The market is poised for takeoff. As I mentioned, every market crash is followed by a rise. Destruction, in the form of price drops, is followed by reconstruction, driven by economic growth, creating value and opportunity. Remember, every crisis holds opportunities. The key is analysing the fall, understanding the gravity of the crisis, and identifying where the opportunities lie. So, my advice to all investors is: don’t wait. Act now and seize the opportunities available.

Saliya: As David summarised, valuations are highly attractive, with economic and corporate fundamentals looking strong. Many top companies are trading at steep discounts, presenting great opportunities, as seen with JKH and the nearing completion of the Waterfront project.

 However, the key is understanding whether you are an investor or a trader. Your strategy should be based on this. For investors, a solid approach is rupee cost averaging, similar to dollar cost averaging elsewhere. It allows you to consistently invest over time, regardless of market conditions. So, study these strategies and decide which path suits you.

As a trader, you have three key pillars: why you’re buying, why you’re selling, and whether you’re prepared to cut losses. It’s crucial to understand these before you trade. In the current scenario, we see a support base forming, but if the downturn continues, what’s your strategy? That’s essential for traders. For accumulators and investors, there are abundant opportunities. This is primarily an investor’s market, while traders will need well-defined strategies to benefit. But, once again, I must emphasise that now is the time for investors to step in and seize the opportunity.