KSE100 Index: Is Breaking 100,000 Mark Possible?
The KSE100 Index of the Pakistan Stock Exchange (PSX) has been bullish, having risen from 40,000 to 80,000 during FY2023/24. The experts estimate it will even cross +100,000 points during the current fiscal year (2024/25). However, given the unprecedented returns of 100% in a relatively short period, many wonder if the new target of +100,000 indicated by various research houses is achievable or if we’ll get trapped again in Pakistan’s notorious boom and bust cycles.
I recently did a podcast with AAHSoomro, a well-known subject matter expert in Pakistan who frequently writes about the economy and markets. I thought I would share some rationale for why the market will continue its current bullish momentum and make new highs.
Estimating the Upside Potential of the KSE-100 Index
The KSE-100 Index of the Pakistan Stock Exchange (PSX) has recently shown remarkable resilience and growth, prompting investors to question its potential for further upside. To understand this uptrend, it’s important to identify the key factors influencing the index’s trajectory.
By evaluating historical trends, economic indicators, and market sentiment, we estimate the potential for the KSE-100 Index to reach above 100,000 points during the current fiscal year. Both intrinsic and extrinsic variables would impact the performance.
Current P/E vs. Historical P/E Ratio
The P/E ratio, or price-to-earnings ratio, is a valuation metric that compares a company’s share price to its earnings per share. It tells us how much investors are willing to pay for each rupee of a company’s earnings.
Currently, the overall P/E ratio for the Pakistan Stock Exchange (PSX) is around 4.1x versus 12.3x the average of its peers in the region. This means investors are paying roughly Rs. 4.1 (average) for every rupee of earnings generated by the companies in the KSE100 index.
The average P/E ratio for the PSX over the past 15 years has been around 8x. This suggests that the current valuation is relatively low compared to historical levels, and the market has yet to price these values in the coming days, months, or years.
How will the KSE 100 Index Reach a 100,000 Point Mark?
Assuming a more conservative P/E ratio of 5.5x, the index’s estimated upside is still around 34%. This means that the index could potentially rise to ~107,000 without becoming overvalued.
Additionally, the companies listed on the PSX are currently generating good profits and distributing a significant portion of these profits to shareholders through dividends. This is indicated by a dividend yield of around 10% against regional peers, which offers merely 3.2% (average).
For example, one of Pakistan’s blue-chip stocks, Mari Petroleum (MARI), has generated significant historical profits and will offer shareholders bonus shares and a hefty Rs134 rupees per share in dividends in September 2024. This is just one example.
Based on these factors, analysts believe the index could potentially rise by 35–40% further in the next year, reaching levels above 115,000 based on the “realistic mean reversion” concept. However, it’s important to note that this is an estimate and not a guarantee. The expected increase is based on the idea that the index is currently undervalued and is returning to its fair value. This doesn’t mean the market will experience a sudden crash after reaching these levels.
Relationship between Interest Rate and P/E Ratio
Interest rates play an important role in capital market valuation. There’s an inverse relationship between interest rates and P/E ratios. When interest rates are low, for instance, at 10%, investors are often willing to pay more for a company’s earnings, leading to a potentially higher P/E ratio above 6x. Conversely, when interest rates are high, at +20%, the appeal of stocks relative to bonds decreases, leading to lower P/E ratios.
When interest rates are low, it’s cheaper for businesses to borrow money to grow, which can boost their profits. This makes their stocks more attractive to investors so they will pay more for them. This is why stock prices often go up when interest rates go down.
On the other hand, when interest rates are high, borrowing becomes more expensive for businesses. This can hurt their profits and make their stocks less attractive, causing stock prices to fall.
Government Policies for Economic Improvement
In the last year, we have witnessed that despite the high interest rate, the KSE 100 Index has performed well due to the IMF bailout and overall positive economic activities following the bailout. As we advance, the government needs to seriously consider its excessive debt burden and resolve the circular debt. The focus should also be on our IT exports, reforms in the agriculture sector, and improving local industries to reduce the import burden.
An Expert’s Advice for Investors
Asif Arsalan Soomro, a seasoned financial and economic expert, emphasizes the importance of early market entry for smart investors. “Investors who enter the market early and hold their stocks over the long term tend to achieve higher profits than others,” he advises. Success in the capital markets hinges on a thorough knowledge of the companies you wish to invest in and a keen awareness of economic activities and macroeconomic factors.
Investing according to your risk appetite is crucial. Soomro suggests, “Choose your portfolio carefully, considering factors such as a company's asset valuation, management profile, and any expansion plans. Evaluate the company’s labor strength and other relevant aspects before making your investment.”
For instance, while oil and gas exploration companies may not exhibit significant earnings growth, they can offer substantial returns due to valuation re-ratings. Similarly, the banking sector, benefiting from the current high-interest rate environment, may provide stable earnings growth and attractive dividends now, with potential earnings growth over the next four to five years. These two sectors offer a balanced mix of growth potential and valuation opportunities.
Cyclical stocks, such as those in the cement, steel, and glass industries, also present promising opportunities as Pakistan’s economic cycle progresses positively. These sectors are poised to outperform and deliver strong returns in the coming years.
On the other hand, the textile industry is currently experiencing depressed valuations due to structural challenges, including high energy and financial costs and the withdrawal of concessions, all of which have diminished global competitiveness. Conversely, the pharmaceutical sector, while less correlated with interest rates, is more closely linked to the growing population, increased healthcare spending, and the deregulation of the industry, which has restored pricing power to consumers.
Looking ahead, the best sectors to consider for investment would be:
1) Cyclicals
2) Banks
3) Pharmaceuticals, and
4) Select IT stocks
By carefully selecting investments in these sectors, investors can position themselves to benefit from both earnings growth and valuation improvements in the coming years.
Disclaimer: This is not financial advice; our purpose is to promote financial literacy. Conduct your due diligence before investing.
