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Another postmortem

CAIRO: Speaking earlier at the World Economic Forum on the Middle East, William Rhodes, chairman, chief executive officer and president of Citicorp Holdings and Citibank, said that the ongoing volatility of stock markets in the region is the result of too much money chasing too few projects. Rising oil prices have caused a substantial increase …


CAIRO: Speaking earlier at the World Economic Forum on the Middle East, William Rhodes, chairman, chief executive officer and president of Citicorp Holdings and Citibank, said that the ongoing volatility of stock markets in the region is the result of too much money chasing too few projects.

Rising oil prices have caused a substantial increase in liquidity in the region, but the demand for these fresh funds, in terms of infrastructure projects, entrepreneurship and other ventures, has not kept up.

The consequence is excessive price-to-earnings multiples in the Gulf. Those levels are typically in the teens in Egypt, which is deemed acceptable by analysts, but in the Gulf multiples are measured in the thirties or more and are therefore susceptible to large sudden swings.

Despite strong fundamentals of the Egyptian economy and reasonable profitability of listed companies, downward adjustments in Gulf stock markets spill over to Egypt for three reasons.

First, some Gulf investors with leveraged positions invest in both Egypt and the Gulf. These investors borrow money to buy stocks in both locations, and when stock prices in the Gulf fall, such investors need to sell their Egyptian stocks as well to repay their debt.

Second, there are common regional political concerns, including Iran s nuclear ambitions, violence in Iraq and the dispute between Syria and Lebanon. These all contribute to an atmosphere of uncertainty that can make investors nervous and that played a part in previous adjustments in Egyptian stock markets.

The concerns were different in the latest adjustment, however, during which the CASE-30 index, which tracks the top 30 companies on the exchange, dropped by nearly 7 percent per day on Monday and Tuesday before recovering by 3.7 percent yesterday.

Mahmoud Soheim, head of research at Naeem Holdings, explains that the latest panic was in part caused by statements made by American legislators regarding their government s aid to Egypt. Egypt is the largest recipient of American aid after Israel, not counting Iraq, with some $1.7 billion received every year, mainly in the form of military assistance. In addition to its economic contribution, the aid is critical to maintaining the balance of power in the region, according to Mohammed El-Sayed Saeed of the Al-Ahram Center for Political and Strategic Studies.

Legislators in the United States have repeatedly questioned the effectiveness of the aid in the past, particularly the military assistance, although the current U.S. administration has made it clear that it opposes any changes to the nature and level of the aid.

The debate has been in the spotlight in recent weeks because the U.S. Senate passed a bill earlier this month that could cut aid to Egypt by $47 million if approved by the house and the president. This was followed by a report from the U.S. Government Accountability Office two weeks ago that criticized the lack of proper monitoring of how the military assistance was being spent.

The final reason for the correlation between Gulf markets is simple anxiety. Soheim says that Egyptian investors get nervous when they see markets in the Gulf performing badly and react by selling their shares without a clear rationale.

Soheim therefore believes that the exhibited correlation between stock markets in the Gulf and Egypt is stronger than it ought to be. I don t know why we create this correlation between us and the Gulf markets, says Soheim. We are dependent on their excess cash; this is the only correlation.

In addition to apprehension over U.S. aid, certain domestic market conditions contributed to mass panic selling. Soheim explains that a large number of unsophisticated retail investors with little understanding of stocks entered the market during Telecom Egypt s initial public offering last year. These investors made a quick win on the offering and have kept their funds in the stock market in search of easy gains.

These retail investors are very sensitive to news and rumors and frequently do not have the ability to digest and analyze fundamental information. As a result, price-to-earnings multiples dropped well below analyst expectations for many companies on Tuesday.

Contradictory actions by international investors in global depository receipts (GDRs) of Orascom Construction Industries (OCI) illustrate the fact that local investors are not looking at fundamentals.

The Egyptian stock market price of OCI was falling sharply while the GDR price was increasing by 11 percent because of the expectations of second quarter results, says Soheim.

Meanwhile, the recent capital increase of 194 million shares by EFG-Hermes diluted funds invested in other companies, thereby generally suppressing prices.

Not all people understand that, says Soheim. That s why most of them panicked and started selling like crazy. And most of them were retail investors … Most retail investors in Egypt understand neither fundamental nor technical [information]; they follow the group.

Topics: FJP

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