Market Feels Fallout From European Crisis
In late April, in response to the ongoing financial crisis in Europe, the animal spirits that govern the stock market once again reared their ugly heads as the bear took over from the bull, sending Egypt's market tumbling. On April 27, the EGX 30 reached a peak of 7,603.04 before beginning a precipitous drop to 5,937.50 on May 25, a 22 percent decline. Fortunately, the market rebounded somewhat and stabilized, and since late May has hovered between 6,250 and 6,550. While judging where the spirits will head next is fraught with challenges, experts seem to agree Egyptian stocks are likely to remain in a holding pattern, at least until the end of the summer.
The precipitating event for the decline was the ongoing financial crisis in Europe. What began with doubts over Greece's ability to repay its debt, soon spread to about Portugal, Spain and Italy. Concerns about a sovereign default shook investor confidence worldwide as stock markets that had been recovering stalled or fell. Since the countries most affected are significant destinations for Egyptian exports, many companies are likely to take a hit, says Reham El Desoki, senior economist at Beltone Financial.
An additional consequence of Europe's problems is the weakening euro, which likely will hurt Egyptian exports to the entire euro zone. At the beginning of 2010, the euro was worth approximately LE 7.8, but has now fallen to about LE 7, a decline of about 10 percent. This means Europeans buying Egyptian goods must pay roughly 10 percent more than they had to in January. However, European imports to Egypt are less expensive.
In some sense, the Egyptian pound is caught between the euro and the dollar. "Fluctuation in the dollar-euro rate has led to a weakening of the Egyptian pound against the dollar, as the former rate is one of the determinants of the pound-dollar rate," El Desoki says. "We expect the Egyptian pound-US dollar rate could go to 5.70 or 5.75 until the crisis dissipates and then pull back." A relatively weaker pound to the dollar should help Egypt increase exports to the US over time.
However, El Desoki is quick to caution that these impacts will not be felt in the short term. "Exporters don't work on spot prices," she says. Instead, they base their contract prices on prevailing rates at the time and expected rates in the future, so if rates recover by the time the contracts are renewed, the impact on pricing will be more limited. Hence, the impact of the current uncertainty won't be felt soon.
In terms of specific sectors, textiles are likely to be the most affected, according to Ahmed Khalil, research analyst at Beltone Financial. He cites Arafa Group and Oriental Weavers as two companies that depend on exports to Europe, saying Oriental Weavers is "renegotiating some recently signed contracts to reflect the new exchange rate." The company's stock reached a peak of LE 45 in early April, but declined to LE 36.74 by June 24. However, he says companies that rely on imports from Europe will see benefits from the changing exchange rate. "Olympic Group sources a portion of its raw materials [steel and others] from Europe in euros. They don't sell in Europe at the moment, so it's actually good for Olympic." Olympic Group stock also peaked in early April at LE 34 and as of June 24 traded at LE 26.01. "Food producers may also be affected, although they are not listed [on the stock market]," he notes.
Lecico Egypt, a sanity ware and ceramic tile producer, is another company affected by the European debt crisis, according to Khalil. "Forty-six percent of their sales are exports, mostly to Europe. Any movement in the euro will have an impact on their numbers." However, because the company also imports raw materials from Europe, there is also some positive impact, he says. Despite the challenges, Lecico Egypt's stock price has stayed fairly stable over the past six months, only decreasing significantly in early June when it issued a 2:1 split for existing shareholders.
One area that could in theory be affected is European foreign direct investment (FDI) in Egypt, since economic problems in Europe may lead to less money available for investing. However, El Desoki says that "in the last couple of years, FDI has mostly been targeting the energy sector, with a sizeable portion coming from big European energy companies." She doesn't think the crisis will have much of an impact on these investments, which are more long-term.
Tourism is another area vulnerable to problems in Europe, but El Desoki thinks that Egypt's price competitiveness and diversity will keep vacationers coming. Summer is when European tourism naturally decreases to Red Sea resorts, and because vacation plans are made in advance, it will be a while before any potential impact would be felt.
Looking to the future, Egypt's economic performance will be tied to European economic recovery. El Desoki projects the European economy could start improving in 2011. "This year there will be a lot of back and forth over which policies to adopt, how to implement them, and how severe the measures need to be," she says. The decision-making process is difficult in Europe, since there are so many countries. "Recovery in the EU will take a longer time than in the US," she predicts.
In the short term, the summer and Ramadan are sometimes periods of lower trading and sell-offs, according to El Desoki. She also identified uncertainty about Egyptian politics as a potential contributing factor in future stock market performance. "Foreign investors would be in a wait-and-see mode about whether there will be new developments regarding the strength and representation of the Egyptian opposition, and how elections will play out," she says.
Khalil agrees that political uncertainty is playing a role. "There is uncertainty about what might happen next. Generally speaking, when investors have concerns about Egypt, the political situation and inflation are the main concerns," he says.
Despite the challenges ahead for the Egyptian market and economy, Khalil believes the growing population will continue to fuel consumer demand. He says that of all the countries in the Middle East and North Africa (MENA) region, Egypt and Saudi Arabia have "organic demand stories, not based on expatriates." For example, in Egypt car sales are up 60 percent in 2010, and white goods sales were much better in the first quarter than they were last year, according to Khalil. The combination of increasing consumer demand and good trade agreements means "Egypt is an excellent place to do business for companies willing to establish consumer sales here," he says.
Initial public offerings (IPOs) are one way to analyze the strength of the market, and in this regard Egypt's record is mixed. Juhayna's IPO in early June was the first since 2008. Khalil describes the IPO as "not that successful," since the Juhayna stock price went down when it debuted on the market even though it was oversubscribed. Juhayna's recent IPO could also be contributing to the slump, El Desoki says, because "after an IPO, it often takes some time for the extra money from subscriptions to filter back into the stock market." It is unclear if any more IPOs are on the horizon. "Several companies that were considering IPOs postponed due to market conditions," observes Khalil.
On the other hand, some foreign firms are looking to get into the market. Khalil says that Arcelik AS, Turkey's largest maker of refrigerators and washing machines, is considering opening what would be the largest home appliance factory in the Middle East in Egypt.
Looking at the bigger picture, El Desoki says the crisis will not have a strong negative impact on Egypt's overall economic growth. Beltone is in the process of revising upward its GDP growth projections for FY 2009-10 and 2010-1, which currently stand at 5.1 percent and 5.4 percent, respectively.
There is still the possibility that things could get worse in Europe. In the event of a sovereign default or other major problem, El Desoki says, there will be "more turbulence in international financial and foreign exchange markets." However, as to how it would play out, well, "it depends on the details."
By Rashad Mahmood
© Business Monthly 2010
