Why Capital Markets?

As countries and markets develop, investors will start looking at different forms and classes of investments with real returns coming for those looking at the longer-term. It is time for a cultural shift from relying primarily on savings. Several thousand new accounts had opened up this year – probably close to 9,000 – which is up about 90% from the last year. Over 50% of these accounts are owned by investors averaging 25 years of age.

As the country’s investment landscape matures, we need to start looking for various types of investments depending the need for short or longer term income/savings risk appetite, Our market has more investment avenues than people realise and although we are small, we are usually insulated from negative global events. We can see that following the lockdown in Q2, the stock market started picking up a bit in Q3 and has now started to accelerate in Q4 2020. The sentiment is positive and there are stocks which are popular due to financial fundamentals and not just a casino type craze.

Inflation has been fairly under control; sitting 4% in September on the back of supply chain dynamics being restricted and global oil prices. In terms of credit growth to the Government, year-on-year there is about a 40% growth. The Central Bank of Sri Lanka has promoted reduced rates to promote economic growth by facilitating lending. However, attractive deposit rates are no longer available to people.

The market saw foreign outflows of retail and high net worth individuals and institutions. Earnings growth this second quarter has dropped about 43% because of the situation. What is the solution? Do you participate despite the sentiments? One-year returns are fairly volatile with a high probability of loss. But this changes over the longer term. On a non-annualised basis our shares have gone up by 1,750%. The power of holding period returns is great. The market has come down over 25%. Choose some good companies and weather the storm and the potential for greater returns is very much on the cards.

Sri Lanka is possibly at the at the bottom of the interest rate cycle and it is likely that the exchange rate will stay stable the rest of this year. However, foreign debt payments will challenge our position for the next few years with the country needing some capital infusion into its reserves. A global bounce back is anticipated next year, particularly if Covid19 is brought under control. Interest rates would have to be maintained at current levels until economic activity picks up. External shocks are becoming a new normal for most economies and such shocks are partly managed by maintaining low interest rates.

In general, equity outperforms fixed income assets and this had been seen across many markers. As a country’s economy develops, there are structural change in interest rates and as Sri Lanka  goes back to middle income and then potentially the high-income category, we cannot expect 15 – 20% interest rates. That is where equity as a particular asset class becomes interesting and presently, valuations are very attractive. Considering inflation at 5.5%, with Fixed Deposit rates at 5% and Treasury Bills at 4.99% we are now effectively exhibiting negative real rates.

If we were to look at the Sri Lankan market in terms of sectors, banking would be the only one that stands out. Investors should look at the longer-term, even sectors like power where effectively it is a long-term contract with the government and one gets a return on payment in 20 years. It is not just about price – we must realise that good companies will be expensive and the trajectory of where they are going will significantly outweigh a company which is very cheap.