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Sri Lanka's next stock rally could be driven on oil hopes: analyst
20 Jul, 2012 07:00:46
July 20, 2012 (LBO) - Sri Lanka's next stock rally could be driven by the discovery of a commercially viable deposit of oil, which will renew interest in the country, an analyst who correctly called the end of the last stock bubble has said.
Amal Sanderatne, head of Frontier Research, a consultancy said the last stock bubble which sent Sri Lanka's benchmark index careening over 7,000 points was driven by post-war hopes.

Foreign capital also flowed into government securities markets, driving up liquidity and keeping interest rates low. Following the balance of payments crisis interest rates were high and stocks were falling.

The market has so far fallen to around 4,800 point levels. After the 2001 balance of payments crisis the advent of a ceasefire also sent the market up.

Game Changer

The 'game changer' to driven the next rally, Sanderatne says, could be a confirmation of the existence of a commercially viable oil deposit. Exploratory wells sunk by Cairn India have found traces of hydrocarbons in off Sri Lanka's northeastern coast.

"Oil can impact an economy in the long run in many ways," Sanderatne told a business forum in Colombo organized by Acuity, an investment bank and DailyFT, a financial newspaper.

"There is a concept in economics called resources curse. If you do not manage it properly the economy gets messed up."

Typically when oil is discovered in a country run by an autocratic ruler with weak institutions and rule of law, his grip tightens, and extends. Aggressively nationalist countries will even go to war with their neighbors more easily backed by oil. Either way citizens suffer longer.

Oil exporting countries like Venezuela for example, has near 30-percent inflation and currency depreciation. But oil revenues make it easy to give subsidies to voters even as they impoverished and their freedoms are stolen.

Iran has also had 30 percent inflation.

"But I am talking about markets," Sanderatne said. "Markets do not necessary try to look at the long term. Markets love big news. Investors love it."

Sanderatne recalled a time in February 2001 when he was working for what was then known as Jardine Fleming HNB Stockbrokers, a predecessor to Acuity Stockbrokers, he wrote a report called 'Lion in Winter', when times were at their blackest.

The report placed a 20 percent chance for peace, at a time when Colombo airport was bombed and there were military setbacks against Tamil Tiger rebels but said 'don't bet against peace'. A ceasefire and a bull run followed later.

He estimates that there is a 40 percent chance of a commercially viable deposit of oil being discovered.

"Don’t bet against oil," he said.

In 2000 the value of all the listed stocks was 80 billion rupees. Even with a recent correction the market stocks are now worth 1,800 billion rupees.

Psychological Cycle

Sanderatne says it is difficult to exactly to time a bull run. But equity markets go through cycles of emotion.

Optimism, excitement and thrill are found on the upturn. A market peaks in a 'euphoria' phase when everyone is upbeat.

"Behavioral psychology tends to overpower how you think," says Sanderatne. "Two years ago there was huge euphoria in the market, everyone borrowing money: a clear sign to get out."

At the time, when Sri Lanka stocks were the best performing in the world, Sanderante told an LBR-LBO CEO forum that valuations were 'stretched' Sri Lanka stocks beat the world amid bubble fears.

"In my opinion the market is overheated," Sanderatne saidat the time. "The valuations are the highest in Asia. Forward multiples are 19 times earnings; far higher that we have ever been, except perhaps in 1993."

Foreign investors were actively selling out, with valuations in other Asian nations, were lower.

After 'euphoria' market psychology then goes through a period of 'anxiety' then 'denial', 'fear', 'desperation', 'panic' and finally 'capitulation' as everyone accepts that it is falling and turnover levels have collapsed.

Then there is 'despondency' and 'depression'.

"Now where do you think we are today? Despondency? Depression?," he asks. "You need to keep an eye where you are and of course if these are the emotions you see around you on other market players it gives a good idea where the market cycle is right now."

Valuations are now better. Price Foreign investors who sold out during the bubble are now back. The market price to earnings multiple has also halved to around 10 now.

"I am very bullish. Market sentiment is so depressed, anyway from a sentiment analysis it is a great time to get into the market. Also you have the traditional arguments based on valuations."

"You can make it very complicated. But in some ways it is simply buying when it is down and selling when it is up."

It is also difficult to predict the exact bottom. Stocks had fallen 10 percent over seven months after the 'Lion in winter' report, before picking up.

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READER COMMENT(S)
6. waiting Jul 22
We are digging for oil since 1960s.
5. owllll Jul 22
At 4,800 one can expect a short rally that will take it to around 5,500 before the real crash comes. That will help make some cash to buy when the market hits rock bottom which will be surprisingly low.

While an intelligent dictator who shows a clear ability to play to the tune of the global oil industry may attract the kind of support that will send the market through the roof, a belligerent one whose every move brings deeper and deeper economic chaos and whose friends one and all have played the wrong cards and paid the price, is not likely to attract that kind of help.

Cairn India can do nothing more than whack the bulls and send them charging after a mirage by horizontally pumping some oil out from Indias own deposits. The deposits in the north west are negligible and likely to cause serious geological instability if tapped – remember earthquakes in recent times?

The real bonanza lies around two hundred kilometers south of Galle as every geologist knows and it lies far deeper than deepwater horizon and hence gives the sort of drilling challenges that only western technology can take on with any degree of confidence. Pressures at that depth present as yet unknown technological challenges.

If the government is able to repair its relations with the west and negotiate concessions to explore this potential then there may be a sustained rally. With oil rapidly running out it is likely that immense amounts of research and development will be allocated to this deposit which appears to be bigger than anything known so far in an effort to bring oil to the market as soon as possible….but in the meantime there appears to be a dog in the manger.

4. be happy Jul 21
Venezuela inflation 30%
Iran inflation 30%
Srilanka

These economies suffering due to lack of exports.

3. lost Jul 21
Stock market is the reflection of a poorly performing economy. Bullet ridden budget deficits, excessive money borrowing and money printing and no job opportunities for the employable group, import/export imbalances
2. seberet Jul 20
ASPI somewhere between Denial & Fear?
1. interpreter Jul 20
If one considered it was a bubble when the ASPI was 5000 - 5500 in mid 2010 and exited, he/she would have lost out quite a bit of returns that followed. also the ASPI is still around the 5000 level and has not actually burst! can that be called correctly calling the end of stock bubble?? just wondering, not contesting.