The macro fundamental outlook of Sri Lanka’s stock market, which had been affected by the uncertainty due to a lack of clear policy direction that prevailed in the political front subsequent to the change in Government, now remains mixed, with more positive bias, a top securities research firm said last week.

According to a new Strategy report published by CT CLSA Securities (Pvt) Limited titled ‘Beginning of a Five-Year Express Drive’, despite United National Party (UNP) led coalition government securing victory at the General Elections, the market is currently undergoing a post-election correction, exacerbated by downturn in global markets, led by China, while a consumer sector driven rally in recent times is expected to largely cool off in the near term. Sri Lanka’s stock market indices ASPI and S&P SL20 has declined by 2% and 4% in 2015 Year-to-Date (YTD) respectively compared to sharp gains of 23% and 25% respectively witnessed in the year 2014.

“Declines in commodity prices, particularly oil, are depressing investor appetite for risky assets amid concerns related to global economic health. Prospects for most frontier Asian economies, including Sri Lanka are however brighter than its counterparts in the Middle East and Africa, as net commodity importers,” the report said.

It added that amongst frontier markets, whilst Sri Lanka rates low in scale and liquidity, it also offers relative stability and steady growth. Further, the Sri Lankan stock market is not as closely correlated with global emerging markets and thereby remains relatively insulated.

Foreign participation, which contributed around 30% of total market activity in 2015YTD has resulted in a net foreign outflow of US $22mn in 2015YTD compared to a net foreign inflow of US$169mn 2014.

The report further predicts that treasury bill yields are expected to increase after hitting a record low in 2014, Sri Lanka Rupee is expected to depreciate around 6% by end 2015 and close at Rs.139/US$ while government’s budget deficit to GDP is expected at 5.0% in 2015E (vs. 5.8% in 2014) largely due to reduction of public expenditure.

Here are some key insights extracted from the report:
• Banking & Finance sector: growth to continue primarily driven by SME, micro and mortgage coupled with margin improvement on expected near term higher interest rates. Likely to be impacted by currency volatility with some select players poised to benefit due to maintaining their FCBU operational profits in foreign currency. Upside exists for select LCBs, amid better growth prospects and lower than sector valuations

• Consumer sector : consumer driven rally to largely cool off in the near term with the current momentum of higher spending expected to wane in

1H2016E, led by anticipated tightening measures. High import costs from weaker currency to be partly mitigated by soft commodity prices

• Manufacturing sector: stocks with strong brands and operating efficiencies to benefit from overall pickup in economic activity. Record high margins enjoyed by most are likely to stabilize amid weaker currency and uptick in interest rates.

• Hotel sector: trading at premium valuations. Rising room supply – notwithstanding record high tourist arrivals – and weakening currencies of key tourism markets pressuring both occupancy and Average Room Rates (ARRs).

• Increase in rates on the back of fiscal tightening measures and high global market volatility to result in a market slowdown in the near term.

• With corporates recording strong earnings growth in 1H2015 (+18% YoY), the growth trajectory is expected to continue, supported by favorable policy measures to create near term buying opportunities.

• Current market valuation of ~10X 2015E appear fair in view of ~20% YoY earnings growth.