By Navid Kalhor, for Al-Monitor. Any opinions expressed are those of the author, and do not necessarily reflect the views of Iran Business News.
Central banks play a key role in maintaining sustainable growth in equity markets through monetary policies. To this end, crucial strategies include adjusting the interbank interest rate in the context of a close watch on overall inflation trends.
In Iran, the inflation trend is definitively downward, with the rate evidently approaching the administration of President Hassan Rouhani’s single-digit target. This is indicated by recent Central Bank of Iran (CBI) figures that reveal that growth in the general level of prices for goods and services has dropped from 15.6% in the Iranian calendar year 1393 (March 21, 2014 – March 20, 2015) to just below 12% in 1394 (March 21, 2015 – March 19, 2016).
As such, observers anticipate that the CBI will have no option but to compel banks to move to further cut interest rates. Indeed, only last month, banks were ordered to effectively slash deposit and business loan rates from 20% to 18% and 21% to 20%, respectively.
Given the lower interest rate environment, the notion of price-earnings (P/E) ratio is an indicator that is particularly worthy of attention. Of note, the P/E ratio is used to value a company by measuring its share price relative to its per share earnings. When credit facilities provided by banking and financial institutions tend to increase, stock market actors usually read it as a sign that they should anticipate higher share prices, as earning prospects for listed companies are strengthened. In Iran, the average P/E multiple expansion has historically fluctuated around 6 — far below that in other parts of the region.
Indeed, according to the MSCI, the P/E ratio in Gulf Cooperation Council member states is about 13. Thus, it is prudent to assume that the multiple has room for growth in Iran — at least in the long run. That being said, investors are hoping that the desire of Iranian banks to issue more affordable loans will lead to increased momentum for economic growth, thereby ultimately resulting in more solid returns in the current Iranian year, which began March 20. In this vein, it should be noted that the Rouhani administration is aiming for 5% economic growth in 2016, while the World Bank‘s projection is 6.1%.
Other measures are also being taken to boost economic development. The Rouhani administration’s fiscal and budgetary policies, coupled with the CBI’s quantitative easing policies, are expected to enhance production and productivity while stimulating consumer spending and investment. The latter are in turn expected to be elevated by the lowering of borrowing and lending rates, in addition to reduced reserve requirements and discount rates for banks. Moreover, financing via the stock exchange is the only viable and cheap approach to ignite the engine of economic growth.
These measures are collectively expected to eventually guide a portion of the significant amount of liquidity (M2 money) that is locked in term deposits toward other markets, in search of higher returns. This freed-up liquidity will have several available destinations. Traditional investment options in Iran include gold coins, foreign currency and property. More recently, the stock market has also emerged as a key investment destination.
In regard to gold and the indices impacting its price volatility in both the domestic and international market, predicting the future price patterns of this precious metal is no easy task. Nevertheless, when looking at Iran and considering the fluctuations in the foreign currency rates — namely that of the dollar, which is being controlled by the CBI and whose rate has a direct impact on gold prices in Iran — most observers see this safe haven commodity as lacking an upside given the CBI’s macroeconomic policy of stabilizing the dollar-rial rate.
There are also other factors at play that work against gold as a good investment for Iranians. These include the state of the global gold price amid the strength of the greenback. Given the fall in oil prices and the resulting lowered inflation around the world — in addition to the low anticipations that the US Federal Reserve will hike the discount rate yet again — it appears that there is little space for gold prices to appreciate in Iran.
The picture is equally bleak for Iranian investors when it comes to foreign currency — the preferred hedge against the high inflation and rapid rial depreciation of only years ago. Given the sanctions relief as part of the implementation of the Joint Comprehensive Plan of Action, and the resulting reopening in brokerage correspondence with foreign banks, Iranian exchange houses are not that pressed for delivery of hard currency, leading businesses to demand dollars and euros at normal rates for their commercial purposes.
The latter is mainly due to the fact that the CBI has always been closely monitoring the currency market, to keep it in balance in cases of emergency. In this vein, CBI statistics show that the dollar merely strengthened 5% against the rial in the last Iranian calendar year ending March 19. Thus, hard currency clearly appears to have lost its status as an attractive investment option.
Lastly, the housing and construction industry is perhaps the one sector of the Iranian economy that is suffering most from the dual challenges of record-low demand and oversupply of residential units in past years. The root causes of this industry’s lackluster performance include low levels of disposable income and savings of potential buyers as a result of high inflation in recent years, combined with the upward trend in marriage age, and also the massive influx of investment in property in 2012-14.
Of note, the 2012-14 bubble was largely a result of high inflation amid rapid depreciation of the value of the rial pushing cash toward property. For now, the housing sector is in deep trouble, with most observers expecting it to only exit its years-long recession in the second half of the Iranian calendar year (i.e., from mid-September onward) at the very earliest.
It thus appears that mindful of the Rouhani administration’s efforts to dislodge cash locked in bank deposits, and considering the unattractiveness of traditional investment options such as gold, foreign currency and property, the Iranian stock market is set for a major influx of capital — at least in the year ahead.