By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The market took a breather, after the blistering May rally, to end the month down -0.71% as measured by the Rabee Securities RSISX USD Index (RSISUSD), and up +0.44% for the year.

The market’s average daily turnover, excluding block transactions, followed through with the recovery of last month – a promising development especially as the Eid holidays, marking the end of Ramadan, and the beginning of summer holidays took place early in June. However, turnover is still low relative to that over the five years following the market’s peak in early 2014, with June’s average at about +21% above the average of the last year (chart below).

(Source: Iraq Stock Exchange (ISX), Rabee Securities, Asia Frontier Capital)

Trading activity, in the near term, will likely continue to be in-line with that of the last two months, as the holiday season gathers steam with a summer that promises to be hotter than average. June’s daily average temperatures of 48 degrees Celsius, versus prior averages of around 40 degrees Celsius, provided a taste of things to come for the year’s hottest months, i.e. July and August. The chart below of Baghdad’s June 2019 temperatures versus recent average temperatures illustrates the extent of the expected variance between this summer’s temperatures and recent averages.

Temperature Graph, Baghdad June 2019

(Source: Accuweather)

June’s searing heat, as well as profit taking, took the shine off the rejuvenated banking sector with the Bank of Baghdad (BBOB) down -12.8% after being up +62.5% in May, while Mansour Bank (BMNS) was -4.2% versus +20.0% in May, National Bank of Iraq (BNOI) flat versus +31.0% in May, and Commercial Bank of Iraq (BCOI) +4.5% versus +10.0% in May. Expectations for the resumption of dividends by the Bank of Baghdad (BBOB), the reasons behind the stock’s stunning May rally, will be put to the test in the next two weeks at the bank’s upcoming AGM later in July. However, as indicated last month, it’s still too early in the year to judge the likelihood of the bank distributing dividends, especially given the size of its non-performing loans (NPL’s) and the potential need for more provisions.  Such caution finds support in the decision by the National Bank of Iraq (BNOI), at its June AGM, not to distribute dividends for a challenging 2018. However, in a sign of the conditions in place for the sector’s recovery, BNOI indicated the possibility of resuming dividend payments for 2019 based on its strong results for the first half of the year as well its expectations for the second half.

Lending support to these expectations for the brighter outlook for the banking sector are figures from the Ministry of Finance (MoF) for the first four months of the year. The figures show that the budget surplus for 2019 continues to grow and is currently at about USD 2.8 bln by end of April, which, based on current spending patterns and reported oil revenues, could grow to about USD 4.2 bln by the end of June. Helped by the healing effects of increasing oil revenues, this surplus is on top of surpluses of USD 1.6 bln for 2017 and USD 21.6 bln for 2018 as the chart below shows.

(Sources: Ministry of Oil, Ministry of Finance, Central Bank of Iraq, AFC)

Current spending patterns, making up the bulk of the 2019 budget spending at about 75% of the total, are steady and consistent with an expansionary budget in which this spending is up +15% over 2018. Investment spending patterns, on the other hand, show a shift in gear as the government began to implement the 2019 budget, which came into law and thus into effect in late February. However, these are from a very low base and are in-line with expectations made here over the last few months that such spending would begin as a trickle but should grow as investment spending gets underway, adding fuel to a consumer led recovery, and ultimately leading to a sustained economic recovery. This potential economic fuel comes from the 2019 budget’s non-oil investment programme at about USD 12.5 bln, which is equivalent to about a 7.5% stimulus to the estimated non-oil GDP for 2019.

The persistent signs of economic recovery, continue to be mixed as they are in this early stage, nevertheless underscore the opportunity to acquire attractive assets that have yet to discount a sustainable economic recovery. The market’s pull-back in June, on the heels of a strong recovery in May on low turnover, suggests the beginning of a consolidation phase, which, would need a significant recovery in turnover before this recovery can become sustainable and for the market to claw back some of the -65.5% decline from the peak in early 2014 to June 2019 closing levels (as measured by the Rabee Securities RSISX USD Index).

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The market finally woke up from its multi-month slumber, increasing by +14.7% for the month as measured by the Rabee Securities RSISUSD Index, in the process turning the year’s loss of -11.8% as the end of April into a gain of +1.2%.

The market’s turnover, while promising relative to the recent past, is still low relative to the last five years since the market’s peak. While, the average daily turnover increased +83% from April’s dismal levels, yet it is only about +11% above the average of the last year, which in turn was a low turnover year, as can be seen from the chart below.

(Source: Iraq Stock Exchange (ISX), Rabee Securities, Asia Frontier Capital

However, within the relatively low turnover, the market saw a return of its animal spirts in the form of a stunning rally in the Bank of Baghdad (BBOB) which was up +62.5% for the month.  Other leading banks rose such as the National Bank of Iraq (BNOI) +31.0%, Mansour Bank (BMNS) +20.0%, and Commercial Bank of Iraq (BCOI) +10.0%. Other stocks joined the rally with telecom operator Asiacell (TASC) +14.6% and Pepsi bottler Baghdad Soft Drinks (IBSD) +7.0%. Part of the catalyst for the banking sector’s rise was the end of foreign selling as covered here in the last few months, plus the emergence of modest foreign inflows in a number of leading banks such as BBOB and BMNS. The inflows were small, as can be seen from below, nevertheless the combined impacts of increasing foreign inflows vs. decreasing foreign outflows had an oversized positive influence.

(Source: Iraq Stock Exchange (ISX), Asia Frontier Capital)

However, the local buying was driven by more than just foreign inflows. BBOB reported earnings figures for the first quarter (Q1) of 2019, which were mostly in-line with the bank’s 2018 numbers (covered last month) and still pointing to the potential for a gradual recovery in the sector. Yet, the focus of local attention was Q1’s net profit equalling about 72% of 2018’s net profit which led to hopes that the bank would distribute dividends unlike last year. Last year’s decision not distribute dividends, as sound financially as it was, soured the local mood on the stock, which was made worse by the same locals absorbing massive amounts of foreign selling as covered here in August 2018. That souring led to a long spell of continuous price declines for BBOB, dragging the sector with it, which seems to have come to an end this month. While, the conditions are in place for the sector to recover, yet it is still too early in the year to judge the likelihood of the bank distributing dividends, especially given the size of its non-performing loans (NPL’s) and the potential need for provisions.  Rabee Securities reports that BBOB’s NPL’s stood at 81.6% of gross loans at the end of Q1/2019, but it should be pointed out that BBOB has been aggressively shrinking its loan book over the last few years making a bad ratio much worse.

Meanwhile, the latest data from the Central Bank of Iraq (CBI) lend support to the early leading indicators of the return to liquidity, discussed here over the last few months. In particular, by the end of the third week of April, the IQD Current Account component of banks’ reserves with the CBI (a key component of the monetary base M0, and a function of customer deposits with banks) showed increased acceleration from the prior report (chart below), arguing for continued future growth in M0 and ultimately broad money M2 (a proxy for economic growth).

(Source: Central Bank of Iraq, Asia Frontier Capital)

(Note: M0 as of Mar, IQD C/A component of bank’s reserves as end of third week of Apr)

The same CBI update, however, slightly lowered earlier reported figures for M0 for March, and M2 for January, but provided a slightly higher figure for M2 in February than estimated here. Together these necessitated a lowering of the estimates for M2 multiplier figures for March made here. The upshot is the estimated M2 year over year growth in March is now about +8.3% and not about +10.1% as reported last month (chart below). Continued strength in oil exports and higher oil prices in April and May, led to more growth in government revenues, which should continue to feed into increased liquidity in the economy.

(Source: Central Bank of Iraq, Iraq’s Ministry of Oil, Asia Frontier Capital)

(Note: M2 as of Feb with AFC est.’s for Mar; Oil revenues as of May)

After, what seems like forever, it’s looking increasingly likely that year-over-year growth in M2 is finally tracking increasing oil revenues, however, more data points are needed before this short-term trend can become sustainable. Especially, that it’s unlikely that future data will show the same acceleration seen so far, and revisions to CBI data could lower reported figures for M0 and M2. However, the signs continue to point to increased liquidity and down the road an economic pickup. This is mostly, due to the central role of the government’s spending on the non-oil economy- the lack of which over the last years goes a long towards explaining the divergence of M2 from oil revenues. This was particularly so because of the political paralysis before, during, and after the May 2018 parliamentary elections, resulting in a government inaction that would have ended in March as the 2019 budget was only passed into law in late February.

The silver lining of the lack of government spending has been the steady growth in the budget surplus to an estimated 26-month cumulative surplus of USD 25.8 bln by end of February. The 2019 budget’s non-oil investment programme at about USD 12.5 bln is equivalent to about a 7.5% stimulus to the estimated non-oil GDP for 2019. While it is highly unlikely that this would be immediately spent, yet the spending should start with a trickle in the following months but grow as investment spending gets underway and ultimately would lead to a sustained economic recovery.

Nowhere is this dynamic more pronounced than in the Kurdistan Region of Iraq (KRI) that experienced a much sharper boom and bust cycle than the country as whole. The KRI’s prosperity came to an end in early 2014 following disputes, over the KRI’s independent oil exports, between the federal Government of Iraq (GoI) and the semi-autonomous region’s government (the Kurdistan Regional Government (KRG)). The disputes led to the GoI cutting the KRI’s share of the federal budget, which the KRG could not cover with its independent oil exports especially as oil prices collapsed in the wake of the ISIS conflict. This led to sharp cuts in the KRG’s spending on public employee salaries and government spending on investments and infrastructure. The cuts were made worse by the proximity to the conflict as business spending, trade flows and other economic activity came to a standstill. The upshot is the KRI’s non-oil GDP would have contracted much more sharply than that of the country’s non-oil GDP contractions of -3.9%, -9.6% and -8.1% for 2014, 2015 and 2016 respectively; nor would it have stabilised in 2017 as the country’s non-oil GDP did.

These negative developments, came to an end in early 2018, as the GoI resumed partial payments to the KRI from its share of the federal budget, which increased meaningfully in March 2019 as the GoI began to implement the 2019 federal budget (the budget as mentioned earlier came into law in February, and was an expansionary budget). Coupled with increasing independent KRI oil exports and higher oil prices, the KRG resumed full public employee salary payments and even started making payments to contractors that were stopped during the crisis. The effects on the region’s economy, while too early to report on, should be an amplified recovery of that of the country as a whole.

A glimpse into that amplified effect, can be seen in the 2018 annual report for the KRI’s strongest bank, Kurdistan International Islamic Bank (BKUI). While, the bank’s earnings were down -82.9% year-over-year in 2018, vs. year-over-year changes of -11.7% and +11.2% in 2017 and 2016 respectively. The 2018’s earnings decline was due to BKUI’s dependence on FX margins to sustain its income during the contraction in economic activity of the prior years, but the collapse in FX margins witnessed in 2018 brought that to an end. Yet, the main feature to note was the year-over-year growth in customer deposits (consumers, businesses and government) of +86.2 % in 2018 following multi-year declines. Within that, consumer and business deposits grew +56.0% pointing to the improving financial health of the KRI’s consumers and businesses, implying a future potential pick-up in economic activity as a result of this improved health.

The continued signs of economic recovery, still mixed as they are in this early stage, continue to underscore the opportunity to acquire attractive assets that have yet to discount a sustainable economic recovery. On the other hand, the market’s strong recovery in May on low turnover continues to suggest that a long consolidation period and a significant recovery in turnover are needed before this recovery can become sustainable.

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The market, as measured by the Rabee Securities RSISUSD Index, increased by +2.5% in April, bringing the YTD decline to -11.8%. Average daily turnover, excluding block transactions, declined -32% from the prior month, and at 60% of the average turnover for the last 12 months, is the second lowest for the period. Foreign selling, the cause of the last few weeks’ declines, seems to have exhausted itself (chart below) and in the process prices lifted higher.

(Source: Iraq Stock Exchange (ISX), Asia Frontier Capital)

The early signs of the return of the liquidity to the real economy, reported here over the last few months, are becoming more convincing as the healing effects of increasing oil revenues are continuing to filter down into the broader economy. The continued recovery in broad money, i.e. M2 as a proxy for economic activity, is adding to this conviction due to its sensitivity to oil revenues (chart below)- given the central role of government’s spending on non-oil economic activity.

(Source: Central Bank of Iraq, Iraq’s Ministry of Oil, Asia Frontier Capital)

(Note: M2 as of Jan with AFC est.’s for Feb & Mar; Oil revenues as of Mar with AFC est.’s for Apr)

Driving this recovery in M2 has been the growth of monetary base, or M0, which in turn has been based on the growth in one its two main components “Iraqi Dinar (IQD) current account (C/A) component of banks’ reserves with the Central Bank of Iraq (CBI)” as can be seen in the chart below. The recovery of this component of M0 is a direct result of the growth of customer deposits (consumers, businesses and government) held with banks.

(Source: Central Bank of Iraq, Asia Frontier Capital)

(Note: M0 as of Mar, IQD C/A component of bank’s reserves as of late Apr)

The estimated increase in M2 (prior chart) for March is based on recent M2/M0 multiplier figures and actual increases in M0 for the month. Persistent growth as of late April in IQD Current Account component of banks’ reserves with the CBI (a function of sustained growth in customer deposits with banks) is an early indicator for a continued recovery of M0 and hence in M2 in April (above chart). However, more data over the next few months is needed to establish if this trend is sustainable.

Supporting this growth in customers deposits are the 2018 results for the Bank of Baghdad (BBOB) which showed the first year-over-year growth in customer deposits following their peak in 2014. While BBOB’s year-over-year deposit growth at +5.2% is a far cry from the +25.8% growth reported by the Bank of Mansour (BMN), never-the-less, it was a function of corporate customers deposit growth. Moreover, BBOB’s provision expenses decreased contributing to an overall decline in total provisions (ex-income tax) of -2.3%. Combined they indicates that the macro forces which contributed to BMNS’s recovery, as discussed last month, are spreading to the sector as a whole and should therefore create the conditions for a recovery in the sector.

However, BBOB doesn’t enjoy the same financial strength as BMNS, which is a function of BBOB’s heady expansion during the boom years up to 2014, which among other things resulted in a large loan book relative to other banks, and hence exposure to riskier loans. Growth for BBOB took a back seat while management’s focus over the last few years was on addressing the company specific issues and structural weaknesses that were exposed by the pains of 2014-2017, including the crush in FX margins witnessed in 2018. This can be seen through the other metrics for BBOB in that while its assets and equity increased by +2.1% and +0.2% respectively in 2018 over 2017, its loan book and interest income declined by -4.7% and -38.0% respectively. The decline in its interest income was made worse by the decline in interest earned from government bonds and deposits with the CBI. BBOB’s challenges during the years of contraction were explored here in August.

Finally, mobile operator AsiaCell (TASC) leverage to the economic recovery was confirmed by its continued confidence in its future outlook with a distribution of a 12% dividend. This comes on the back of last year’s 12% dividend and the prior year’s 14% dividend.

The continued signs of economic recovery, mixed as they are in as this early stage, underscore the opportunity to acquire attractive assets that have yet to discount a sustainable economic recovery. On the other hand, the market’s recovery in April on low turnover suggest that a long consolidation and a significant recovery in turnover are needed before it can embark on the next move.

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The market, as measured by the Rabee Securities RSISUSD Index, declined by -1.7% in March, bringing the YTD decline to -13.9. Turnover, while up +23% from February’s dismal levels, was still mostly in-line with the historic lows of the last few months. Foreign selling, the cause of the last few weeks’ declines, continued along the recent low levels dragging prices lower given the overall low market liquidity.

The market’s obliviousness to the increasing signs of the return of liquidity to the economy (discussed here over the last few months) has extended into an obliviousness to solid earnings growth for one of the market’s top banks- an earnings growth that has all the characterises of a classic banking recovery after a severe economic contraction.

It was argued here in November, following the earnings recovery of mobile operator AsiaCell, that “The next few quarters should see a similar recovery for the battered banking sector, with probably the first indicator to recover being the quality of loans. A return of liquidity and an economic pick-up should be followed by a recovery in the quality of bad loans and the reversal of NPL’s (non-preforming loans) with past provisions becoming earnings, thus providing the first boost to earnings recovery. This should be followed by growth in loans and deposits …”.

Mansour Bank’s (BMNS) 2018 results provide a textbook example of the above argument in action. BMNS reported revenue and income growth of +28.1% and +42.6% respectively for 2018 over 2017. Both revenues and net income were helped by a reversal of some of the past provisions for NPL’s (non-preforming loans) as some clients, helped by the economic pick-up, began to pay back loans that were classified as non-performing. However, even without this reversal of provisions, both revenues and earnings would have been up +13.1% and +15.5% respectively on the back of strong underlying metrics.

The first of these underlying metrics was deposit growth of +25.8% in 2018 over 2017, driven by the growth in private sector deposits. This lends support to the argument, made here in January,  that the growth in the monetary base M0 is an early indicator of a recovery in private sector deposit growth.  The second and most promising metric is an acceleration of loan growth to +6.1% in 2018 over 2017, after an almost flat trend. BMNS’s management singled its confidence in its future outlook by declaring a 9.7% dividend yield- up 40% in absolute terms over last year’s dividend payment.

BMNS’s financial performance during the years of conflict up to 2017 was reviewed here in October after it was caught in the selloff that engulfed the banks during the second half of 2018. The improvement in 2018 suggest the end of the tough times for the bank, and potentially for other strong banks in general.

BMNS’ financial performance during the years of conflict, the stability of 2017 and the start of the recovery in 2018 can be seen through the two charts below that look at loans/non-performing loans (NPL’s), and deposits and their association with government budget surpluses/deficits given the central role that government spending plays in the economy. BMNS’ loan and NPL data were supplied by the research team at Rabee Securities which is gratefully acknowledged, while other data were taken from the Ministry of Finance, the Central Bank of Iraq, the Iraq Stock Exchange and company reports. Data from 2010-2014 are based on Iraqi accounting standards, while data from 2015-2018 are based on IFRS, and all calculations use the official USD/IQD exchange rate.

BMNS’ loan book growth peaked in 2015 at the same time that NPL’s peaked. Unlike many other banks in the sector, its loan book was almost flat during 2015-2017, and started to pick up in 2018. NPL’s as a percentage of loans declined by over 60% from the peak (chart below).

Mansour Bank: Loans & NPL’s 2011-2018

(Source: Ministry of Finance, Central Bank of Iraq, Iraq Stock Exchange, Rabee Securities, Asia Frontier Capital)

Unlike, almost all other banks in the sector, BMNS experienced deposit growth throughout the crisis, which accelerated during the relative stability in 2017, and continued into 2018. A flat loan book and sharply increasing deposits resulted in a very low loan/deposit ratio allowing BMNS the opportunity to grow its loan book. Moreover, most of these loans are collateralized by property, as most of banks’ loans are in Iraq, and where the norm is for collateral value at 2x the loan. It should be noted, that most of these deposits are in the form of current accounts, followed by on-demand deposits underscoring the nascent nature of the Iraqi banking system and the opportunity for future growth as the society adopts banking culture.

Mansour Bank: Deposits and Loan/Deposit ratio 2011-2018

(Source: Ministry of Finance, Central Bank of Iraq, Iraq Stock Exchange, Rabee Securities, Asia Frontier Capital)

While not all of the other banks enjoy the same financial strength of BMNS, yet the macro forces that contributed to BMNS’s recovery are the same for the sector as a whole and should therefore create the conditions for a recovery in the sector. These macro forces are boosted by the December data from the Ministry of Finance which show that the government recorded a budget surplus of about USD 22.9 bln for 2018, or a two-year surplus of USD 24.4 bln by end of 2018.

The government’s 2019 non-oil investment programme is about USD 12.5 bln, which would be equivalent to about a 7.5% stimulus to the estimated non-oil GDP for 2019. While it is highly unlikely that this would be immediately spent, yet the spending should start with a trickle but grow as investment spending gets underway- and should therefore provide a further boost to the expected banking sector recovery.

The market has made a mockery of expectations, made here over the last few months, that its divergence from its past close relationship with oil revenues (a proxy for the forces driving the economy) should come to an end. Nevertheless, the strong fundamentals of the market’s leading stocks such as Pepsi bottler Baghdad Soft Drinks (IBSD), mobile operator AsiaCell (TASC), and Mansour Bank (BMNS) coupled with resuming growth in oil revenues only add to the unsustainability of this divergence (see chart below).

(Source: Iraq’s Ministry of Oil, Rabee Securities, Asia Frontier Capital)

(Note: Oil revenues as of Mar)

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The Iraqi market, as measured by the Rabee Securities RSISUSD Index, declined by -9.7% in February, taking the year to date decline to -12.5%.

February’s decline takes the index below the multi-year lows made in May 2016, for a decline of ­-70% from the multi-year highs of January 2014 to February 2019, versus the -68% decline from the same highs to May 2016. However, the severity of the decline and the immediate triggers are the only things that the two months have in common, while all other indicators, both fundamental and technical, are diametrically opposed.

The immediate trigger for the decline in the last two months was a foreign portfolio liquidation, the same trigger behind that of the period leading into May 2016. However, the similarity ends there, as the current foreign liquidation is that of a relatively small single portfolio vs. the massive multi-month liquidation witnessed then as the chart below demonstrates.

(Source: Iraq Stock Exchange (ISX), Asia Frontier Capital)

The above chart is an index of the absolute level of foreign selling & buying with their respective moving averages, clearly showing the contrast between the two periods (both highlighted in light orange). The main reason for the similarity, in effect of the selling on the index, is due to the extremely low liquidity in the current market- a low level that has been discussed in “Volumes and Reversion to the Mean”.

The average daily turnover per month since late 2014 (chart below) shows the association of low turnover with the index levels. Moderate selling in such an environment of extremely low liquidity exerts a strong downward pressure on prices, which coupled with low prices turns a few price increments into much larger percentage moves. A case in point is Bank of Baghdad (BBOB) which started the month at IQD 0.280 per share. Due to selling it declined to IQD 0.250 by month’s end. This is equal to three price increments (the minimum price increment is IQD 0.010), yet it is a -10.7% decline from 0.280 to 0.250, which in turn accounted for a -1.2% downward move in the index. Another issue of low liquidity is how it affects higher priced stocks, resulting in them trading in much larger price increments, with the end result producing the same percentage change effects as for the lower priced stocks.

(Source: Iraq Stock Exchange (ISX), Rabee Securities, Asia Frontier Capital)

The macro picture between 2016 and now couldn’t be more different. In 2016 Iraq’s economy was being crushed by the double whammy of collapsing government revenues, due to falling oil prices, and the sharply increasing cost of the ISIS war- a war that many international commentators believed marked the end of the Iraqi state. However, the end of the ISIS war cemented Iraq’s integrity and its position as a key player in the Middle East. This is evidenced by the high number of heads of state and high-level official visits to Iraq over the last few months as relationships which were forged during the ISIS-conflict are being developed into future economic relationships.

On the other hand, the economy in 2019 is gradually benefitting from the expansionary effects of the reversal of the forces that crushed it. In particular, the healing effects of higher oil revenues over the last two years is beginning to filter down into the broader economy with the first signs being seen in the recent recovery in broad money, or M2 which acts as a proxy for economic activity, as can be seen in the chart below.

(Source: Central Bank of Iraq, Iraq’s Ministry of Oil, Asia Frontier Capital)

(Note: M2 as of Nov with AFC est.’s for Dec; Oil revenues as of Feb)

The period leading to the May 2016 low witnessed multi-month declines in oil revenues that had a massive negative effect on economic activity as first seen in the stagnation of M2, followed by a decline as manifested in the onset of a severe economic contraction. It was natural then that these effects would negatively impact corporate earnings and ultimately lead to a marked decline.

A mirror image reversal is taking place in 2019 as multi-month increases in oil revenues have revived M2 which points to an economic recovery. The early signs of this is evidenced in the growth of customer deposits (consumers, businesses and government) with banks, which can be seen in the chart below through the growth of the IQD Current Account (C/A) component of banks’ reserves with the Central Bank of Iraq (CBI) – the recovery of which accelerated in May 2018, with the latest data as of early February indicating a continuation of this trend.

(Source: Central Bank of Iraq, Asia Frontier Capital)

(Note: M0 as of Jan, IQD C/A component of bank’s reserves as of Jan)

Other signs of economic recovery can be seen from the recent earnings reports of consumer spending related companies such as Pepsi bottler Baghdad Soft Drinks (IBSD) and mobile operator AsiaCell (TASC). Of the two, the data from TASC is promising, as the company is especially leveraged to the economic recovery given the severe hits its profitability took due to the ISIS conflict which were discussed fully in “Telecoms Dial up Recovery

The drag on the economy thus far in 2018 and 2019 has been due to the political paralysis before, during, and after the May 2018 parliamentary elections. This led to a torpidity in government spending, but a silver lining of the government inaction has been the steady growth in the government budget surplus that is estimated to be about USD 24.5 bln in the two years ending in 2018. This paralysis in government spending has finally come to an end with parliament’s approval of the 2019 budget in mid-January.

The 2019 budget’s non-oil investment programme is about USD 12.5 bln, which would be equivalent to about a 7.5% stimulus to the estimated non-oil GDP for 2019. While it is highly unlikely that this would be immediately spent, yet the spending should start with a trickle but grow as investment spending gets underway.

Just as the negative fundamental forces in 2016 were the reason for the market’s decline, their reversal and the early signs of economic recovery should lead to an economic growth which must find its way into corporate earnings’ recovery- which in turn should lead to a rising market. Logically, this ought to mean an end to the market’s divergence from its past close relationship with oil revenues (a proxy for the forces driving the economy) which is currently at the widest it has been for the last few years (see below).

(Source: Iraq’s Ministry of Oil, Rabee Securities, Asia Frontier Capital)

(Note: Oil revenues as of Feb)

In conclusion, the fundamentals seen in the prior charts surely argue that it’s only a matter a time before the liquidity in the broader economy finds its way into the Iraqi equity market, the reigning ugly duckling of frontier markets, to turn it into a swan or at least into a duck that flies.

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The Iraq Stock Exchange (ISX), as measured by the Rabee Securities RSISUSD Index, started the year not with a bang but with a whimper, as befits the ending of the Chinese year of the Dog, by going mostly sideways on a continuation of the low turnover of the last few months. However, the emergence of a moderate foreign seller took the index down to about -5% for the month before buyers emerged to absorb some the selling, taking the market to a decline of -3.1% for the month.

The real economy on the other hand is showing increasing signs that liquidity is returning as the healing effects of higher oil revenues over the last two years are having a positive effect. As reported last month, this was seen in the recent recovery in broad money, or M2 which acts as a proxy for economic activity. Driving the recovery in M2 has been the growth in the monetary base M0-defined as “the sum of currency in circulation and reserve balances in Iraqi Dinars (IQD) held by banks and financial institutions with the Central Bank of Iraq (CBI)”.

The clearest evidence of this nascent recovery is seen in the IQD Current Account (C/A) component of banks’ reserves with the CBI, which has been behind the recovery in M0 as seen in the chart below.

(Source: Central Bank of Iraq, Asia Frontier Capital)

(Note: M0 as of Nov, IQD C/A component of bank’s reserves as of Dec)

The IQD C/A component of banks’ reserves with the CBI, reversed its multi-year decline in late 2017 and began a recovery that picked-up momentum in May 2018, with the latest data as the end of December 2018 showing a continuation of this trend. This in turn is driven by the level of customer deposits (consumers, businesses and government) held with the banks. The early evidence of increased private sector deposits was discussed a few months ago in “Of Banks and Budget Surpluses”, however the granular data for private sector deposits is only available for end of 2017. The rise in deposits for 2018 is likely to have been driven by government deposits, which should lead to a rise in private sector (consumers and businesses) deposits as the government begins its spending programme as discussed later in this report.

The current trends indicate a continuation of this recovery, and as such to a continued recovery in M2. The latest M2 figures from the CBI for October and estimates for Novemebr (based on MO figures for November and recent M2/M0 multiplier figures) support this as can be seen from the chart below.

(Source: Central Bank of Iraq, Iraq’s Ministry of Oil, Asia Frontier Capital)

(Note: M2 as of Oct with AFC est.’s for Nov; Oil revenues as of Dec with AFC est.’s for Jan)

The prospects of increased economic activity got a boost with the end of the government’s spending paralysis, as parliament finally approved the 2019 budget in mid-January. The budget, however, is heavily skewed towards current spending, as opposed to investment spending, as both of parliament and government are under pressure to appease the population with some immediate rewards from the end of conflict and the recovery of oil prices. (for a review of the budget see the appendix in this report).

The government’s financial firepower is considerable, as the latest Ministry of Finance (MoF) budget report of October 2018 shows a surplus of USD 21.5bn for the first 10 months of 2018. As such, in addition to the surplus of USD 1.5bn for 2017, this means that the government could easily achieve the estimates made here over the last few months—a two-year surplus of USD 24.5bn by end of 2018.

The immediate consequence of government spending would be improvements in consumer and business sentiment leading to a pick-up in consumer and business spending, and subsequently an economic recovery as the multiplier effect works through the economy. The long term sustainably of the upcoming economic recovery would be driven by the implementation of the government’s non-oil investment programme for 2019 of about USD 12.5bn, which would be equivalent to about a 7.5% stimulus to the estimated non-oil GDP for 2019.

The recovery in M0 that is leading to a gradual recovery in M2 seems to be happening in a mirror image of Ernest Hemingway’s phrase on going broke, i.e. “Gradually and then suddenly” (attributed in error here in the last few months to Mark Twain), and so the next few months should see this translate into actual economic recovery.

If we are to go on similar experiences in other frontier markets (of declining markets while fundamentals show gradual recovery following a long basing period) then the market’s declining trend of the last few months should be followed by a sharp reversal and the beginning of a new trend.

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

December 2018 was probably the worst month in a decade for global equities, however the month’s sharp declines are eerily similar to those that drove the markets lower in December 2015 with the similarity extending to almost a replay of the start of 2019 to that of 2016.

The reasons, now and then, are fears of a slowing world economy with the world’s engine, China, showing signs of a meaningful slowdown. But the drivers of the slowdown this time are increasing evidence of the damage from the US-China trade war, echoing the Iraqi saying that “while reasons are many, death is the same”. However, now and then, the slowdowns were months in the making, but the markets ignored them until late in 2018.

The Iraq Stock Exchange (ISX), as measured by the Rabee Securities RSISUSD Index, on the other had quietly eked out a modest gain throughout the month to end up +1.9%. A gain which came despite sharp declines in the price of oil for the month that took Brent crude prices down about –40% from the October multi-year peak.

The ISX’s negative –15.0% return for 2018 marked the fifth year-over-year decline, on the back of declines of –11.8% in 2017, –17.3% in 2016, –22.7% in 2015, and –25.4% in 2014. The ISX further spent most of the last two years trying to break out; only to revisit the major May 2016 lows as each year came a close. This contrasts sharply with most global equities as the December sharp sell-offs took them down to about –20% off recent multi-year highs. This makes the risk-reward profile more attractive for the ISX vs. these markets as portfolio allocations are rebalanced in the light of the changed global environment.

Supporting the risk-reward profile for the ISX is the prospect of a recovery in corporate earnings. Iraqi equities should emerge from a multi-year severe economic contraction with the Telecoms being the first to emerge. Two of the major mobile operators out of three national operators reported Q3/2018 earnings that displayed the markers of recovery in earnings, margins and profits. Of the two, AsiaCell (TASC), listed since 2013, has a reported earnings span of 2012-2018 reflecting the operating environment before, during and after the ISIS conflict.

For TASC, the recovery started in late 2017 with the liberation of Mosul and the gradual return of customers lost since the 2014 ISIS invasion of a third of the country. As reported last month, TASC signalled its confidence in its future outlook with a distribution of a 12% dividend on the back of last year’s dividend yield of 14% –which in absolute terms is about a third higher than last year’s dividend. (See “Telecoms dial up Recovery” for further details on TASC).

The recovery for TASC extended to its stock price, which ended 2018 up +47%, following declines of –17% and –11% for the prior two years. TASC was joined by Baghdad Soft Drinks (IBSD), which was up +34% in 2018 on the back of 2017’s increase of +7%. IBSD is unique among the ISX’s listed companies as it continued to churn out healthy earnings growth through the downturn. Earnings for IBSD grew +13% in the first nine months of 2018, on the back of growth of +11% in 2017, +25% in 2016 and +37% in 2015 (pre-tax earnings).

TASC and IBSD’s performances stand in stark contrast to those of the banks which, as a group, had a dismal performance with the leading bank, the Bank of Baghdad (BBOB) down –52% in 2018 on the back of declines of –33% and –22% for the last two years. Other banks fared just as poorly with declines for a selected group ranging from –63% to –4% for the year. These negative returns don’t include income from dividends –which were quite high for some banks such as Mansour Bank (BMNS) or Commercial Bank Of Iraq (BCOI) that ended the year with dividend yields of 8% and 10% respectively. (See “Of Banks and Budget Surpluses” for more details on the banks).

Looking to 2019, the recovery of the banking sector would hinge on an economic recovery and a return of liquidity to economic activity, which for most of 2018 were held back by political uncertainties surrounding the May parliamentary elections.

Political uncertainty before the May 2018 elections was followed by indecisive election results, which in turn resulted in further uncertainties as the different political parties entered lengthy negotiations for the formation of a coalition government. Adding to these uncertainties was the eruption of massive demonstrations in the south demanding reform and investment into basic services. Things became clearer in early October with the promising appointments of a president and a prime minister in a fashion that broke the failed mould of the past. These were followed with the formation of a working government, which while still incomplete, can begin to act on the needed spending for a post-conflict recovery.

Paradoxically, while the political uncertainties paralyzed the government process, the government’s revenues soared with the recovery in oil prices, which has put the government on course for a two-year accumulated surplus of up to USD 24.5bn by the end of 2018. The oil markets decline from the un-sustainably high levels of the summer however are an un-welcome development but should not alter the country’s improving financial position as long as the government continues with the fiscal discipline brought on by the IMF’s 2016 Stand-By Arrangement (SBA). Moreover, Brent crude prices in a range of USD 50-60/bbl, would ensure that the government maintains this fiscal discipline and focus on reinvestments, a focus and discipline that are normally forgotten during periods of high oil revenues.

The healing effects of higher oil revenues over the last two years should begin the filter down into the broader economy over the next few months. The first evidence of this comes with the recent recovery in broad money, or M2 which acts as a proxy for economic activity, as can be seen in the chart below: –

(Source: Central Bank of Iraq, Iraq’s Ministry of Oil, Asia Frontier Capital)

(Note: M2 as of Sep. with AFC est.’s for Oct., Oil revenues as of Dec.)

While the October M2 figure is an estimate, it is based on actual M0 figures for the month and the recent M2/M0 multiplier figures. As can be seen M2 was moving sideways since oil revenues recovered in January 2016, but it began to accelerate in June 2018-Septemebr 2018 –and estimates for October suggest a continuation of this trend.

As such, this could mean that liquidity has finally begun to filter down into the economy – which should accelerate as the new government begins to act on its investment programme. Ultimately, this should filter down into the stock market, which should bring to an end the market’s divergence from its past close relationship with oil revenues – which currently is at the widest it has been for the last few years (see chart below).

(Source: Iraq’s Ministry of Oil, Rabee Securities, Asia Frontier Capital)

(Note: Oil revenues as of Dec.)

Recovery, in frontier markets, is a mirror image of Mark’s Twain’s phrase on going broke, in that recovery happens gradually and then suddenly. If similar experiences in other frontier markets (declining markets while fundamentals show gradual recovery following a long basing period) then the trend of the last few months could be followed by a sharp reversal.

However, for Iraq significant challenges remain with the huge demands for reconstruction, winning the peace, defeating a likely emerging ISIS insurgency, and controlling violence. In particular, the fragmented politics of the new parliament will continue to be a marker of risk for the government’s future stability, which would in turn pose a risk to economic recovery.

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

Average daily turnover in November continued to improve, increasing 24% on the back of October’s 24% month-on-month growth. However, the recovery is coming from an incredibly low base and still shows the average daily turnover in-line with the dismal levels of September, which were among the lowest for some time (chart below).

With the gradual recovery in turnover, the market, as measured by the RSISUSD Index, moderated its month-on-month declines, down -1.7% for the month- continuing to test the major bottom of May 2016.

However, the end the Arbaeen, summer, and the government formation are yet to mark the end of the period of, probably, the lowest daily trading volumes on the Iraq Stock Exchange (ISX) since it first witnessed an expansion in volumes in 2010. The anomaly and un-sustainability of these low levels was discussed last month, and logic continues to argue for a reversion to the mean.

(Source: Iraq Stock Exchange, Rabee Securities, Asia Frontier Capital)

It was also argued last month that an uptick in M2 (broad money and a proxy for economic activity) could imply that liquidity, brought on by a two-year recovery in government finances, has finally begun to filter down into the economy – which should accelerate as the new government begins to act on its spending programme.

A nascent recovery in telecoms adds support to this line of reasoning. The two major mobile operators out of three national operators, reported Q3/2018 earnings that display the markers of recovery in earnings, margins and profits. Of the two, AsiaCell (TASC) has been listed since 2013 and as such its reported earnings span the period 2012-2018, and thus reflects the operating environment before, during and just after the ISIS conflict.

(Sources: Rabee Securities, ISX, Company reports, Asia Frontier Capital)

TASC’s earning’s profile marked by rapidly increasing revenues – driven by the country’s adoption of mobile phones – peaked in 2013. The turn for the worst started in late 2013 with the increasing violence before the May 2014 elections, which accelerated by mid-2014 with the ISIS invasion and the loss of over a third of the country, and with that a significant loss in TASC’s subscriber base.

The roll out of 3G in early 2015 brought its own set of problems. The amortization of the fees of $307 million (on top of fees of $1,250 million in 2007 for a 15-year licence) to access the 3G spectrum increased costs meaningfully. While, revenues took a hit as free IP voice telephony soon replaced most expensive regular telephony-especially for international calls, while data fees could not fully replace these lost voice revenues. This was compounded by increased competition among the three mobile operators as they sought to replace both lost consumers and voice revenues through competitive price offerings to lure consumers from each other.

Capping the woes of mobile operators was the severe economic decline brought about by the ISIS conflict and the collapse oil prices as non-oil GDP declined by -3.9%, -9.6% and -8.1% for 2014, 2015 and 2016, respectively.  Finally, the resultant weaknesses in both consumer and business demand was made much worse with the introduction of 20% VAT on phone cards in the summer of 2016.

For TASC, the revenue decline, while cost increases crushed its profits (as the chart above shows), however this decline in profits was moderated by very strict cost controls and decreasing capital expenditures reflecting an earlier heavy investment in infrastructure.

The bottoming in revenues over the last few years came to end in late 2017 with the liberation of Mosul and the gradual return of customers which contributed to the recovery in profitability. The company signalled its confidence in its future outlook with a distribution of a 12% dividend on the back of last year’s 14% dividend – however, in absolute terms the dividend is about one third higher than that of last year. The grandfathering of the transition to 3G, the amortization of the licence and the effects of the VAT introduction, all coupled with the return of customers as well as the expected growth in data usage should lead to a healthy period of resumed earnings growth.

The next few quarters should see a similar recovery for the battered banking sector, with probably the first to recover being the quality of loans. A return of liquidity and an economic pick-up should be followed by a recovery in the quality of bad loans and the reversal of NPL’s (non-preforming loans) with past provisions becoming earnings, thus providing the first boost to earnings recovery. This should be followed by growth in loans and deposits, as should growth in trade finance revenue, and therefore similarly to the case of telecom should lead to a resumption of a period of earnings growth, and with-it better stock price performance. For more details on the banks see “Of Banks and Budget Surpluses”.

Recovery, in frontier markets, is a mirror image of Mark’s Twain’s phrase on going broke, in that recovery happens gradually and then suddenly. If similar experiences in other frontier markets of declining prices while fundamentals point to a start of a gradual recovery, then the trend of the last few months could be followed by a sharp reversal to the upside.

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The end of the month brought with it the end of the multi-month paralysis in government as the designated prime minister was confirmed by parliament through the approval of his proposed cabinet on October 25th. Although, parliament has not approved all of his ministerial choices- a function of the fragmented politics of the new parliament and a possible marker of risk for the government’s future stability.

Nevertheless, the new government is in a position to implement its policies, as articulated by the prime minister in presenting his government, which are focused on the provision of security, services, and investment in much needed infrastructure. The implementation of these policies is made possible by the accumulated budget surplus for 2018, which was about USD 14.5bn at the end of August- and on course for a two-year accumulated surplus of USD 24.5bn by the end of 2018.

Coinciding with this has been the end of the 40-day Arbaeen pilgrimage that brought the country to a standstill as millions of pilgrims took part in “the largest annual gathering of people anywhere on earth.”, including almost two million Iranian pilgrims.

The end of the Arbaeen, summer, and the government formation should be followed by the end of the period of, probably, the lowest daily trading volumes on the Iraq Stock Exchange (ISX) since it first witnessed an expansion in volumes in 2010. Average daily turnover in October, while higher in percentage terms than the dismal levels of September, was among the lowest for some time (chart below). In tandem the market, as measured by the RSISUSD Index, declined ending down -5.3% for the month, continuing to test the major bottom of May 2016.

(Source: Iraq Stock Exchange, Rabee Securities, Asia Frontier Capital)

While, the anomaly of these low levels can be seen in the chart above, they come into sharp focus when viewed statistically in the form of a frequency distribution. The two charts below drill down into actual daily turnover for two periods: (1) January 2013-April 2014-representing the bull-market phase of rising prices and high turnover; (2) January 2016-October 2018- representing the bear -market phase of declining prices and low turnover. The frequency refers to the number of trading days corresponding to ranges for the daily turnover index on the LHS of the above chart. The contrast between the two periods is extreme from both the level of the average daily turnover, the concentration of daily turnover around the average (standard deviation) and the full range of turnover.

(Source: Iraq Stock Exchange, Asia Frontier Capital)

Almost 63% of the lowest turnover days, for January 2016-October 2018, were in the last two months, while the other 37% was spread out as odd days throughout the whole period. As such, it seems that with the end of the political paralysis and summer slowdown that turnover should revert to the mean. While neither this nor the direction of the market are assured, a clue can be obtained from the initial recovery in M2 (see chart below) which has ticked up over the last few months, following months of sharply increasing oil revenues. While the October M2 figure is an estimate, it is based on actual M0 figures for the month and the recent M2/M0 multiplier figures. As such, this could mean that liquidity has finally begun to filter down into the economy – which should accelerate as the new government begins to act on its investment programme.

(Source: Central Bank of Iraq, Iraq’s Ministry of Oil, Asia Frontier Capital)
(Note: M2 as of Sep. with AFC est.’s for Oct, Oil revenues as of Oct)

The strong improvement in the finances of the country following years of conflict lie behind the reason for the continued expectations, expressed here over the last few months, that the market would be correcting and then bottoming. However, these expectations continued to be tested as the market sustained its dismal performance, and its divergence from its past close relationship with oil revenues is currently at the widest it has been for the last few years (see below).

(Source: Iraq’s Ministry of Oil, Rabee Securities, Asia Frontier Capital)
(Note: Oil revenues as of Oct)

The end of the political paralysis, the sharply improving government finances and tentative signs of liquidity reaching the wider economy could act as the catalyst to change the direction of the market to the upside. If similar experiences in other frontier markets were to be repeated here (a big if) then the anomaly of the current low trading volumes coupled with the market’s sharp divergence from its historic association with oil revenues would suggest that the next move could be a sharp reversal of the recent trend.

The irony for the market (having risen sharply this time of the year in each of the last the two years only to lose almost all gains within a few months) is that its real recovery would be greeted with the same scepticism that met the “boy who cried wolf”

Please click here to download Ahmed Tabaqchali’s full report in pdf format.

Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.

By Ahmed Tabaqchali, CIO of Asia Frontier Capital (AFC) Iraq Fund.

Any opinions expressed are those of the author, and do not necessarily reflect the views of Iraq Business News.

The uncertainty that has prevailed over all economic activity during the last few months is finally coming to an end in a typical Iraqi fashion- extremes of either feast or famine. The parliamentary elections in May, having yielded no clear winner, led to a multi-month paralysis during which the election results were contested in court, subsequently leading to a partial recount of the votes.

Increasing the election anxiety were massive demonstrations in Basra and the southern governorates, where citizens demanded reform and investment into basic services, and the proverbial shaking of the political class by raising fears that they would spread throughout the country. Thoughts on the protest movement and its implications are further discussed in, (The Protest Movement, the Politicians and the Elections).

The end of the uncertainty came in early October with the appointment of a president, and a prime minister in quick succession. This was done at a speed almost unheard of in post-2003 Iraq. While the individuals are two of Iraq’s most accomplished politicians with a lot of promise, the important takeaway is that the process of selecting them broke the mould and ended the political gridlock that bedevilled the country since 2003.

This was a continuation of the effects of the same 2015 protest movement that had such a profound effect on how the elections were fought and their subsequent results. The most visible effect was the fragmentation of the prior ethno-sectarian monolithic blocs that dominated over the past 14 years, the root cause of Iraq’s political and social instability since 2003. It is the end of this gridlock that holds the promise for change in Iraq and with it begins the unlocking of the massive reconstruction drive that lies at the heart of the Iraq investment opportunity.

This is made significantly easier for the upcoming new government as the windfall from higher oil prices (based on the year-to-date average Iraqi oil price of USD 65/bbl) could imply that Iraq would have a two-year cumulative surplus of USD 24.5bn, or the equivalent of a 19% stimulus for non-oil GDP by the end of 2018. Conservative assumptions for Iraqi oil prices for 2019 of USD 59/bbl would imply a further surplus of USD 9.3bn by end of 2019, but if Iraqi oil prices were to remain at the current average price then the 2019 surplus could easily double to USD 18.6bn.

The implications of a three-year cumulative surplus of USD 33.8 – 43.1bn by end 2019 are enormous for Iraq’s ability to plan the funding of the reconstruction and to address the country’s structural imbalances. The assumptions above don’t assume that the current rally in oil prices is sustainable, but that Brent would stabilize at about USD 65-70/bbl from the current USD 84+/bbl (Iraqi oil tends to sell at a discount of USD 5/bbl).

However, this is at least a few months away as the new government is unlikely to be formed before the middle of November and as such would not be able to take any action before year end. Given that, the county is in the mildest of the 40-day Arbaeen pilgrimage, the timing of the new government’s spending programme would coincide with the return of activity following the Arbaeen pilgrimage -hence the earlier reference to the extremes of feast or famine for Iraq’s economy.

The market followed through with its longer-term bottoming process as the July interim bottom continued to be tested this month, in-line with the same trend seen in August and will likely continue for some time. The market, as measured by the Rabee Securities RSISUSD Index was down -4.8% for the month and -10.5% for the year. Average daily turnover declined significantly for the month to the lowest levels (by a wide margin) for a number of years as can be seen from the chart below.

Average daily turnover Index (green) vs RSISUSD Index (red)

(Source: Iraq Stock Exchange, Rabee Securities, Asia Frontier Capital)

The poor market action over the summer months should be seen in the perspective of the low turnover coupled with the continuation of the demonstrations that began in July, the prolonged uncertainty over the governments formation and finally the 40-day Arbaeen pilgrimage that brings the country to a standstill as millions of pilgrims take part in “the largest annual gathering of people anywhere on earth.

However, the low activity was not without fireworks as a sell-off by a foreign investor in Mansour Bank (BMNS) set off a frenzy of trading activity in a replay of the sell-off in the Bank of Baghdad (BBOB), as reported in July’s update “Of Frenzies & Market Bottoms”. At the worst point BMNS, was down -40% for the month and its market capitalization was equal to about 0.5x Book Value, 17% of assets and 22% of cash (based on trailing 12-month numbers). In an exact replay of the events with BBOB, once the position was liquidated locals and some other foreigners bought the stock which sent it up +27% to end the month down -24%, and -10% for the year.

However, the financial position of BMNS during the past few difficult years is almost the mirror opposite of BBOB. BBOB suffered from the same forces that crushed the sector’s earnings, as reviewed in (Of Banks and Budget Surpluses), in addition to its share of company specific issues and structural weaknesses that were exposed by the pains of 2014-2017, including the recent pressure on FX margins. BMNS on the other hand, weathered the storm mostly unscathed as seen below, and in particular it’s in a strong position to reap the rewards of a recovery given its strong deposit growth, low loan/deposit ratio, and low ratio of non-performing loans (NPL’s) to deposits.

As explained “Of Banks and Budget Surpluses”, the banks’ leverage to the economy crushed their earnings. In particular, the double whammy of the ISIS conflict and the collapse in oil prices squeezed government finances as expenses soared while revenues plummeted. The government resorted to dramatic cuts to expenditures by cancelling capital spending and investments which, due to the centrality of its role in the economy, led to year-year declines in non-oil GDP of -3.9%, -9.6% and -8.1% for 2014, 2015 and 2016, respectively. Ultimately, the government had a cumulative deficit of around USD 41bn during this period and accumulated significant arrears to the private sector in the process.

The same leverage should work in reverse as the potential budget surpluses of USD 33.8 – 43.1bn for 2017-2019 should have a simulative effects on economic activity which ultimately should translate to stronger future earnings for the banks. These were discussed in further details in: “Forget the Donations, Stupid.”

BMNS’ financial performance during the years of conflict can be seen through the three charts below that look at loans/non-performing loans (NPL’s), deposits and trade finance and their association with budget surpluses/deficits. BMNS’ loan and NPL data as supplied by the research team at Rabee Securities is gratefully acknowledged, while other data was taken from the Central Bank of Iraq. Data from 2010-2014 are based on Iraqi accounting standards, while data from 2015-2017 are based on IFRS, and all calculations uses the official USD/IQD exchange rate.

BMNS’ loan book growth peaked in 2015 at the same time that NPL’s peaked. Unlike many other banks in the sector, its loan book was almost flat during 2015-2017 and NPL’s as a percentage of loans declined by almost 50%. At the same time BMNS increased its provisions significantly at almost twice the NPL’s in 2017.

Mansour Bank: Loans & NPL’s 2011-2017

(Source: Central Bank of Iraq (CBI), Rabee Research, Asia Frontier Capital (AFC))

Unlike, almost all other banks in the sector, BMNS experienced deposit growth throughout the crisis with growth accelerating during the relative stability in 2017. A flat loan book and sharply increasing deposits resulted in a very low loan/deposit ratio allowing BMNS the opportunity to grow its loans book. Moreover, most of these loans are collateralized by property as most banks’ loans are in Iraq where the norm is for collateral value at 2x the loan.

Mansour Bank: Deposits and Loan/Deposit ratio 2011-2017

(Source: Central Bank of Iraq (CBI), Rabee Research, Asia Frontier Capital (AFC))

BMNS’ trade finance declined, however, at much lower rates than those experienced by the sector, while the damage to BMNS’ earnings was mitigated by the relatively small size of the business.

Mansour Bank: Trade Finance 2011-2017

(Source: Central Bank of Iraq (CBI), Asia Frontier Capital (AFC))

It’s logical to conclude that the sea change which has taken place in the government’s financial health would reverse the trends that affected the banking sector’s earnings as the significant stimulus to non-oil GDP should lead to sustainable economic activity which should provide the sector with room to recover. Given BMNS’ strong position relative to other banks, it should have an opportunity to grow much faster than the sector as a whole.

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Mr Tabaqchali (@AMTabaqchali) is the CIO of the AFC Iraq Fund, and is an experienced capital markets professional with over 25 years’ experience in US and MENA markets. He is a non-resident Fellow at the Institute of Regional and International Studies (IRIS) at the American University of Iraq-Sulaimani (AUIS), and an Adjunct Assistant Professor at AUIS. He is a board member of the Credit Bank of Iraq.

His comments, opinions and analyses are personal views and are intended to be for informational purposes and general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any fund or security or to adopt any investment strategy. It does not constitute legal or tax or investment advice. The information provided in this material is compiled from sources that are believed to be reliable, but no guarantee is made of its correctness, is rendered as at publication date and may change without notice and it is not intended as a complete analysis of every material fact regarding Iraq, the region, market or investment.