Equities in Iran had one of their worst years in recent memory, will this continue? Haunted by political uncertainty and an economic recession, investors fled from stocks taking the index down over 20 percent to an 18-month low for the fiscal year ending March 20.
The main issue weighing in on Iran’s economy and inexorably on its equity markets has been the economic sanctions imposed by the United Nations, United States and European Union in the past few years.
Placed to restrain Iran’s nuclear energy program, the wide raging sanctions have crippled many key industries and inevitably affected every other industry in the stock markets’ portfolio.
The sanctions seem to be at an end, with Iran and the six world powers – Britain, France, Germany, China, Russia and the United States – reaching a framework agreement for a final deal over Iran's nuclear energy program. Based on the agreement, set to be finalized by the end of June, the sanctions will be lifted in exchange for limitations on the program; a welcome change for business conditions in Iran, but not the end of economic plights.
Though the sanctions are the main reason behind the pessimism in the equity markets and the poor performance of listed firms, there are other major challenges the capital markets in Iran are facing.
Sorting Out Finance
Iranian banks are in terrible shape. Their balance sheets are dripping toxic debt. A combination of bad lending practices, bad asset management, corruption and loans the government forced them to pay for, sometime, profligate national projects have led to over $60 billion of non-performing loans. They have been sanctioned, cutting them off from foreign business. The awful state of the major state-owned banks is weighing on their share prices.
To replenish their depleted resources, lenders have taken up property speculation – a risky business for banks – and offered higher deposit rates. Furthermore, higher deposit rates and unstable economic times have driven savers and investors away from equities.
Also, higher deposit rates mean higher interest rates, which businesses cannot afford to repay, creating a credit crunch. The high cost of money in current conditions has made many business plans uneconomical, meaning business investment has fallen.
The woes of Iran’s financial sector take a long time to solve. They require a coordinated move by various branches of the government, especially the Central Bank of Iran. A proper debt restructuring plan, criminal lawsuits and bailouts are in order.
State Role
Furthermore, though decreasing, the role of the government in the economy is still domineering. It both controls the largest part of Iran’s industrials and is the main consumer of their products. This changes the playing field for smaller companies and decreases competition and raises costs for taxpayers.
There are also some structural and regulatory obstacles holding back Iran’s equity markets despite updated infrastructure that is in place. Iran took 130th spot in ease of doing business ranking in 2015, by the World Bank Group, among 189 countries.
Regulate Lightly
Lack of transparency in companies about their financial data and decisions makes investing more a guesswork and less a scientific activity for investors. This is especially true for minority investors as big players always find reliable sources of information, at a price of course. Accounting standards should be reviewed and disclosure of corporate information better regulated to remedy this.
The obscure financial information and favoritism by brokers make minority investors and would-be investors wary. “The TSE (Tehran Stock Exchange) is good place to make money if you have connections,” an uncomfortably familiar phrase spoken among the public, and a stark reminder of how insider trading is the normal in Iran’s equity markets.
Until the regulator doesn’t take a firmer stance to protect investors and create trust in the markets, and until the banking industry is in shambles, and until the government doesn’t fully recognize its place in the economy, the equity markets will not realize their full performance.
That said, currently, stocks are so undervalued and companies are so far away from their full production capacity, that any change for the better about business conditions in Iran will have monumental effects on share prices. Tough, the volatility cap set for share prices in Tehran’s stock exchanges will slow this.
In all, Iranian equities present a unique long-term potential for growth. Although there are various risks to factor, Iran's stock markets can become the largest in the Middle East, eating up Dubai Financial Market and the Saudi Stock Exchange, Tadawul. The TSE already hosts nearly double the number of companies listed on the DFM and Tadawul combined. Iran's financial markets have already got the infrastructure. They just need a strong financial sector and smarter regulations to support their growth.
