Foreign interest in Iran’s stock market has risen sharply since the implementation of the nuclear deal a year ago.
Although there were no legal barriers for foreign investment in Tehran’s bourse, stringent financial sanctions placed on the country’s banking system made any such moves next to impossible.
However, huge potentials of the fifth-largest stock market in the Middle East remain untapped.
Although the market performance did not match the breakthrough many expected in the post-sanctions era, Kiyan Zandiyeh, a principal at the Londan-based Sturgeon Capital, believes the market has not seen its best days yet.
For one thing, he says the country’s interest rates will play an essential role in influencing the market. As he puts it, the issue of interest rates is a bigger catalyst than the lifting of sanctions.
“At the beginning of the year, you had many claiming Iran’s stock market is very attractive for trading at a Price to Earnings of 5,” he said.
“The issue with this was that it ignored domestic opportunity cost. At the beginning of the year, an investor or anyone in fact could put money in the bank and receive 20% interest. If you go back and invert the PE of 5, the market’s earnings yield was 20%.”
According to Zandiyeh, there is one big caveat here: The 20% in the bank can be considered close to risk free, while 20% from the market is a risk asset, therefore it didn’t make sense to allocate money to the market immediately after the sanctions were lifted.
However, the government’s success in bringing down inflation significantly has put it in a rate-cutting mood. After twice lowering interest rates in less than 12 months, the Money and Credit Council–a decision-making body– is said to be mulling another rate cut.
Back in June, the Central Bank of Iran announced that the country’s inflation had dropped to single digits nearly after three decades.
“Given the great success the government had in reducing inflation to single digits, it was clear interest rates at 20% were not sustainable and have fallen. Deposit rates are now at 15% while interbank rates are closer to 16%,” he said.
Zandiyeh noted that if rates keep lowering, the equity market would benefit in multiple ways: A significant change in investors’ cost of capital, which will change the market valuation, irrespective of corporate earnings growth, a re-allocation of wealth from bank deposits to the market and a reduction in companies’ cost of borrowing, which assuming all else being constant, will increase earnings.
Advantages
Sturgeon Capital has entered Iran’s market with clear goals and is mindful of the unique opportunities that the Persian Gulf country offers.
The UK-based firm was launched 10 years ago as an asset manager focused on the Silk Road region, with a focus on countries around the Caspian Sea. Today, they are the largest portfolio investors in the region.
“Iran has been a country we have always wanted to be active in. However, due to sanctions, we had difficulty accessing it,” Zandiyeh said.
“Seeing the development that was being made in terms of the Joint Comprehensive Plan of Action [the official name of the nuclear deal Iran signed with six world powers], we began working on setting up an Iran-focused fund at the beginning of 2015. Ultimately, we launched the fund in December 2015 and for two months decided to test all its operational aspects.”
He noted that Sturgeon Capital sees Iran as exhibiting positive drivers that are virtually non-existent in global markets.
Zandiyeh refers to the country’s demographics that are in good shape with 60% of the population under the age of 35 now entering the most economically productive stage of their lives.
“Compare that to Japan where demographics are the polar opposite or Europe where most economies are facing both negatively trending demographics and significant pension deficits,” he said.
In terms of valuations, he notes that across the world, roughly $10 trillion of assets produce negative yields, rates near 0% and equities valued at multiples significantly higher than long-term averages.
“This is while Iran is going through a falling interest rate cycle, equity markets with very low P/E ratios, double-digit dividend yield on stocks and a 20% yield on bonds,” he said.
“Global equities are pricing in economic growth, even though macro data suggest the opposite. In Iran, equities are pricing in little growth but economic data support a clear upside.”
Zandiyeh also refers to debt-laden economies in developed countries, which are carrying extremely high levels of debt– particularly consumer and sovereign debt–as another issue that gives Iran a boost. “Iran has low debt levels across the board, providing opportunity for substantial, one-time re-leveraging of the economy generally,” he said.
