FTSE downgrades Pakistan, here’s why it doesn’t matter

FTSE Russell just downgraded Pakistan equities from secondary market to frontier market status. If taken at face value, this is bad news for the country and can potentially drive away both local and foreign investors.

But a deeper look at the Pakistan economy and equities suggests neither the local investors nor the foreign ones care one bit. Let me explain why.

Pakistan’s stock market stood at a market cap of nearly$100bn in May 2017. In the subsequent 6 years, it lost 80% of its market cap and bottomed out at just under $22bn in 2022, when the country was on the brink of default.

This drop in market cap was primarily due to capital flight as foreign investors felt betrayed at the political chaos in the country. That money still hasn’t returned to the market, even though the market cap has nearly doubled from its bottom and now stands at over $38 billion.

If the money hasn’t yet returned to the market, the question then arises, who should worry about the downgrade?

The local investor hardly cares about the downgrade. The foreign investor hasn’t yet entered, at least not to the same extent as in 2017 when the market last peaked.

The KSE100 index reached an all-time high today, hardly showing any signs of trouble at the news of the downgrade. To understand why the market is likely to continue its uptrend, you’ll need to understand Pakistan’s relationship with the IMF.

The country has taken loans from IMF a total of 22 times. Based on that alone, the odds of a 23rd bailout are quite high.

Last year in June, the IMF signed a stand-by agreement of $3bn with Pakistan. Here’s how the market has reacted since.

The IMF deal was the trigger that resulted in a gain of 84% in 12 months. This year, the market has been the best performer in Asia in dollar terms. And according to the finance minister, a new deal worth $6bn is about to be signed with the IMF.

The above deal, once it materializes, will sooth a lot of nerves among foreign investors. Here’s how the foreign investor has been taking positions in the Pakistani market since last June:

The trend is clear, foreigners are returning to the market. The sell-off in January 2023 was due to a liquidation event when Global X MSCI Pakistan ETF liquidated its assets. Apart from that, foreigners are slowly returning to the market. And that’s what the local investors have their eyes on.

Only a fraction of the foreign investors have started returning. When will more investors pile in their funds? Nobody can tell, but political certainty is all they’re waiting for. Once the US elections are done, and there is clarity on how the new US leadership deals with the South Asian country, things will get clearer.

For now, all eyes are on the IMF deal. Nobody cares about the rating!

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