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Geo politics, power cuts to intensify current economic unrest

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Sri Lanka undergoing major Economic shock

Sri Lanka’s foreign reserves has fallen to USD 1.6 billion in November 2021, the lowest level since 2009 and improved to USD 3.1 billion in December 2021 and currently hovering around USD 2.4 billion by February 2022.

“With USD 7 billion foreign currency debt to be repaid over the next 12 months, Sri Lanka seems to be at a very critical juncture,” says First Capital (FC) Equity Strategy for March2022 report.

“Despite the possible foreign inflows as a result of the devaluation of the rupee, unceasing pressure from global commodity prices coupled with geopolitical tensions, the local energy shortages and resultant power cuts may intensify the current economic unrest.”

With the Governor continuously reiterating that they are NOT willing to obtain IMF support, it is unclear as to the debt repayment plan of the Government. “Therefore, we believe that Sri Lanka could further dive into the core of the economic crisis creating an unbearably high-risk environment.”

The weak environment could lead to a further depreciation in the currency, if floated and as well as further hike in interest rates. Rise in interest rates will make domestic borrowings more expensive thereby significantly increasing the finance cost. This may discourage additional borrowings and hinders future corporate expansion plans. Therefore, these factors may weigh on corporate valuations while lowering the fair value estimations.

“Though the import restrictions and rise in inflation are supporting the growth in earnings, it is likely to be temporary in the face of the crisis. It will be prudent for investors to move towards defensive counters out of which Dollar income companies are on the priority list, though it’s best to move into companies that have NOT surged in price.”

“Life Insurance Companies and Banks are expected to benefit from the rise in interest rates. We would also recommend high dividend yielding counters.”

Persistent power cuts, disrupted daily operations especially in the high energy consuming sectors such as manufacturing may experience delayed orders and messes in the distribution channels while losing the credibility towards existing and potential buyers.

Dwindling foreign reserves coupled with geopolitical unrest and the supply shortages fueling up the global commodity prices worsening the country’s ability to fulfill the energy requirement to run the business and household activities smoothly. Apparel sector which yields a significant amount of export earnings into the country may see a reduction in their revenues due to loss of orders.

“For risk-averse conservative investors who are unwilling to take an economic shock, we would recommend further reducing equity exposure. From our previous cash allocation of 75%, it would be wise to increase to 90%.”



Friday, March 18, 2022 – 01:00

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