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Investors are
likely to pour more funds into Egypt in 2011 as a strengthening economy
and attractive yields outweigh a fragile social backdrop and
uncertainty ahead of a presidential election.

Egypt’s main stock
index rose 20 percent in the past six months even as soaring food
prices hit the poor, sectarian tension grew and the country held
parliamentary elections marred by accusations of fraud and bullying. A
church bombing in the northern city of Alexandria killed 23 people at
New Year and sparked angry protests by Egyptian Christians demanding
more protection from Islamist extremists. Egypt’s benchmark index
wavered in the days after the attack before rallying to an eight-month
high on January 5.

A strengthened economy

Explaining that
strength, analysts point to accelerating economic growth and a broader
shift to emerging market risk prompted by quantitative easing in the
United States and lingering uncertainty over economic recovery in
developed nations. That also seems to override uncertainty over whether
President Hosni Mubarak, 82, will run for a sixth term in office in
September. He has no deputy or obvious successor. “We do not believe
that either the run-up to the presidential elections or any overhang
from the parliamentary elections will impact economic policy – focusing
on supporting growth,” said EFG-Hermes in a research report. The
investment bank gave Egypt an “overweight” rating, saying domestic
demand should continue to strengthen this year due to faster credit
growth and rising investment.

Election rules and
the opposition’s weakness make it virtually impossible for anyone but
the ruling National Democratic Party’s (NDP) candidate to win in
September. Mubarak has not said if he will run for another term that
would take him to 89, but ruling party officials say he is their
natural candidate. Mubarak has no clear successor and has denied talk
that his son Gamal is being groomed for power. His three decades in
office have fostered a stable business environment but the strength in
a system that revolves around one man is viewed by some as a weakness
as post-colonial Egypt has no precedent of a voluntary handover of
power. “Uncertainty over the succession is a source of real concern for
overseas investors,” said HSBC Economist Simon Williams. “But while
this will wensure they stay cautious, I think Egypt’s economic
fundamentals are too good, and the yield on offer is too high, to push
them away from the trade.”

Inflation concerns

Egypt’s government
estimates the economy grew 6-6.2 percent in the final quarter of 2010
after gaining gradually from 4.7 percent in the year to June 2009. It
is aiming for 7 percent in the 2011-2012 fiscal year. The central bank
has held its main interest rate steady since September 2009 as the
government seeks to push growth high enough to create enough jobs for a
fast-growing population. That means prices, not politics, could pose
the biggest risk to the inward flow of portfolio funds, say some
economists, who forecast inflation could accelerate in the first half
of 2011. “It’s mainly about inflation – politics will be secondary as
long as there are no major political shocks related to the presidential
election,” said Brahim Razgallah, Middle and North Africa Chief
Economist at J.P. Morgan.

Core inflation,
which excludes subsidised goods and volatile items, rose in November to
8.58 percent from 7.65 percent in October. High prices hurt the poor in
Egypt, where about a fifth of people live on less than $2 a day
according to the United Nations. Inflation can also dampen demand for
treasury bills, which soak up the biggest chunk of foreign portfolio
investments. Foreigners’ share of Egyptian T-bills went from 14.6
percent in July to around 23 percent in early November, according to
J.P. Morgan. Razgallah said he expected it to remain stable in coming
months as inflation accelerates further but may rise to around 30
percent once inflation stabilises and slows.

Encouraging signs

The yield on
Egyptian 182-day T-bills rose to 10.3 percent this month from around
9.5 percent in late October, an appealing return as developed nations
hold interest rates low in an attempt to kick-start their recession-hit
economies. “I think another 0.5-1.0 percent rise in yields is
possible,” said Monette Doss, senior analyst at Prime Securities in
Cairo. “This will result in stable exchange rates because I highly
believe that if it were not for the high yields the Egyptian pound
would have depreciated more.” Economists see the Egyptian pound – which
has been testing five-year lows above 5.8 against the dollar –
strengthening to around 5.7 in coming months and say that prospect
could bolster inflows into Egyptian bonds and equities. “The FX is
quite important. As long as it remains stable with a bias to
appreciation, that will encourage foreign investments,” said Razgallah
at J.P. Morgan.

Analysts are recommending stocks likely to benefit from a stepped-up
infrastructure drive and growing spending by Egypt’s expanding middle
class after the period of low interest rates spurred consumer lending.
HSBC has “buy” recommendations on Ezz Steel and Orascom Telecom. Among
buys for EFG-Hermes are drugmaker Eipico, Maridive, Credit Agricole
Egypt, National Societe Generale Bank El Sewedy Electric and Palm Hills
Development.