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CAPITAL MARKET

SAX reached new all-time low, but nadir yet to come

Market Developments
Market sentiment deteriorated further over the two weeks ending May 28. The market took a sharp nose dive as the SAX fell by 12.6% to 111.95 on May 27, reaching yet another all time low due to the plummeting prices of four blue chips - VÚB (-32.3%), VSŽ (-29.8%), Slovnaft (-15.0%) and Nafta (-14.3%). The latter two companies are currently trading at their respective historical lows. The continuing misery of the equity market is predominantly a consequence of Slovakia's increasing country risk, which foreign investors discount into share prices. Furthermore, domestic investors are not providing any support to the market, as they prefer to invest in currently high yield fixed income instruments rather than put money into equities.

Market Developments

Market sentiment deteriorated further over the two weeks ending May 28. The market took a sharp nose dive as the SAX fell by 12.6% to 111.95 on May 27, reaching yet another all time low due to the plummeting prices of four blue chips - VÚB (-32.3%), VSŽ (-29.8%), Slovnaft (-15.0%) and Nafta (-14.3%). The latter two companies are currently trading at their respective historical lows. The continuing misery of the equity market is predominantly a consequence of Slovakia's increasing country risk, which foreign investors discount into share prices. Furthermore, domestic investors are not providing any support to the market, as they prefer to invest in currently high yield fixed income instruments rather than put money into equities.

International markets expressed their evaluation of Slovak sovereign risk through the pricing of the Slovak Eurobond issue, which consisted of three tranches worth 600 million Deutsche marks, 300 million American dollars and 15 billion Japanese yen respectively. The yen tranche, which bears a 4% fixed annual interest coupon and will mature in three years, was sold at 100% of its face value. The D-mark tranche yields 3.5% to 3.75% over three-year Bunds, and was sold at 100.575% of its nominal value. The dollar tranche, yielding 3.6% to 3.7% over five-year U.S. Treasury bonds, was sold at 100.785% of its face value. These yields are higher than the yields at which most troubled Asian countries are currently selling their bonds.

The high yields reflect the markets' unease about the Slovak current account and fiscal deficits, continuing increases in foreign indebtedness, and pre-election political uncertainty. The market is also pricing in uncertainty concerning structural economic reforms after the elections. We believe that this bluntly expressed perception of Slovakia's economy is partially behind the recent equity market decline. We see little room for reduction of the currently perceived country risk before the September elections, and believe instead that the risks are tending to increase.

Currently, the Slovak equity market is trading at a 98 PER of 6.1x compared to the Czech market's 13.6x, the Hungarian market's 12.3x and the Polish market's 9.6x. In spite of the already very low valuation, we do not foresee a market recovery any time soon, and believe on the contrary that the market has yet to reach its nadir. Current market sentiment notwithstanding, we believe that certain stocks at their currently very low prices, such as Slovnaft, offer investors an excellent long-term value.

Corporate developments

The AGM of the seamless steel pipe maker Železiarne Podbrezová decided to pay out a dividend of 10 Sk for 1997, corresponding to a dividend yield of 8%. It was the first time in its history that the company had paid a dividend. The company's 1997 net profit was 27.9 million Sk ($0.8 million), below our expectations of 35 million. EPS is 12.2 Sk and 97PER is 10.23x. The pay-out ratio of 85.4% is quite high. We have not received complete financial results from the company, and therefore we do not know to what extent the lower-than-expected results were influenced by provisioning for a huge receivable owed by a Russian company. Another reason for lower profits may have been stronger competition from Asia. We maintain that the stock price developments will be in line with the market.

Slovnaft, the sole Slovak oil refiner, is participating together with Shell in a tender for the purchase of 57 gas stations in the Czech Republic owned by Petra, a part of the Chemapol Group. If the consortium is successful, it will own the third largest petrol station chain in the Czech Republic, numbering some 203 stations. For Slovnaft, the Czech market is its most important export market, generating over 20% of the company's sales revenues. Currently, Slovnaft has a 10% share on the Czech petrol market and a 20% share on the diesel market. Although we believe that the takeover will further strengthen Slovnaft's position, due to fierce competition on the Czech retail market and ensuing low retail margins, Slovnaft will have to carefully consider the takeover price.


Vladimír Zlacký is an equity analyst with ING Baring.

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