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13-Feb-2019

Egypt Strategy - Inevitable rate cuts to drive Egyptian equities

Our coverage implies up to 26% upside for EGX30 over 12-mths

Despite a 16.5% (USD terms) YTD rally for EGX30 (vs. 8% for EM and 7% for MENA), we still see (bottom-up) 26% upside (consensus is 21%). Inevitable rate cuts will provide the necessary tailwind to achieve most of this upside. Within our frontier emerging coverage, Egypt offers the highest upside. We have been OW on Egypt since Nov 2016, and remain convinced it offers the best LT potential within our coverage - best expressed by looking at valuations in USD terms (figs. 2-3). Egypt is trading at 10x 2019 P/E, which is undemanding within the FEM and FM-x-GCC space (trading at 12.8x and 11.4x, respectively, MENA is at 13.3x). The next leg of the rally will require rate cuts from the CBE, which we expect in 2H19 (base case), albeit we cannot rule out a symbolic cut in 1H19 (25% probability). We see more upside in Egypt-x-COMI (+35% upside vs +16% for COMI). Our bear case scenario implies a 16,000 finish for EGX30, based on no multiples expansion and 21% aggregate EPS growth for 2019e. 
 
Favour cheap high yield, consumers, and highly leveraged stocks  

As we expect rates to fall in 2019, we increase our allocation (fig.1) to highly leveraged names in LCL terms (ESRS, DOMT, JUFO) and add CIEB – an inexpensive high-yield stock. Investors that have lower liquidity requirements should consider IRAX (we play this via ESRS). We continue to like best-in-class real estate stocks (EMFD and TMGH), which tend to react positively to falling yields. We remain UW on heavyweight COMI, and increase exposure to EKHO (5% USD yield, with a free option on future gas discovery). We lower our exposure to SWDY given its decent run since we increased its weight at end-Oct 2018. CIRA remains a core position despite the recent strong performance. Finally, we see AUTO as another play on rate cuts. 
 
Catalysts and risks ahead – risks look skewed to upside 

Catalysts (other than rate cuts): Local institutions have net bought cEGP1.6bn YTD after having net sold EGP10bn post devaluation. Therefore there is more cash sitting on the sidelines that could return and further support the market. Also if the GTHE deal goes through, this could lead to cUSD600mn potentially circulating into other stocks. 
Risks: We still see any rally in oil prices above USD80/bbl as the key ST risk to Egypt’s macro outlook as it could slow monetary easing. Finally, COMI has rallied strongly since 10 Jan and is trading 20% above its historical 12-month forward P/B (2.1x) despite falling T-bill yields and a higher effective tax rate ahead in 2020. If the market is mispricing the impact of the new tax law (final formula yet to be disclosed) then we fear that a pullback in COMI could lead to a pullback for the market. 

Mohamad Al Hajj