Cairo: As the Crisis Unfolds, Buy Egypt, Sell Oil
Why now may be time to go long on Egypt's long-suffering stock market, and especially its bond market, and short on oil.
This is not an endorsement of the slaughter of hundreds of mostly unarmed protestors by the Egyptian military. But if the Nobel Peace Prize winner Barack Obama can act on certain realpolitik assumptions about Egypt -- for example, that a united army and police force with considerable popular support will soon rout the Muslim Brotherhood and restore some semblance of broadly pro-Western order -- a humble investor can be forgiven for doing the same.
This likely outcome to the bloodletting opens several intriguing financial possibilities: to go long on Egypt’s long-suffering stock, and especially bond market, and short on oil, which has spiked based on a fictitious threat from "Egyptian turmoil."
First the stocks. Egyptian equities have lost 37% of their value since the day Hosni Mubarak left office (February 11, 2011), according to the one liquid ETF pegged to that market, the Market Vectors Egypt Index fund (NYSEARCA:EGPT). That compares to a 15% slump in the iShares MSCI Emerging Markets ETF (NYSEARCA:EEM), which tracks the asset class globally.
It is no wonder that Egyptian shares are so badly beaten down. The core of deposed president Mohamed Morsi’s economic policy -- more like lack of policy -- was to prove that he and his Brotherhood were no tools of the outside powers that were itching to lavish aid and investment on him in the name of the Arab Spring. Morsi’s people never seriously engaged the International Monetary Fund, whose billions in proffered loans would have triggered billions more from the European Union and other well-wishers. The European Bank for Reconstruction and Development (EBRD), which was supposed to spearhead a massive investment drive, could not even wade through the bureaucracy to open a Cairo office.
Morsi was more alert when it came to score-settling with undesirable businesspeople, particularly Nassef Sawiris, the head of Egypt’s richest family, who happens to be a Coptic Christian. His Orascom Construction Industries (OTCMKTS:ORSCY), which happens to be the country’s largest publicly listed company, was besieged by suspicious-looking tax investigations during Morsi’s interval in power.
Egypt’s beleaguered business community is clearly cheered by Morsi’s ouster, however. The market has rebounded by 17% since the military coup that removed him on June 30, and it sold off only slightly on last week’s massacres. If the next government does even a little better than Morsi -- say, by securing an IMF deal -- the upside could be considerable.
The case for investing in Egyptian bonds is more clear-cut. Yields on Egyptian sovereign debt are the highest in the charted universe, more than 16.5% for 10-year paper. That compares to 12.2% for, say, Kenya, and 9.75% for Greece. In other words, Egypt is priced for something close to default. But a military-backed government will not default for one simple reason. Some of the richest countries in the world, like Saudi Arabia and the United Arab Emirates, are ardent supporters of the military coup and cheerleaders for crushing the “terrorist” Brotherhood, whose spiritual cousins pose a dire threat to their own traditional autocracies. The Saudis and emirs will not let the Egyptian generals go broke. Sooner or later, the market should realize that, and bond spreads will tighten dramatically.
Lastly, we are told that concern over Egypt is pushing up oil prices. The cost of Brent crude rose by 2% last week amid the carnage in Cairo, a big jump for this massively traded commodity.
But Egypt driving the oil market is just silly. One explanation is that disturbances in the Egyptian capital might somehow result in closing the Suez Canal, more than 100 miles away. But none of the contenders for power in Egypt is near crazy enough to mess with the canal, plunging the last stake into the economy’s heart for no coherent purpose.
Some vague talk has also been heard on the markets about the contagion effect of the Egyptian chaos on other unstable oil provinces like Iraq. But the issue in Iraq, and elsewhere across the Arab world, is sectarian conflict between Sunni and Shiite Moslems. Egypt is nearly all Sunni, and its divisions are between secular and theocratic world views.
There is a legitimate reason out there why oil prices have been tightening: the cutoff of approximately 600,000 barrels per day due to so-called strikes at ports in Libya. (Actually, they look more like blackmail on the part of security guards.) The government managed to get one port reopened yesterday, showing admirable restraint and patience compared to its Egyptian neighbors. If Libyan crude starts flowing freely again, Egypt will revert to being a non-issue in the oil market and prices will subside to the lower levels dictated by real supply and demand.
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