Structural Reforms Taking Hold In Egypt

16 May 2018

As emerging markets in general enjoy a renaissance of investor appetite amid global growth and relative valuations, Egypt has been undergoing an economic transformation that is breathing life into an economy that had been stymied by the after-effects of revolution. Egyptian equities have been a performance standout over the last year, returning nearly 53% compared to approximately 22% for the broad emerging markets index.1

The Egyptian revolution of 2011 led to a far-ranging upheaval of the economic and social fabric of Egypt. The immediate economic after-effects of the revolution included a decline in foreign direct investments, a high budget deficit, high unemployment, high poverty, and a low standard of living. As Egypt transitioned away from its prior government, the economy entered a prolonged crisis period, requiring external financing from outside countries. Ultimately, Egypt turned to the International Monetary Fund (IMF) for help.

IMF Loan and Reforms

In November 2016, the IMF approved a multi-step loan package for Egypt worth $12 billion, contingent upon the country's ability to enact structural economic reforms. According to the IMF, the reforms are meant to restore macroeconomic stability and promote inclusive growth.

The IMF categorized the reforms under four key pillars:2

  • Significant policy adjustment, including (1) liberalization of foreign exchange system; (2) monetary policy aimed to contain inflation; and (3) strong fiscal consolidation to ensure public debt sustainability
  • Strengthening social safety nets by increasing spending on food subsidies and cash transfers
  • Far-reaching structural reforms to promote higher and inclusive growth, increasing employment opportunities for youth and women
  • Fresh external financing to close financing gaps

Market Effects of the Reforms

One of the key reforms instituted was to float the Egyptian pound, which was pegged to the US dollar prior to November 2016. Immediately after floating the pound, Egyptian assets lost roughly 50% of their value and inflation spiked, especially for imported goods. Inflation reached an annualized high of 35% by July 2017 before beginning to subside. A temporary rise in inflation was an expected outcome of letting the market freely value the currency, which to that point had been propped up by burning through foreign reserves. Between November 2016 and August 2017, the Central Bank of Egypt (CBE) aggressively hiked interest rates to combat inflation, raising overnight rates 700 basis points.

After the initial devaluation, interest rate hikes and reform implementation, Egyptian assets stabilized and foreign investments have flowed into the country. In December 2017, foreign holdings of Egyptian Treasury bills hit all-time record highs and have continued to move higher, which has generally been viewed as a positive sign for the rebounding economy.

Equity assets have also been moving higher since the summer of 2017, after the enactment of a new investment law aimed at attracting foreign investment and making doing business in Egypt relatively easier. As inflation eased, the CBE was able to cut interest rates in February and March of 2018 with two consecutive 100 basis point cuts. This has given Egyptian equities another boost.

Are the Reforms Sustainable?

In January of 2018, the IMF announced completion of its second review of the reforms. The IMF noted that the reforms have so far led to stabilization of GDP growth, moderating inflation, and fiscal consolidation.3 The completion of the second review led to another round of loan disbursements, with roughly half of the planned $12 billion having been delivered to Egypt. The markets have continued to react positively to the developments, with equity assets and foreign holdings of Treasuries rising throughout 2018 so far.

In April of 2018, President Abdel Fattah el-Sisi was re-elected by a wide margin, albeit on low voter turnout and allegations of heavy-handed tactics to silence opponents. Sisi, nonetheless, is in a position to continue reform efforts and seems to have gained investor confidence, as reflected in a positive IMF review and the ongoing rally in Egyptian assets.

Investors seeking exposure to Egypt will find that Egyptian equities are not well-represented in broad-based emerging markets indexes. We believe that the VanEck Vectors® Egypt Index ETF (NYSEARCA:EGPT) may be an attractive way to target this turnaround story.

MVIS Egypt Index versus MSCI Emerging Markets Index
December 2016 - April 2018

This commentary is not intended as a recommendation to buy or to sell any of the named securities. Holdings will vary for the EGPT ETF and its corresponding Index.

Index performance is not representative of fund performance. Past performance is no guarantee of future results. To view fund performance current to the most recent month end, call 800.826.2333 or visit vaneck.com.

IMPORTANT DISCLOSURE

1 Source: FactSet. As of April 30, 2018.

2 International Monetary Fund. 'IMD Executive Board Approves US$12 billion Extended Arrangement Under the Extended Fund Facility for Egypt.' November 11, 2016.

3 International Monetary Fund. 'IMF Executive Board Concludes 2017 Article IV Consultation and Completes Second Review under the Extended Fund Facility with the Arab Republic of Egypt.' December 20, 2017.

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