Why the stock market is facing a liquidity crisis

The Dhaka Stock Exchange (DSE) is experiencing a liquidity crunch due to decreased investor participation, even though most stocks are undervalued relative to their earnings per share.

According to the DSE, daily turnover has fallen to around Tk300 crore, a trend that has persisted for several weeks.

In August, turnover exceeded Tk2,000 crore, and the key index of the DSE gained around 500 points shortly after the interim government took office, as investors anticipated reforms to restore confidence in the capital market.

However, that optimism has waned, with the key index of the DSE experiencing volatility due to selling pressure from investors, as the reform agendas introduced by the interim government have yet to bring visible changes.

Undervalued refers to a security or other type of investment that is selling in the market for a price presumed to be below the investment's true intrinsic value.

The undervaluation of the stocks of a company is reflected in the price to earnings (PE) ratio which measures a company's share price relative to its earnings per share (EPS).

Often referred to as the earnings multiple, the PE ratio is a key tool for assessing the relative value of a company's stock. Widely used by investors and analysts, it helps determine whether a stock is overvalued or undervalued.

As per the DSE data, the market PE ratio is 10.24, which is lower than that of India, Pakistan, Thailand and Vietnam.

Among the sectoral stocks listed on the DSE, the banking sector appears to be the most attractive, boasting a PE ratio of just 6.16.

In comparison, other sectors have the following PE ratios – fuel and power at 8.07, cement at 10.72, engineering at 11.13, pharmaceuticals and chemicals at 12.04, telecommunications at 12.41, insurance at 12.44, textiles at 12.99, food and allied products at 14.28, non-bank financial institutions at 15, tannery at 16.03, and information technology at 18.36.

According to the rules established by the Bangladesh Securities and Exchange Commission (BSEC), investors are eligible for margin loans to purchase stocks with a PE ratio of up to 40.

Additionally, stocks classified under Category A for at least the preceding three consecutive financial years, with a current paid-up capital of no less than Tk50 crore and a PE ratio not exceeding 50, are also considered marginable securities.

Ashequr Rahman, managing director of Midway Securities, told TBS that economic uncertainty, rising interest rates, and the BSEC's work processes are the key reasons for the liquidity crunch.

Ashequr stated that the share market in the country has experienced low turnover compared to its market capitalisation for the past 10 to 12 years. Additionally, the number of market participants is quite limited.

Consequently, any changes at the policy or government level have a direct impact on the market. In contrast, markets in other countries can absorb significant policy changes due to a larger number of participants, he said.

Furthermore, there has been little visible economic progress or reforms since the change of government. Meanwhile, the World Bank has reported a reduction in the GDP growth rate, creating uncertainty about the country's economy.

Additionally, investors are feeling uncertain about the actions of the new commission. This uncertainty leads to decreased investor participation in the market, he added.

Moniruzzaman, managing director of Prime Bank Securities, said that investors are still in a "wait-and-see" mode, as recovery in the macroeconomic situation is not yet visible.

He added that the yield on treasury bonds is currently over 12.50%, making them a much more secure investment compared to the stock market. As a result, a significant amount of capital is being allocated to treasury bonds.

Additionally, the announcement season for company dividends, which typically concludes in June, is underway. However, investors are sceptical about companies' ability to pay substantial dividends this year, leading to a lack of interest even during the dividend season, he further said.

A senior official from a brokerage firm said on condition of anonymity that the bank accounts and beneficiary owner (BO) accounts of several large investors in the stock market have been frozen, preventing them from participating in transactions.

He also noted that the market is currently experiencing a period of uncertainty, which makes even attractive PE ratios insufficient to draw in new investments.