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SCMP Reporter

AS investors comb through stock markets around the world looking for yields anywhere near those posted by Southeast Asian exchanges last year, exotic markets - such as Sri Lanka - have moved into the spotlight.

  Sri Lanka, which has operated a stock market in Colombo since 1896, has joined India, Taiwan and South Korea as one of the most attractive in Asia - a development reflected in its performance recently.

  The Colombo Sensitive index has jumped 45.94 per cent this year while the broader-based Colombo All Share index has moved ahead by 41.53 per cent, the third and fourth best performing indices, respectively, in the world this year.

  Much of the market's recent momentum has been created by liquidity as local investors scramble to get exposure in anticipation of growing interest and entry into the market by a number of major international funds.

  The latest foreign participant is Carlson Investment Management Far East, which launched Sri Lanka's second country fund last week by announcing plans to raise at least US$40 million.

  Regent Fund Management launched Sri Lanka's first country fund - the Regent Sri Lanka Fund - last November.

  The dominant themes now capturing the imagination of fund managers are the Sri Lankan Government's economic liberalisation programme launched in 1989 and the flow of foreign investment now beginning to enter the country.

  These factors represent a sharp change in direction from the policies implemented after Sri Lanka gained independence in 1948, which essentially saw the economy closed off and many vibrant private firms privatised.

  Foreign investment was officially permitted in 1990 and there are now a number of multinational firms operating in the country. In 1991, the 100 per cent capital gains tax was waived for foreigners in the stock market.

  Unlike South Korea or Taiwan, foreigners are permitted to hold stakes of up to 100 per cent in most sectors.

  Sectors closed to foreign investors or subject to limitations include the manufacture of arms, alcohol, gem mining and the production and distribution of energy and power.

  Initially, the reform programme's most important component were efforts by the Government to encourage foreign investment through the privatisation of 37 state-owned enterprises.

  Sri Lanka's Board of Investment expects foreign investment to climb from about US$600 million in 1993 to US$850 million this year.

  The investment community received a significant boost in last year's budget when the Government reduced corporate tax from 40 per cent to 35 per cent, removed or cut tariff barriers and created tax incentives for the export sector.

  The budget forecast real gross domestic product (GDP) growth of six per cent this year compared with 5.6 per cent in 1993 and 4.3 per cent in 1992, while inflation should decline from 12 per cent to single digits.

  The Government is also looking for industrial production to climb by 12 per cent as the manufacturing sector expands, and the budget deficit to fall to slightly under seven per cent of GDP this year.

  Carlson senior investment manager Andrew Gibbs said the Sri Lankan story was underscored by strong economic growth, per capita income of US$600 - ranking it well above sub-continent neighbours India, Pakistan and Bangladesh - good infrastructure and a literacy rate of about 90 per cent.

  Ayaz Ebrahim, who manages Indosuez's Himalayan Fund, said sustainable earnings growth of 25 per cent a year meant Sri Lanka was reasonably valued even though some of the more liquid stocks traded at a price-earnings multiple of more than 20.

  ''One has to be selective,'' he said, adding that Indosuez was one of the first foreign institutions to invest in Sri Lanka after the Himalayan Fund was launched in June, 1990.

  The Himalayan Fund, which has 13 per cent of its portfolio, or US$30 million, in Sri Lanka, yesterday easily completed a second tranche of US$130 million to boost the closed-end fund to US$350 million.

  Sri Lanka's positive fundamentals have not gone unnoticed by local and foreign investors.

  While foreign funds prepare to move in, local investors have snapped up stock, doubled daily turnover to US$8 million and taken the market to record heights.

   WI Carr institutional salesman Tad Buchanan said: ''I'd say we're a little bit frothy and we're moving into the danger zone.''    WI Carr is one of the selling agents for Regent's Sri Lanka Fund.

  ''The key thing is the market performed extraordinary well in 1993 and the first part of 1994 and it's only reasonable to assume a market with such tremendous growth in a short period of time will go through a correction,'' Mr Buchanan said.

  The over-heated environment did not mute Mr Buchanan's enthusiasm as he believed Sri Lanka's emergence as a market-oriented economy would provide attractive opportunities for medium-to long-term investors.

  He said Sri Lanka's investment environment would take a major step forward if, as expected, the United National Party was re-elected later this year and a number of new economic reform programmes were introduced.

  ''Just after the election, one can expect to see the privatisation of insurance companies, Sri Lanka Telecom and Air Lanka,'' he said, adding there were also plans to privatise the country's tea plantations.

  The biggest obstacles facing foreigners anxious to invest in Sri Lankan equities are the difficulties getting in-depth information and the limited number of mutual funds available to purchase.

  Both Regent's and Carlson's funds are restricted to institutional investors or individuals with high net worth.

  Carlson has a minimum investment requirement of $100,000, although it will be possible for retail investors to purchase units when the fund is listed on the Dublin Stock Exchange.

  A number of retail country funds are also expected to be launched this year.

  Foreign fund managers also have to deal with the difficulty in purchasing stock. The influx of foreign investment on top of local buying has pushed prices up sharply.

  Development Finance Corp has the largest market capitalisation of 14.7 billion rupees (about HK$2.31 billion). National Development Bank, Commercial Bank, Ceylon Tobacco and John Keells round out the top five.

  Carlson hoped to get around the liquidity by its ability to invest up to 25 per cent of the fund in firms planning to seek a listing by purchasing pre-flotation placements.

    Carlson also won two important concessions from the Government that will help its efforts: the ability to act as a local underwriter, and permission to purchase shares of firms in the highly-restricted insurance sector.

  Another important issue investors must consider is the long-time ethnic conflict between the majority Sinhalese and the minority Tamils, which has the Tamil Tigers controlling the northern part of the country.



Sri Lanka claims the spotlight, but be prepared to dig