Global & local economic insights nov 2015

CAPITAL ALLIANCE INVESTMENTS LIMITED
PRIVATE AND CONFIDENTIAL
FOR THE INTENDED RECIPIENT ONLY
GLOBAL & LOCAL ECONOMIC INSIGHTS
Nov 2015

PRIVATE AND CONFIDENTIAL 2
A POSSIBLE FED RATE HIKE IN DECEMBER MAY
HINDER GLOBAL ECONOMIC GROWTH

US domestic consumption remains robust despite 3Q2015
GDP growth slowing to 1.5%
3
2.5%
0.1%
2.7%
1.8%
4.5%
3.5%
-2.1%
4.6%
5.0%
2.2%
-0.7%
3.9%
1.5%
US quarterly GDP growth
Source: US BEA, The Economist & CAL Investments
3Q2015 GDP growth came lower at 1.5% YoY dragged down by companies cutting back on restocking warehouses to
compensate for an inventory glut which was accumulated over the last few quarters and spending cuts in the energy sector.
The inventory accumulated carved off 1.44% from 3Q2015 economic growth and is likely to fade in 4Q2015.
However, consumer spending which accounts for two-thirds of US GDP grew at 3.2% YoY during 3Q2015 after expanding at a
3.6% YoY growth in 2Q2015 driven by lower energy prices and an improving labour market.
+3.2% Consumer spending
+6.5% Spending on durable
goods
+6.1% Housing construction
+1.9% Core Inflation

166
188
225
330
236
286
249
213
250
221
423
329
201
266
119
187
260
245
223
136 142
271
Jan-14 Feb-14 Mar-14 Apr-14 May-14 Jun-14 Jul-14 Aug-14 Sep-14 Oct-14 Nov-14 Dec-14 Jan-15 Feb-15 Mar-15 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15
The latest job numbers indicate that a US recovery is on
the cards and a possible fed rate hike in Dec 2015
4
US Job creations (Thousands)
The job market recovered during October reaching a 10-month high of 271k of jobs created despite going through a sluggish phase
weighted down by the slowdown in the global economy. Unemployment rate fell to 5% in October from 5.1% in September, the
lowest level since April 2008. The growing job creations are likely to drive wage inflation in the coming months which may
persuade the Fed to start raising interest rates.
Source: US Data & Statistics

Global traders believe that there is a 70% chance that the Fed will
raise its benchmark rate from near zero in December
5
Source: Bloomberg
Implied percentage probability of a rate hike by end of 2015

15.8%
19.2%
17.5%
16.0%
16.7% 17.3%
15.9%
9.5%
7.3%
4.7%
2.4%
3.1% 2.7%
1.8%
2.4%
4.2%
2.4%
4.0% 3.5%
1.3%
-2.7%
-3.9%
However, contribution from net exports to GDP may decline as a
stronger dollar weighs down manufacturing, trade and exports
6
US quarterly export growth YoY
US exports have declined first time since
the economic recession in 2009
The US Dollar has appreciated against all major currencies during the last 12 months, making US products more expensive for foreign
buyers. As a result, US exports have already started declining from 1Q2015. In 2013, exports accounted for 14% of US GDP while
imports were 17% of GDP. Tightening of the monetary policy may lead to further appreciation of the USD and result in US net exports
slowing down and affecting GDP growth
Source: US Data & Statistics

EU recovery at snail pace - QE taking effect
7
-0.3%
0.9%
1.6%
1.8%
1.9%
2013 2014 2015E 2016E 2017E
European commission annual economic growth forecast
The reduction in oil prices combined with the QE program have boosted private consumption expenditure and has compensated for the
lackluster external trade leading to sluggish economic recovery in the EU.
The slowdown in emerging markets, especially China which accounts for c.25% of EU exports may remain as an impediment to economic
growth in 2016. However, the EU-19 economic recovery depends on the unprecedented stimulus that may be granted by the ECB
Given the slow economic recovery, the EU is likely to extend the €60bn/month QE program by at least another 6 months from Sep 2016
until ECB reaches its medium term inflation target of 2%.
-1.0%
-1.7%
-0.3%
0.4% 0.5%
1.1%
0.6%
0.8%
1.0%
1.3%
1.6% 1.6%
EU-19 Quarterly GDP growth (YoY)
Source: European Commission

Slowing growth in China raises red flag for global
economy
China accounted for c.30% of global growth in 2014. IMF
lowered its global growth to 3.1% from its previous 3.3%
estimate primarily due to the slowdown in the China
economy. The slowdown is mainly stemming from the
industrial and manufacturing sectors of China.
The impact is felt by emerging market countries which supply
raw material to China. Commodity producers like Brazil are
suffering as Chinese demand for its materials reduce while its
economy rebalances itself from investment led growth to
consumption. Developed nations like Germany which exports
machinery to China are also affected by the slowdown.
Only a significant pick-up in Chinese demand is likely to be
adequate to balance metals markets such as copper and
aluminum.
Excess capacity in manufacturing, a property market
slowdown and mounting local government debt are a few
factors that have weighed on growth. Chinas has excess
capacity at present as investments have dropped sharply and
global trade has stagnated.
8
China quarterly GDP growth
Source: The Economist & CAL Investments
7.7% 7.7%
7.4%
7.5%
7.3% 7.3%
7.0% 7.0%
6.9%
3Q2013 4Q2013 1Q2014 2Q2014 3Q2014 4Q2014 1Q2015 2Q2015 3Q2015
China industrial production, % MoM annualized

However, ‘consumer driven’ economic transition
starting to materialize in China
9
Chinese economic growth has slowed down with the shift towards consumption from investments. The slowdown has negatively
impacted global suppliers of raw materials and industrial equipment. However, business has picked up for companies that cater to the
country’s growing upper-middle class which is evident through the 10.9% YoY retail sales growth witnessed in 3Q2015. Household
consumption accounts for 40% of GDP.
Further, travel by Chinese households and golden-week expenditure also affirm that the economic transition is currently underway.
Likelihood remains for further declines in exports and manufacturing as the transition intensifies.
YoY change in retail sales & industrial
production
Air Traffic Movie box-office revenue
Movie theatres in China generated
box-office revenue of ¥33bn for
9M2015, +53% YoY.
Source: The Economist & CAL Investments

COMMODITIES MAY SHOW MIXED SIGNALS
IN 2016

US crude oil production rises 1% YoY despite a 60%
YoY reduction in shale oil rigs
11
US Crude Oil Rig Count
US crude oil rig count fell to 572 in
Nov 2015 which is the lowest level
since June 2015
5000
5500
6000
6500
7000
7500
8000
8500
9000
9500
10000
Nov-10 Nov-11 Nov-12 Nov-13 Nov-14 Nov-15
Thsdbarrels/day
Weekly US field production of crude oil
Lower oil prices have resulted in US shale oil rigs in operation plummeting 60% YoY as they found it challenging to breakeven at current
prices. Oil prices usually reflect the number of oil rigs in operation with a 6 month time lag which means that more rigs could go out of
business In the future.
US shale oil drillers are focusing on improving the productivity of their cost-efficient rigs which has resulted in higher crude oil production
despite a 60% reduction in operational rigs. Saudi Arabia’s intention to curb US oil production failed due to the improving efficiencies of
the oil rigs. Higher US crude oil output has contributed to the glut in global crude oil supply.
Source: EIA, Baker Hughes & CAL Investments

-2
-1
0
1
2
3
4
5
75
80
85
90
95
100
Q1
2010
Q3
2010
Q1
2011
Q3
2011
Q1
2012
Q3
2012
Q1
2013
Q3
2013
Q1
2014
Q3
2014
Q1
2015
Q3
2015
Q1
2016
Q3
2016
Implied stock change and balance (RHS)
World production (LHS)
World consumption (LHS)
Projection
Brent crude prices may hover around USD 50-55/barrel
12
Brent crude oil prices
40
60
80
100
120
140
160
Jan-10
May-10
Sep-10
Jan-11
May-11
Sep-11
Jan-12
May-12
Sep-12
Jan-13
May-13
Sep-13
Jan-14
May-14
Sep-14
Jan-15
May-15
Sep-15
USD/Barrel
Global oil production, consumption & Δ in inventory (Mn barrels/day)
2013 2014 2015E 2016E 2020E
108.56 98.89 53.82 56.24 80
EIA forecast
Growth in global demand has risen to a 5-yr high of c.2 mn barrels/day, with India sprinting to its fastest pace of consumption in more than
a decade and personal consumption in terms of travel picking up due to lower oil prices. EIA anticipates global crude oil production to
continue to outpace consumption in 2016. However, it expects the inventory build up to slowdown on the back of lower US and Canada oil
production in 2016. The IEA also predicts that a sluggish recovery in demand and decline in supply would yield a price of $80 /bbl in 2020.
CALI believes that Brent crude may hover around USD 50-55/barrel in 2016 as a result of Iran contributing 500-700kbarrels per day post-
sanction removal and due to the expectation that US production is likely to remain flat for 2016.
Source: EIA & CAL Investments

China’s transition into a consumer driven economy hurts
commodity prices
13
During the peak of its growth phase, China consumed c.50%
of the world's copper, 54% of aluminum, 50% of nickel and
45% of steel production. Decelerating growth in China and
Beijing’s move to build a more consumer focused
economy have beaten commodity prices down in 2015.
Given the dull economic outlook for China, it remains unlikely
that metal prices will see a major recovery in 2016. However,
a marginal recovery in oil prices may drive production costs
higher and moderately increase metal prices in 2016.
The effects of the El-Nino weather phenomenon has started
damaging food crops via excess rain and limited rainfall across
the globe. Excessive downpours in Brazil has led to lower
sugar harvest while the drought in Thailand has already hurt
rice production. El Nino is likely to lead to an increase in rice,
coffee, sugar, maize, cocoa and palm oil prices during end
2015 and early 2016.
Since most commodities are USD denominated, a possible
USD appreciation due to a fed rate hike may make
commodities expensive in local currency terms and reduce
demand for the commodity.
The Economist commodity-price index change
-0.4%
0.5%
-1.6% -1.0%
-1.9% -2.2%
-17.2%
-12.3%
-23.6%
-15.7%
-26.6%
-3.9%
MoM % YoY % Source: The Economist & CAL Investments

Gold prices hit a 5-year low on ‘Fed rollercoaster’
14
800
1000
1200
1400
1600
1800
2000
Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15
USD/Oz
Gold prices fell to a 5-year low of USD
1074/Oz in November as investors feared
a possible US fed rate hike.
The price drop transpired despite a 33%
YoY jump in demand for gold in 3Q2015
which was led by a 70% YoY growth in
Chinese investment, the largest consumer
of the precious metal. China investors
bought gold as a safe haven investment to
protect them against the stock market
crash and further Yuan depreciation.
If fed hikes interest rates in December,
gold prices may fall further as investors
move into income-generating assets
relative to the non-yielding yellow metal.
A possible appreciation of the USD due to
the rate hike may further hurt gold prices.
Analysts expect gold prices to crash as
much as USD 800/Oz if the fed raises rates
in December.
Global gold prices
Source: Bloomberg

FISCAL PRESSURE TO BE THE KEY CHALLENGE
FOR 2016

SL raised USD 3.5bn via Treasury bills, bonds & SLDBs during
11M2015, +64% higher than what was raised in 2014…
16
Total amount of T-bills, T-bonds and SLDB outstanding as at 11Nov2015 was LKR 4.9Tn. The govt raised USD 3.5bn in net borrowings
via t-bills, t-bonds and SLDBs which was 64% higher than what was raised in 2014.
However, the net borrowings raised via sovereign bonds and SLDBs increased to USD 2.6bn in 11M2015 from USD 1.3bn in 2014.
Net amount raised via T-bills, bonds & SLDBs (USD bn)
2.1
3.5
2014 11M2015
USDbn
+64%
Net amount raised via USD sovereign & SLDBs (USD bn)
Source: CBSL, Bloomberg & CAL Investments
1.3
2.6
2014 11M2015USDbn

…as the budget deficit surpassed the preliminary 2015
target within the first 8 month of 2015
17
Budget deficit
499
540
470
480
490
500
510
520
530
540
550
Initial 2015 target 8M2015 (Actual)
LKRbn
Budget deficit from Jan-Aug 2015 was LKR 41bn
higher than the government’s target of LKR
499bn for 2015
Lower than expected revenue realization and
higher than anticipated interest payments were
the main reasons for the higher budget deficit.
Govt’s interest payments for 8M2015 was LKR
384bn vs. LKR 425bn estimated for the full year.
Source: SL Treasury

Likelihood remains for the 2015 budget deficit to close
at 6.8%-6.9% vs. 5.7% in 2014
18
Annual budget deficit (LKR mn) based on new GDP methodology
448
489 516
591
750
800
6.2%
5.6%
5.4%
5.7%
6.8%
6.5%
3.0%
3.5%
4.0%
4.5%
5.0%
5.5%
6.0%
6.5%
7.0%
(100)
100
300
500
700
900
1,100
1,300
1,500
2011 2012 2013 2014 2015E 2016E
LKRmn
The 6.8% budget deficit for 2015
is on the back of a cut in public
infrastructure spending
In Feb 2015, budget allocation for
public infrastructure spending was
cut from LKR 576bn to LKR
399mn.
Source: CBSL & CAL Investments

The govt is facing severe fiscal pressure as 100%+ of its
revenue is spent on debt servicing at present
19
87%
89%
85%
88%
115%
98%
93%
100%
106%
92%
117%
Debt servicing cost (Principal + interest cost) as a percentage of government revenue
Source: CBSL, Treasury & CAL Investments
Sri Lanka’s debt service cost as a
percentage of government revenue
rose to 117% in 8M2015. Over the last
5 years, debt service cost has
remained close to 100%.
The SL govt needs to raise taxes
substantially to reduce its budget
deficit and decrease dependence on
debt financing.

SL’s access to multilateral & bilateral loans have reduced
over time
20
Loans from multilateral lending agencies (e.g. ADB, IMF) have reduced from 48% of foreign funding in 2005 to 29% in 2014
while bilateral loans with other countries have reduced from 45% in 2005 to 25% in 2014. Japan accounts for 52% of
bilateral funding as at 2014 while India accounts for 11%.
If the SL government makes structural reforms to increase tax revenue to acceptable levels, likelihood remains that SL
could tap the multilateral lending agencies such as IMF and ADB for low-cost financing
Domestic
debt, 60%
Foreign debt,
40%
USD 56bn
Outstanding government debt as at 30 Jun 2015 Foreign debt breakdown 2005 & 2014
48%
29%
45%
25%
7%
46%
2005 2014
Multilateral loans Bilateral loans Financial market lending
Source: CBSL, Treasury & CAL Investments

SL corporate taxes are not the lowest in the region (28%
vs. avg. 25%)
21
17% 17%
20% 20% 20%
25% 25% 25%
28% 28%
30% 30%
35% 35%
Corporate tax rates of regional peers
Avg. 25%
Source: World Bank

Govt needs to broaden the tax base - Despite higher corporate
taxation, contribution from direct taxes are only c.17%
22
Personal income tax,
1%
Corporate Income tax,
8%
PAYE, 2%
Economic Service
charge, 1%
Tax on interest
income, 6%
Domestic VAT,
23%
Excise Tax , 21%
NBT, 4%
Telecommunication
Levy , 3%
Motor Vehicles Taxes
& other, 1%
Taxes on External
trade, 20%
Non Tax Revenue,
12%
2014
Government
Revenue
Direct Tax Revenue
Indirect Tax Revenue
Non Tax Revenue
71%
12%
17%
Direct taxes only account for 17% of the
government revenue despite corporate taxes
remaining high at 28%. Govt requires to
computerize tax filings and track down on tax
evaders to broaden its tax base.
However, given that the government has an
immediate requirement to increase revenue,
it is likely that the govt may resolve to further
increase indirect taxes to swiftly materialize
the funding requirement
Source: CBSL & Treasury

70,993
85,192
94,657
104,123
118,322
132,520
137,253
141,986
30,000
50,000
70,000
90,000
110,000
130,000
150,000
15% 18% 20% 22% 25% 28% 29% 30%
A 1% upward revision in corporate taxes will only
contribute LKR 4.7bn in incremental revenue*
23
+4.7bn
*If corporate taxes are increased 1%, the government will only be able to raise LKR 4.7bn in additional revenue
assuming that the tax base will not increase due to the tax revision.
Current
LKRbn
Source: SL Treasury, CBSL & CAL Investments
Corporate tax income at different taxation rates %

251,946
279,940
307,934
335,928
363,921
391,915
419,909
503,891
9% 10% 11% 12% 13% 14% 15% 18%
However, a 1% increase in indirect tax such as VAT may have a
higher impact with LKR 28bn in incremental government revenue*
24
Value added Tax revenue at different taxation rates %
+28bn
Source: SL Treasury, CBSL & CAL Investments
* Imposing a higher indirect tax will raise 6x of the amount that can be raised via a direct tax increase. The government
is more likely to raise VAT or any other indirect tax to generate the funding shortfall within a short span of time.
Current

1H2015 GDP growth was primarily driven by private
consumption
25
Quarterly volume growth of FMCG categories covered
by Nielson's Retail Audit (YoY)
-17%
-2%
-1%
2%
3% 3%
10% 10%
9%
7%
Source: Nielson, CSE & CAL Investments
Real GDP growth (new methodology) during 2Q2015 grew 6.7% YoY on the back of renewed consumer spending driven by lower
inflation and government budget reliefs despite a cut in infrastructure spending.
According to the Nielson survey, quarterly FMCG volume grew 9% YoY in 1Q2015 and 7% YoY in 2Q2015 indicating the extent of
consumer spending during 1H2015.
3.6%
5.9%
4.0%
0.5% 0.7%
1.9%
4.7%
9.9%
6.0%
6.7%
Sri Lanka quarterly GDP growth (Base = 2010)

Probable indirect tax increases and inflation to hurt private
consumption and economic growth during 2016
26
We believe that economic growth is likely to slowdown in 2016 due to possible tax hikes in the budget, an LKR 7% depreciation
and higher inflation affecting consumer spending in 2016. However, we anticipate public infrastructure spending to recover to
2014 levels and GDP growth to be 6.5% in 2015 and 5.5% in 2016.
SL annual GDP growth forecast
3.6%
5.9%
4.0%
0.5% 0.7%
1.9%
4.7%
9.9%
6.0%
6.7%
Sri Lanka quarterly GDP growth (Base = 2010)
8.4%
9.1%
3.4%
4.5%
6.5%
5.5%
2011 2012 2013 2014 2015E 2016E

INTEREST RATE DIRECTION TO BE DRIVEN BY
GOVERNMENT’S FUNDING STRATEGY IN 2016

5,843
11,894
-2,418-3,850
17,663
-222 -2,906 -628
-8,040
-31,095
-2,462-2,611 -1,313-2,475
2,9622,568
-9,153
-17,287
-31,342
-25,765
-42,162
-22,076
-7,768
(50,000)
(40,000)
(30,000)
(20,000)
(10,000)
-
10,000
20,000
30,000
LKRmnForeigners exited their bond positions during May-Oct
2015 anticipating an LKR depreciation
28
Foreign holdings in SL government bills and bonds have declined to 7.2% in Nov 2015
from 12% in Jan 2015. Foreigners have sold LKR 154bn worth of bills and bonds YTD
Net foreign inflows/ outflows in the government securities market (LKR mn)
Source: CBSL

Post- LKR depreciation, SL bonds are attractive for
foreign investors
29
Comparative 10-yr govt. bond yields
9.6%
8.9% 8.8%
7.6%
7.0%
4.1%
3.7%
2.6%
Sri Lanka Pakistan Indonesia India Vietnam Malaysia Philippines Thailand
Source: Trading Economics
With the LKR depreciating 7% YTD and
provided no further significant depreciation,
the yields offered by SL govt bonds are
attractive to foreign investors compared to
the yields offered by regional peers

SL 5-year bond yield premiums have risen 160bps YoY
30
400
450
500
550
600
650
700
750
800
850
900
Source: Bloomberg
Bond yield premiums above the US 5-year govt bond

The CBSL printed upto c.LKR 230bn in currency to pay
off its fiscal debt and bond maturities during 10M2015
31
CBSL holding in government securities (LKR bn)
0
50
100
150
200
250
01.01.2015
12.01.2015
22.01.2015
30.01.2015
11.02.2015
20.02.2015
02.03.2015
11.03.2015
19.03.2015
27.03.2015
07.04.2015
17.04.2015
27.04.2015
07.05.2015
15.05.2015
25.05.2015
03.06.2015
11.06.2015
19.06.2015
29.06.2015
08.07.2015
16.07.2015
24.07.2015
04.08.2015
12.08.2015
20.08.2015
28.08.2015
07.09.2015
15.09.2015
23.09.2015
02.10.2015
12.10.2015
20.10.2015
29.10.2015
06.11.2015
17.11.2015
The central bank printed money and purchased
government bonds to make settlements for
the bond maturities and budget deficit,
creating BOP pressure in the process
Consequent to raising the
USD sovereign bond, the
Central Bank sterilized
c.USD 1bn out of the USD
1.5bn proceeds raised due
to which the proceeds were
not available in the system
to drive domestic credit.
CB sterilizes the USD 330mn SLDB taking
liquidity out of the system and replacing
it with Central Bank ‘s holdings in
government bonds
Central Bank printed money
to repay rupee bonds

Market excess liquidity has risen to LKR 140bn as the govt
printed currency and pumped liquidity into the market
32
Market liquidity (LKR bn)
0
20
40
60
80
100
120
140
160
12.12.2014
22.12.2014
31.12.2014
09.01.2015
21.01.2015
29.01.2015
10.02.2015
19.02.2015
27.02.2015
10.03.2015
18.03.2015
26.03.2015
06.04.2015
16.04.2015
24.04.2015
06.05.2015
14.05.2015
22.05.2015
01.06.2015
10.06.2015
18.06.2015
26.06.2015
07.07.2015
15.07.2015
23.07.2015
03.08.2015
11.08.2015
19.08.2015
27.08.2015
04.09.2015
14.09.2015
22.09.2015
01.10.2015
09.10.2015
19.10.2015
28.10.2015
05.11.2015
16.11.2015
LKRbn
Govt printing money to pay bond
maturities & fund budget deficit
Foreigners exiting T-bond
positions
A surge in imports & net foreign
outflows from the bond market
Central Bank sterilizing c.USD 1bn
out of the USD 1.5bn proceeds
raised via the sovereign bond
Central Bank sterilizing the
USD 650mn sovereign
bond proceeds

The SL government has LKR 1.2tn (USD 8.3bn) in T-bills,
T-bonds and sovereign bond maturities in 2016
33
Cumulative treasury bills, bonds and sovereign bond maturities
-
50
100
150
200
250
Jan-16
Mar-16
May-16
Jul-16
Sep-16
Nov-16
Jan-17
Mar-17
May-17
Jul-17
Sep-17
Nov-17
Jan-18
Mar-18
May-18
Jul-18
Sep-18
Nov-18
Jan-19
Mar-19
May-19
Jul-19
Sep-19
Nov-19
Jan-20
Mar-20
May-20
Jul-20
Sep-20
Nov-20
LKRbn
LKR178bn
LKR218bn
LKR441bn
LKR340bn

For the rest of 2015, treasury yields are unlikely to move up as
the USD bond, SLDB and one-off taxes ease funding pressure
34
New taxes imposed LKR mn
Super gains taxes 50,000
Mansion tax 1,000
Special levy on casino industry 5,000
License fee for vehicle importers 375
Migrant taxes 100
Bars and Taverns Levy 1,000
Mobile Telephone Operator Levy 1,250
Satellite Locations Levy 2,000
Dedicated Sports Channel Levy 1,000
Total 61,725
Funds raised by the government in Oct 2015
Sovereign bond raised - USD 1.5bn
T-bills & T-bonds raised - USD 1.2bn
SLDBs raised - USD 330mn
Proceeds from one-off taxes* - USD 420mn
Total amount raised - USD 3.5bn
One-off taxes* passed in parliament in Oct 2015
The USD 3.5bn will be utilized to make payments for treasury maturities during the Oct-Dec 2015 time period which
amounts to USD 2.6bn (LKR 379bn) and fund the budget deficit over the period (USD 1.2bn)* which means the
government is unlikely to borrow large amounts until the end of this year.
*USD 1.2bn for Oct-Dec 2015 was derived from the average budget deficit/month (LKR 60bn) for 8M2015

However, the USD 8.3bn bond maturities and budget deficit (USD
5.6bn) funding requirement may drive interest rates in 2016
35
Our base case view is that treasury yields will move c.50-150bps upwards during 2016 due to:
• Severe pressure in terms of raising USD 14bn to finance maturities and fiscal deficit
• Inflation edging up to 4-5% in 2016
• The government finding it challenging to raise USD borrowings from the global market as US
Fed starts increasing rates in Dec 2015
Best case scenario would be treasury yields remaining flat or edging up a maximum of 50bps
during 2015 due to:
• The government successfully raising USD sovereign bonds from the global market and
reducing dependence on the local market
• Substantial tax increases in the government budget reducing budget deficit burden

Inflation rose to 1.8% in Oct 2015 moving away from the
deflationary territory
21%
1.7%
-1%
0%
1%
2%
3%
4%
5%
6%
0%
5%
10%
15%
20%
25%
Mar-14
Apr-14
May-14
Jun-14
Jul-14
Aug-14
Sep-14
Oct-14
Nov-14
Dec-14
Jan-15
Feb-15
Mar-15
Apr-15
May-15
Jun-15
Jul-15
Aug-15
Sep-15
Oct-15
Private Sector Credit growth (LHS) Inflation YoY (RHS)
Inflation rose to 1.8% YoY in October
from a 0.3% deflation in September
while core inflation* rose to 4.4%
YoY from 4.2% in September
Private sector credit growth rose to
21.3% YoY in Aug 2015 on the back of
robust consumer spending. vehicles.
With vehicle costs rising and LTV on
vehicles being reduced to 70%,
vehicle imports are likely to
slowdown. Higher inflation and lower
consumer spending are likely to keep
private sector credit lower in 2015.
Private sector credit growth & CCPI Inflation YoY
*Core inflation excludes certain items
that have volatile price movements
such as food and energy prices.

Inflation will kick in from Nov 2015 driven by supply-
side dynamics
37
Item
Week ending
12-Nov-2015
A month ago MoM %
LKR/kg LKR/kg
Rice
Samba 98 88.8 10%
Kekulu (Red) 70 69.2 1%
Vegetables
Beans 280 169 66%
Cabbage 200 78 156%
Carrots 230 111 107%
Tomatoes 180 109 65%
Pumpkins 60 64 -6%
Snake Gourd 140 103 36%
Brinjals 140 86 63%
Ash-Plantains 100 92 9%
Other Foods
Red-Onions (Local) 175 142 23%
Big-Onions (Local) 135 136 -1%
Potatoes (N'Eliya) 160 132 21%
Dried Chilies (Imported) 350 344 2%
Dhal (Indian) 190 184 3%
Eggs (Red) 13 14.8 -12%
Coconut (Each) 55 50.2 10%
Fish
Kelawalla 600 536 12%
Balaya 360 298 21%
Salaya 180 150 20%
Paraw (Small) 520 474 10%
Simple average 29%
Average retail food prices – Pettah market
Food & Non
alchoholic
beverages, 48%
Clothing and
footwear, 4%
Housing, water,
electrics, gas &
other fuels,
18%
Furnishing, HH
Equipment &
routine
maintenance of
house, 3%
Health , 6%
Transport, 12%
Communication
, 2%
Recreation and
culture, 1% Education, 3%
Miscellaneous
Goods and
Services, 2%
CCPI Inflation basket as at Oct 2015
The CCPI avg. household expenditure was LKR 51k as at Oct 2015.
Vegetables and seafood account for c.25% of the F&B segment of which
prices have increased on avg. 20% MoM. If we assume that USD
denominated costs such as clothing, household equipment and health
expenditure increases 6% MoM due the LKR depreciation while other
expenses remain the same compared to Oct-2015, inflation for November
would come in at 3.1% YoY
Source: CBSL, Census & Statistics & CAL Investments

6.5% 6.5%
7.0%
7.3%
7.5%
6.0%
6.2%
6.4%
6.6%
6.8%
7.0%
7.2%
7.4%
7.6%
HNB Sampath Bank Commercial
Bank
NDB Seylan Bank
Bank deposit rates on avg. have risen 65bps since March
2015 as treasury securities edged up 70bps…
38
1-yr bank deposit rates (gross)
Increase/decrease in deposit rates from March 2015
1-yr treasury bill rates
6.4%
6.3% 6.3%
6.5%
7.0%
7.2%
7.1%
Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15
0.0%
0.5%
0.7%
1.0% 1.0%
HNB NDB Seylan Bank Sampath Bank Commercial
Bank
Source: CBSL & bank websites

…and a recovery in private sector credit growth
absorbed liquidity
39
Loan growth of listed banks vs. Liquidity ratios Sep 2014 & Sep 2015
55%
48%
27% 25% 24% 24%
21% 19%
17%
22% 22%
23%
22% 22%
27%
28%
27%
23%24%
25%
27%
25% 25%
34%
30%
34%
27%
0%
5%
10%
15%
20%
25%
30%
35%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
UBC PABC HNB SAMP NTB COMB SEYB DFCC NDB
Loan growth YoY (LHS) Liqudity ratio - Sep 2015 (RHS) Liquidity Ratio - Sep 2014 (RHS)
Source: Bank quarterly statements

Private sector credit growth may start slowing down in 2016 on the back of
the recent custom duty revisions and possible taxes in the budget
40
Annual Private sector credit growth
7%
-6%
25%
35%
18%
7%
9%
23%
13%
2008 2009 2010 2011 2012 2013 2014 2015E 2016E
CALI expects private sector credit
growth to close at 22-23% in 2015E
and reduce to 12-13% YoY in 2016E as
consumption slows down.
We expect loans given out towards
consumer durables, vehicles, credit
cards and personal housing to
slowdown in 2016.
Source: Bank quarterly statements

Currency may hold at LKR 142-145/USD
in 2016

LKR has depreciated against most currencies in 2015
42
85
90
95
100
105
110
USD/LKR EUR/LKR INR/LKR CNY/LKR GBP/LKR JPY/LKR
Base =Jan 2015
The LKR has depreciated 7% YTD against
the USD
Source: Oanda

Weak Trade balance – Lower oil bill negated by a spree
in consumer spending and lower exports
43
Increase/decrease in Jan-Aug imports 2014 to 2015
(USD mn)
-1659.2
125.6 128.8
297.1 317.5
793.8
Higher expenditure on vehicles and consumer goods was
negated by a 48% reduction in the fuel bill stemming from
lower oil prices and higher coal power generation which led
to the total imports remaining flat for 8M2015
Trade balance Jan – Aug 2014 & 2015
(5,156)
(5,412)
Jan-Aug 2014 Jan-Aug 2015
USDmn
SL’s exports during 8M2015 fell 3.4% YoY on the back of lower tea
and rubber exports resulting in the 8M2015 trade gap widening to
USD 5.4bn from USD 5.2bn in 8M2015.
A delay in depreciating the LKR currency also reduced the
competitiveness of SL goods in the global market during 8M2015 as
competitor nations had already depreciated their currencies.
Further, pressure was exerted on the BOP due to outflows in the govt
bond and equity market, subdued FDIs and low USD denominated
borrowings obtained by the government during 8M2015
Source: CBSL

Vehicle imports to decline as new custom valuation, a 70% LTV restriction,
a 7% LKR depreciation and possible duty hikes in the budget take effect
44
28k
23k
27k 29k
27k 28k
34k 32k
41k
51k50k
42k
67k
48k
51k
57k
62k
52k
64k
56k
Jan Feb Mar Apr May Jun Jul Aug Sep Oct
2014 2015
Vehicle registrations per month Vehicle registrations already started to decline
from October, contradicting the usual upward
trend in vehicle sales before the budget
New vehicle registrations
may decline similar to
what was witnessed in
2012 where vehicle
registrations declined to
397k and 327k in 2013 as
a result of the import
duty hike in 2013 and a
c.13% LKR depreciation
Source: Department of motor vehicles

A fall in consumer spending and lower thermal power
generation may further reduce import bill in 2016
45
58%
37%
68%
12%
26%
29%
2%
2%
2%
28%
35%
0%
2013 2014 14-Nov-15
Hydro power Coal NCRE Thermal oil
SL power generation by typeNielson Business Confidence Index
The 7% YTD LKR depreciation has already resulted in imports becoming expensive for SL customers. With inflation starting to
kick in from November and possible indirect tax increases in the budget being passed on to the consumer, we expect
consumer spending to significantly slowdown during 1H2016 which may drastically reduce the import bill.
At present, 68% of the electricity requirement is generated via hydro power due to the higher rainfall this quarter. With SL
securing a contract to procure coal at concessionary rates from South Africa, the energy bill is likely to reduce further in 2016.
Source: LMD, CEB & CAL Investments
120
130
140
150
160
170
180
190
200
210
Jan-14
Feb-14
Mar-14
Apr-14
May-14
Jun-14
Jul-14
Aug-14
Sep-14
Oct-14
Nov-14
Dec-14
Jan-15
Feb-15
Mar-15
Apr-15
May-15
Jun-15
Jul-15
Aug-15
Sep-15
Oct-15
The Nielson BCI fell 46 points MoM in Oct 2015
indicating future slowdown in business activity

However, SL needs to diversify its export earnings to
sustain long term BOP position and economic growth
46
22.3%22.6%23.6%23.7%
29.1%
68.4%
75.0%79.6%
86.4%
187.6%
Exports as a percentage of GDP - 2014
39.0
22.3
20
22
24
26
28
30
32
34
36
38
40
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
SL exports as a percentage of GDP (2000-2014)
SL should diversify its export earnings into manufacturing, assembly operations and Knowledge Process Outsourcing (KPO) similar to
the transition that the South East Asian countries went through in the 1990s without entirely depending on apparel and commodity
exports.
Source: CBSL

Declining USD reserves indicate that CBSL may be vulnerable in case
the LKR is under severe depreciation pressure
47
7.1 7.0
7.5
8.0
8.3
8.1
8.9
8.7
9.2
9.0
9.2
8.8 8.8
8.3
8.2
7.3 7.2
6.8
7.5
6.8
7.5
6.8
6.5
6.8
6.5
5
6
6
7
7
8
8
9
9
10
Oct-13
Nov-13
Dec-13
Jan-14
Feb-14
Mar-14
Apr-14
May-14
Jun-14
Jul-14
Aug-14
Sep-14
Oct-14
Nov-14
Dec-14
Jan-15
Feb-15
Mar-15
Apr-15
May-15
Jun-15
Jul-15
Aug-15
Sep-15
Oct-15
USDbn
CBSL gross official reserves (USD bn)
SL’s USD reserves have declined to USD 6.5bn, one of
the lowest reserve positions in the last 2 years
This also includes a USD 1.1bn dollar swap with RBI.
Excluding this, the reserve position is at USD 5.4bn
Source: CBSL

We believe that LKR may stabilize at LKR 142-145/USD in
2016
A lower import bill due to rising inflation and higher taxation
curbing consumer imports
Improving competitiveness of exports due to the LKR depreciation
An overreaction of the LKR depreciation in 2015
Government tapping global markets to raise USD bonds in 2016 &
FDIs starting to materialize
However, if the Fed continuously raises rates during 2016,
possibility remains for the USD to depreciate to c.LKR 148/USD
48

PROSPECTS FOR LONG TERM EQUITY
MARKET GROWTH REMAINS PROMISING

SL equity market has witnessed heavy foreign selling YTD
(USD 27mn)
Foreign inflows/outflows to equity markets (USD mn)
0.9
10.5 10.5
6.3
5.3
-20.0
-6.3
-32.4
1.3
-3.7
0.9
Jan-15 Feb-15 Mar-15 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15
Source: CSE

6,700
6,800
6,900
7,000
7,100
7,200
7,300
7,400
7,500
7,600
7,700
Dec-14 Jan-15 Feb-15 Mar-15 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15
ASPI down 4.3% on the back of fiscal pressure, a
depreciating LKR and an uptick in interest rates
51
ASPI
Run up to the presidential
election
Imposition of a super gains
tax in the interim budget
A recovery in corporate
earnings and anticipation of a
UNF victory
Rising treasury yields, LKR
depreciation and anticipation
of a negative budget
Treasury bond scandal
Political uncertainty running
up to the general elections
Source: CSE

Sri Lanka still a cheaper destination compared to
regional peers
52
TTM PER (x)
19.5%
31.0% 33.0%
45.3%
60.0%
75.3%
104.7%
Market cap as a % of GDP
Source: Bloomberg & World Bank
9.8x
11.4x 11.7x
17.5x 18.1x
19.6x 20.2x
25.3x

9M2015 overall market earnings subdued due to forex losses. However, FMCG &
manufacturing sectors were driven by consumption and lower commodity prices
53
Source: CSE & CAL Investments
-4%
18%
-16%
4%
15%
4%
21%
44%
21%
3Q
2013
4Q
2013
1Q
2014
2Q
2014
3Q
2014
4Q
2014
1Q
2015
2Q2015 3Q
2015
Overall market earnings growth YoY
-30%
6%
-2%
22%
51%
9%
17% 11%
-3%3Q
2013
4Q
2013
1Q
2014
2Q
2014
3Q
2014
4Q
2014
1Q
2015
2Q
2015
3Q
2015
Manufacturing sector earnings growth YoY
Banking & Finance earnings growth YoY
-7%
1%
7%
32%
56%
35%
42%
31%
6%
3Q 20134Q 20131Q 20142Q 20143Q 20144Q 20141Q 20152Q 20153Q 2015
Food & Beverage sector earnings growth YoY
-4%
18%
-16%
4%
15%
4%
21%
29%
34%
3Q
2013
4Q
2013
1Q
2014
2Q
2014
3Q
2014
4Q
2014
1Q
2015
2Q
2015
3Q
2015
3Q2015 market earnings declined 3%
YoY primarily due to a 7% LKR
depreciation resulting in forex losses

We expect the long term prospects for the equity
market to be promising due to:
Source: CSE & CAL Investments
The SL market being relatively cheaper compared to regional peers
and attracting foreign investors
A growing middle income population driving consumption and
corporate earnings in the medium term
Foreign direct investments flowing into the country post-structural
reforms
However, the market may witness a temporary downturn as
corporate earnings slowdown with the possible tax revisions in
the budget

Global & local economic insights nov 2015

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