Jay Pelosky of J2Z Advisory visited Iran and writes in FT

Why an open Iran offers extensive upsides - Jay Pelosky

Iran has been closed for about 35 years, so a recent visit was an unusual event.

On the ground, Iran reminded one of earlier economic and market transitions such as Latin America at the turn of the 1990s or Russia and central Europe in the mid-1990s. Salient features include underutilized labour, a state-controlled economy, brain-drain and immature capital markets. However, Iran has some unique characteristics that suggest a nuclear deal could stimulate an accelerated transition.

Iran is opening because it has to. Four main factors have left its economy in tatters: economic mismanagement, US troops on two of its borders, economic sanctions and an oil price collapse. Eight years of populist economic policies under Mahmoud Ahmadi-Nejad, the former president, resulted in spiraling inflation, currency collapse, recession and an empty treasury.

President Hassan Rouhani won election in June 2013 on a platform of restoring economic stability and engagement with the west. The two are related. Economic progress has been made: inflation has fallen from more than 40 per cent to less than 20 per cent and the currency is stabilizing, but the costs have been steep.

Chief among those are an economy in recession, youth unemployment above 15 per cent and a frozen property sector, with many half-finished buildings dotting Tehran's wealthier neighborhoods.

Progress on the engagement front has also occurred. The final outcome of the nuclear talks remains uncertain but Iran clearly hopes a deal can help restore economic growth. In meetings with religious leaders as well as industrialists, in cities throughout the country, similar hopes were voiced.

First, a nuclear deal that restores international financial ties and oil exports. Second, Iran and the US working together to combat terrorism, which suggests Iran sees engagement as a pathway to regional power status. Third, once these two objectives are met, opening the economy to foreign and in particular US capital.

Should a deal come to fruition Iran has several building blocks on which to develop, ranging from its human capital (a population of 80m, highly educated, young and friendly), deeply rooted business culture, and huge natural resource base (oil and gas reserves both in the top five worldwide), to its cheap currency and significant diaspora connections throughout the west.

The country's needs are tremendous, with estimates suggesting capital requirements of close to $1tn. The oil and gas sector alone is estimated to require $400bn or more to upgrade and expand; turning the oil spigot on will take time. Domestic air travel is stunted due to lack of aircraft (one flight per day between Shiraz and Tehran); estimates suggest 300-500 are needed.

While they are under-developed, Iran has active public and private capital markets. The stock market is commodity heavy, trades about $100m per day and has a market capitalization to gross domestic product ratio of less than 30 per cent.

Valuation seems cheap with a price/earnings ratio of six times -- but with an annual interest rate on deposits of 23 per cent, stocks should be cheap. Investor demand for new markets is huge, however, and capital inflows are likely upon any easing of sanctions, the timing of which remains unclear.

Iran has an active technology sector with more than 100 incubators throughout the country. Domestic venture capital and private equity money exists and while deal size is quite small, the Iranian equivalents of eBay, Kayak, Groupon and others are active.

Engineers are cheap at $25,000 a year, smartphones are everywhere as is 3G service; given lack of external competition, the locals have been able to build up a significant online presence. This space could prove interesting.

Iran's upside has two parts: first a deal would probably cement President Rouhani's re-election and provide a six-year runway to economic transformation. Second, there is another Gulf stock market opening to foreign investors -- Saudi Arabia.

Imagine a future with both Saudi and Iranian capital markets open to foreign investors allowing Gulf capital markets to drive employment, growth and regional economic integration while reducing terrorism and violence: a true win-win.