Middle East stock rally hostage to several risks

A stock index board is seen as investors look at share prices on the trading floor at the Dubai Financial Market.

DUBAI/CAIRO: A rally in key Middle Eastern stock markets a year after the Arab Spring popular revolts erupted is underpinned by a strong oil price but is hostage to Saudi market reforms and uncertainty in Egypt.

Stocks across the region, with the exception of stable Dubai and Qatar, suffered a beating early last year when demonstrators took to the streets of one Arab country after another.

Tens of billions of dollars worth of social spending projects unveiled by the Saudi king in February and March last year halted the slide in that market, which helped to stabilize the rest of the region. But most Gulf markets still ended 2011 down between 10 and 20 percent.

Now returning political stability in many Arab countries and global crude oil prices above $120 a barrel have produced an impressive equities rally, with Dubai up 23 percent so far this year and more importantly Saudi Arabia, the region’s biggest market, up 17 percent.

In the wider Middle East, Egypt, an early epicenter of the uprisings which saw the ouster of long-term ruler Hosni Mubarak, is up 39 percent this year after a 49-percent plunge in 2011, when trading was blighted by a seven-week exchange closure.

The first-quarter bull run in the Middle East, analysts say, is a result of the stars finally being in alignment for the region.

“It’s a confluence of factors and some good luck that are responsible for the rally – which is why it may not be sustainable, especially in places like Dubai,” said Florence Eid, CEO of research firm Arabia Monitor.

She pointed to the oil price, coupled with favorable signals from the U.S. economy, some progress in resolving the eurozone debt crisis, and an economic slowdown in China that is proving to be only moderate.

Most Arab stock markets are handily outpacing a 3.5 percent rise in the MSCI Frontier Market index.

The markets’ rallies, however, may not be as solid as the headline numbers suggest. Egypt’s surge has been driven by domestic and regional investors; CI Capital strategist James Kostoris predicted that most international funds would stay on the sidelines until clearer solutions emerged to the country’s problems of dwindling foreign reserves, high budget deficit, inflation and unemployment.

Indeed, some analysts think the rally may already have run its course; after surging 51 percent up to March 7, Egyptian stocks have lost 8 percent since then.

A technical team from the International Monetary Fund was in Cairo this week for discussions with government officials and politicians on a planned $3.2 billion loan to help the government balance its finances. But securing this loan would not by itself rescue the economy; Egypt would probably need billions of dollars of additional aid from other countries, analysts believe, and even then it might be unable to avoid substantial currency depreciation later this year.

Equities could trickle lower in coming weeks as uncertainty lingers over Cairo’s ability to meet conditions for the IMF emergency loan, a resolution to a dispute in Algeria over an investment by Orascom Telecom, and a tender offer by France Telecom for shares in Egypt’s Mobinil.

“We are still not buyers at this level as we expect a further correction of about 8 to 10 percent. After that people should look at buying heavily into financials and real estate,” said Mohammad Radwan, head of equities at Pharos brokerage.

Aside from military conflict over Iran’s disputed nuclear program – a possibility which investors do not think is high, as strong bond and stock prices in the Gulf demonstrate – the biggest factor for Arab markets is Saudi Arabia.

Saudi share valuations are quite modest given the strength of corporate earnings, said Jadwa Investment head of research Paul Gamble, noting that the average price-earnings ratio based on last year’s corporate profits was at 14, lower than the five-year mean of 15.3.

“More banks are now offering margin lending and with talk of greater foreign access, local sentiment has improved rapidly, lifting volumes.”

The top oil exporter has been making tentative moves to open its stock market to direct investment by foreigners; currently they are allowed to invest only through share swap transactions via investment banks and their local partners.

Opening the market could lure large amounts of fresh money into blue chips such as Saudi Basic Industries (SABIC), the world’s most valuable chemical company, Samba Financial, the country’s second largest lender by market value, and former monopoly Saudi Telecom.

“The valuation hinges on the liberalization outlook,” said HSBC’s head of global emerging markets equity strategy, John Lomax, adding that liberalization would allow the Saudis to access a broader pool of emerging market funds.

But despite financial industry expectations that the rules for foreign access would be formalized by Jan. 15, little has happened. Such policy delays are not unusual in Saudi Arabia, but a deferment of this reform could hit the market hard.

“If they put it off for a year, there will be a mass exodus from the Saudi market, and this will affect the rest of the Gulf as well,” said Eid.

“Given how much Tadawul [the Saudi market] has rallied over the past six months, one or two pieces of news will cause people to take profit. The dynamics are very different from Egyptian investors’ buy-and-hold mentality.”

Any drastic fall in global oil prices would be bad news for the Saudi market and Gulf markets in general, but fund managers believe there is little chance of this in the foreseeable future, especially after Saudi Oil Minister Ali al-Naimi identified $100 a barrel as an ideal oil price for Riyadh in January. That was interpreted to mean the Saudis would work to prevent any major price fall below that level.

Meanwhile, the two regional “safe havens” have had contrasting fortunes. The United Arab Emirates market of Dubai, which is reinventing itself as a tourist, trade and logistics hub, has surged, underpinned by a sense that it is putting its 2009-2010 corporate debt crisis behind it.

“The UAE has been a stellar performer this year thanks to its improving fundamentals and political stability in a regional context – growth is resuming, debt is being rolled over successfully and the oil price remains elevated,” said Silk Invest chief investment officer Daniel Broby.

Risks include the speculative nature of trading and any slowdown in Saudi reforms, analysts believe.

Qatar was unexpectedly chosen to host the 2022 football World Cup, an event set to produce a frenzy of building activity. Its gas riches have made it one of the wealthiest countries in the world per capita, and a key address for investment bankers.

But stocks are down 1.5 percent this year, a fall which Broby attributed to the market having got ahead of itself.

“Qatar is still the poster child market, but it has just become overowned and has demanding expectations of companies, particularly the banks,” he said. Analysts peg Qatar’s price to earnings ratio at 11.7, higher than Dubai and Abu Dhabi.

A version of this article appeared in the print edition of The Daily Star on March 23, 2012, on page 6.




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