Lack of institutional investors holds back Gulf bond markets

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By:
Dominic O’Neill
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The biggest issue hindering the growth of the Gulf’s debt capital markets is the lack of a thriving local institutional investor community, says the head of the region’s leading fixed-income trade body.

Michael Grifferty, president of the Gulf Bonds and Sukuk Association (GBSA), says that the size of the "institutional buy side could be immense" but is hampered by structural problems.

Funds under management in the Gulf constitute only about 1% of the region’s GDP, way below the levels in advanced economies. "Apart from sovereign wealth funds there aren’t enough organized institutional investors," says Grifferty.

He is confident, however, that pension funds and insurance companies will become bigger players in the debt markets as they become subject to best practices. "Traditionally, insurance companies’ portfolios have comprised real estate and local equities," says Grifferty, "but there is a growing consciousness of the need to better manage assets."

Despite the lack of hard data, anecdotal evidence suggests that most Gulf bond transactions, even by sovereigns, are largely distributed to accounts in the US, Europe and increasingly Asia, and only find themselves in regional investors’ hands – usually the banks – through secondary market trading.

Only about 20% of Dubai’s recent $500 million, 10-year bond was sold directly to Middle East investors, for example. That transaction was the region’s first by a sovereign to include a put option. "Why should bond issues from the Gulf be placed abroad?" Grifferty says. "The Gulf is resource rich."

If anything, he believes, the region should become an important source of funding for international borrowers. "The Gulf should be a stop for international roadshows."

fall last year in Middle Eastern debt issuance

fall last year in Middle Eastern debt issuance

Grifferty says, however, that the region’s bond markets are making progress. On the supply side he hopes that family groups – which dominate the private sector – become active borrowers. "With less bank liquidity available it will make sense."

Market conditions, though, need to be more accommodating. Last month Majid Al Futtaim Holding, the operator of Carrefour stores in the Middle East, postponed a plan to sell five-year bonds after price bids were below expectations. Instead it raised $1 billion through three-year and five-year loans.

Grifferty says that his association is also in discussions with the region’s authorities on harmonizing regulation for debt securities to speed up issuance. "We’re working with the GCC towards a European-style model of harmonized regulation similar to the passport system," he says. However, he acknowledges that there are several challenges. "There are a lot of legal issues," says Grifferty.

Regulators, though, are trying to be more supportive of the region’s debt capital markets. In January, for example, the UAE Federal National Council passed debt management legislation that could lay the groundwork for issuance of domestic-currency government securities.

The GBSA is also working with regulators in other Gulf countries to facilitate debt issuance. In Kuwait, for example, there are obstacles that both borrowers and investors need to overcome. Investment funds are restricted in that only 10% of their investments can be allocated to a particular issuer. "Putting investor protection in place is fine but market development is important," says Grifferty. Last month Standard & Poor’s upgraded Kuwait’s credit rating to AA from AA– thanks to its strong public finances.

Last year Middle Eastern debt issuance reached $37.1 billion, according to Thomson Reuters, down 7% from 2009. Bankers are hopeful that issuance volumes will be similar this year.