Is there life in MENA at $50 a barrel?
Despite the low oil price, investors dismiss opportunities in the non-oil sector at their peril, thanks to fiscal support, demographics and diversification.
It was a good five-year run for oil-exporting economies when oil prices were fairly stable at $100 a barrel. Budgets kept growing – but were still in surplus – and countries including Saudi Arabia, the United Arab Emirates and Kuwait amassed significant foreign currency reserves, with Gulf Cooperation Council (GCC) savings having fed global and regional liquidity for five years.
Prices per barrel have halved since June 2014, with Brent crude bottoming out at c.$48, the lowest since 2009 – it currently trades at $55.
Needless to say, with forecasts suggesting oil will remain below $100 for the near-to-medium term, we’re looking at a period of shifting fundamentals. That doesn’t mean, however, that GCC opportunities shouldn’t be on your investment map – particularly now that the UAE and Qatar have been elevated to MSCI emerging markets (EM) status and as we look forward to the opening (possibly as early as April) of the Saudi market to foreign investors.
The fall in oil prices has, to some extent, hit private sector sentiment, and while many regional equities look cheap, some bullish earnings estimates made in 2014 may have to be revised. Discount rates are higher, and we do not think markets can reach 2014 peak PE multiples in 2015. Nevertheless, there are some underlying forces that will drive interesting themes in 2015.
The flip-side of falling oil prices is a strong dollar and strong support for US economic recovery. A strong dollar should mean some disinflationary pressure in MENA countries whose currencies track the USD – the GCC, Jordan and Lebanon.
GCC dollar pegs mean that recent strength in the USD will reduce import costs for GCC companies that import raw materials from non-USD economies such as Europe and most EMs. Consumer prices tend to be sticky in the GCC, and we therefore expect that margins for consumer companies will continue to improve in 2015 as higher-cost inventory is replaced. Beneficiaries would include SADAFCO, a dairy producer, and Alhokair, a clothing retailer, in Saudi Arabia.
Meanwhile, interest-rate expectations continue to adjust in response to US data and signs of weakness in other major economies. Our base case is that the Fed will raise rates in 2H2015 and continue to tighten in 2016. Banks in USD-pegged economies will be clear beneficiaries of rising US rates. Those banks that are able to reprice assets easily will see the quickest improvement in margins – examples include Samba in Saudi Arabia and Bank Audi in Lebanon.
On a country-by-country basis, more specific forces come into play. The recent correction in the Kingdom of Saudi Arabia (KSA) opened up value at the start of the year, but a recent rally – prompted by a confirmation that the market will open up to foreigners this year – has left them trading a premium to MENA and EM aggregates.
However, the accession of King Salman – who succeeded his half-brother Abdullah in late January – has brought Saudi subjects a windfall bonus worth two-month salaries – Jarir Bookstore, Saudi Arabia’s leading seller of tablets and smartphones, will see strong sales as a result.
Monthly point of sales data show that Saudis spend their bonuses quickly – good for consumer stocks
Source: EFG Hermes
We still believe powerful forces such as demographics, Saudi-isation and consolidation will favor consumer staples and retail plays in the long run. And even though many foreign investors were reluctant buyers – or even outright sellers – of Saudi stocks following the qualified foreign investor (QFI) announcement in mid-2014, once the panic is over foreigner investors are likely to come back, along with fresh foreign inflows from QFIs later in the year. The Kingdom’s opening will make it far and away the largest investable market in the region.
The Qatari market is currently on the FTSE’s watch list for potential upgrade from frontier to secondary EM status. We believe foreign ownership limits (FOLs) were the key obstacle to a FTSE upgrade, and recent changes in the way FOL is calculated – a new law passed by the Emir earlier this year allows companies to raise FOL to 49% – and potential for further FOL increases (currently, only Masraf Al Rayan has an FOL of 49%) makes it safe to assume that we will see more companies following suit sometime this year.
Such an event would automatically impact Qatari weights in the MSCI EM Index during index reviews, and result in more passive money flowing into Qatar. Furthermore, Qatari retail participation is one of the lowest amongst major MENA markets, with average retail participation around 55%, compared with a simple average of 75% for UAE, KSA and Egypt.
This can be partly attributed to the fact that Qatari-listed shares have a higher nominal value on average than those in other regional markets, we believe. Exchange initiatives – such as a broad-based 10-for-one stock split, reducing the par value of Qatari shares to QAR1 from QAR10 – could unleash retail liquidity, which will be supportive for the market.
And while future retail liquidity might drive the Qatari market, the surge in liquidity for the UAE is behind us, and going forward economic and stock market performance in 2015 will be driven by longer-term trends.
For Dubai, this means continuing population growth as the emirate develops as a major business hub, growth in trade at Jebel Ali, and preparations for Expo 2020, where accelerated implementation will drive loan growth. The medium-term Dubai story is best played through the banks, DP World and Air Arabia.
For Abu Dhabi, long-term trends mean continued spending on infrastructure, financed by abundant net foreign assets. The balance sheet of Abu Dhabi is solid, with ample foreign reserves. This will help support the Abu Dhabi Vision 2030 and federal-level infrastructure-related spending, which will support the UAE non-oil growth.
So despite the fall in oil prices and the instinctive reaction to avoid the region, years of government spending and a push to diversification are bearing some fruit with non-oil opportunities. Non-oil growth is backed by the savings oil-exporters have built up over the past decade.
Without a doubt, oil market volatility will be rattling and government support will be critical to underpin growth, but the new fundamentals provide firepower for what could be the region’s first post-oil stress test.