The GCC has enjoyed a positive year so far in 2018, with its leading 100 companies contributing to some impressive market gains in what has been a time of great change for the region.
Widespread diversification, a fast-evolving tech landscape, socio-economic developments and global headwinds are among the challenges that private companies have had to navigate in recent months, by and large reacting with great success.
This has been reflected across a number of indices, including the S&P GCC index which registering a gain of 6.3 per cent up to mid-September, buoyed by a number of positive developments. Among these are the inclusion of Saudi Arabia and Kuwait in emerging market indices, strong reform momentum across Gulf states, and a continues recovery in oil prices.
For most of this year, Saudi Arabia and Kuwait were favourites among investors, largely due to expectations that Saudi Arabia would join the MSCI emerging markets index in 2019, and FTSE Russell’s decision to upgrade Kuwait to secondary emerging market status.
Based on market performance, the Abu Dhabi Index and Boursa Kuwait stood out with registered gains (year to date) of 12.9 per cent and 9.1 per cent respectively. Saudi Arabia’s Tadawul, which had a good first half registering double digit gains consequently pared down its gains as the news of much awaited Saudi Aramco IPO was put on hold. The recovery of oil price, which has now more than doubled since its low in 2016, and successful issuance of bonds to raise capital from international markets has enabled Saudi Arabia to better manage its finances.
At the other end of the scale however, the Muscat Index shed 10.5 per cent while Dubai’s Index was down 17.7 per cent – largely led by decline in real estate stocks.
Among global markets, US equities continued their upward march with the S&P 500 index scaling new highs and outperforming other developed mar-kets at 8.7 per cent. Robust economic expansion on the back of tax cuts led companies to report strong earnings, beating analyst estimates. The UK’s FTSE, on the other hand, witnessed a slowdown and lost 5 per cent as the Brexit negotiations continue to cause additional uncertainties.
Trade relations between the US and China weighed on investor sentiments, with the US’ decision to move ahead with tariffs on Chinese goods and put limits on Chinese investment contributing to market volatility.
During the year, emerging markets lost their sheen to a degree as foreign investors started withdrawing their capital on account of strong expansion of economic activity in the US and subsequent interest rate hike by the US Federal Reserve. Ensuing trade tensions and renewed geopolitical risks have further exacerbated the situation. As a result, the MSCI Emerging Markets index lost 11.2 per cent so far this year.
The impact of this drop has been felt most keenly in emerging market currencies. Argentina is struggling to shore up its peso, which has more than halved in value despite massive interest rate rises to 60 per cent. India’s rupee has registered record lows this year and South Africa’s rand, Russia’s ruble and Brazil’s real have all lost between 15 and 20 per cent so far this year.
The second half of 2018 started on a positive note for GCC stock markets, with Kuwait emerging as the top performer among its regional peers. The performance of these markets was attributed to the strong performance of banking stocks across the Gulf.
Major banks in the region posted solid growth in earnings for Q2, with their profitability being boosted by rising interest rates, an uptick in economic activity, and increased government spending. Kuwait’s blue chip companies, Kuwait Financial House (KFH) and National Bank of Kuwait (NBK) were the best performers, gaining 8.2 per cent and 8 per cent respectively.
Crude oil prices have averaged $73 per barrel so far this year and could average $74 per barrel in 2019, according to the Short-term Energy Outlook by the US Energy Information Administration. The price of oil has hit its highest level since November 2014, reaching $80 per barrel in May this year, as geopolitical fears cause concerns to rise over potential disruption to sup-plies.
Despite the positive signs however, stock market liquidity in most GCC mar-kets has deteriorated due to declining investor sentiments. Increased risk perception and a lack of new IPO issues continues to act as an impediment in a market that is largely dominated by retail participants.
The MSCI GCC index currently trades at a trailing price to earnings ratio of 14.1, which is on par with MSCI Emerging Markets (13.8) and Frontier Mar-ket (14.4) indices. However, with expectations of rising oil prices, currencies that are pegged to US dollar appear relatively attractive over other emerging and frontier markets. Subsequent US rate hikes could spur similar activity among GCC central banks.
A rising interest rate environment could enhance the profitability of GCC banks in the short term, as most of the banks have large non-interest bear-ing deposits, which means that the impact of cost of funding will be very moderate.
On the other hand, loans could be quickly repriced upwards. A rise in global oil prices along with a hike in production has lifted the outlook for the en-tire petrochemical sector, for example. On the other hand, rising trade ten-sions could limit upside potential.