After last year’s its big run-up, investors are champing at the bit to get a piece of the Saudi Stock Market (SSM). Driven up by relief and some optimism in the aftermath of the US invasion of Iraq, and kept afloat on the back of high oil prices, the All-Share Index ended 2003 with a 76.2% year-on-year gain, rising to close at 4437.6. The first month of 2004 saw it rise another 2.25%.
According to Said al-Shaikh, chief economist at National Commercial Bank (NCB) in Jeddah, it was a flood of local investors, previously unseen in the Saudi market, that buoyed stock prices. Their confidence was boosted by a wide variety of factors: the amount of oil money sloshing around in the economy, unattractive interest rates on deposits, Gulf citizens’ fears of putting their money overseas, and a jump in corporate results.
The question now is whether the Saudi market can sustain the 2003 run on share prices, or if investors would be better off looking to other markets that still have more room on the upside.
Market outlook
By some measures, the market looks reasonable. At end-2003, shares were trading at about 19.56% times projected 2004 earnings, a not outlandish figure, according to Mr al-Shaikh. But while the market was up 76.2% in 2003, profits were only up 56%. This suggests that either stocks are over-valued at current prices or that investors see 2004 as an outstanding year for the Saudi economy.
In economic terms, the future looks good – although not as good as last year: 2003 was a boom year for the kingdom in terms of economic performance, but it looks like things should slow slightly in 2004. Although declining oil production could lead to slightly negative real GDP growth, according to predictions from Samba in Riyadh, the private sector should continue to enjoy good growth, with inflation remaining in check despite the falling dollar and trade balances remaining strong. Government debt is a potential problem, but Riyadh has shown at least a willingness to grapple with the situation.
Dollar worries
One real problem that could hurt stocks is the recent fall in the dollar. With Gulf currencies pegged to the dollar, lower valuations are making imports from Asia and the eurozone (which account for most of Gulf imports) more costly, squeezing companies’ competitiveness.
According to Standard Chartered Bank’s Dubai-based Middle East economist Daniel Hanna, the situation could continue through 2004 and take another 20% drop in the dollar’s value before the US current account deficit is brought under control and downward pressure on the dollar eases.
Although active industrial stocks like Alujain Corporation, Saudi Industrial Development Company and National Industrialisation Company tripled in value over the last year, the falling dollar could hurt their prospects by making materials more expensive. The industrial sector was more or less flat in the last quarter of 2003, and it was Saudi Arabia’s agricultural sector that took off as the year turned.
Impact of competition
The banking sector also looked good, though prospects are uncertain. With foreign banks having been granted full licences in the last year, and with the kingdom’s accession to the WTO imminent, the competition can only get tougher for Saudi banks.
Winners in 2003 included Bank Al-Jazira, whose stock price doubled over the last year, Al-Rajhi Banking and Investment Corporation, which rose by about 50%, and Saudi Investment Bank, up more than 40%. The sector has had a slower start this year, and coming interest rate rises in the US and the dollar’s continued weakness could hurt prospects. But fourth-quarter results look good, and both Saudi Hollandi Bank and Saudi British Bank recently announced one-for-four bonus share offerings, a good indication that the banks see continued investor interest.
Oil and local interest
One key factor in recent Saudi share price rises has been high oil prices, which averaged $27 a barrel in 2003, the highest level since 1984. With the petroleum sector accounting for some 40% of GDP and 75% of revenues, the fundamentals underlying Saudi share prices take their cue in large part from the vagaries of oil.
Fortunately, the sector should stay strong for the foreseeable future. Even with some Organisation of Petroleum Exporting Countries (OPEC) over-production at the beginning of this year, oil prices started 2004 above OPEC’s target band of $22-28 a barrel, and look to stay above $24 “well into 2004”, according to Samba’s chief economist Brad Bourland. With Chinese demand now charging into the market, analysts say any additional capacity from Iraqi exports should be easily absorbed. And despite noises from US presidential candidates about making America “energy independent”, that prospect remains a dream that may never actually come true.
Despite security concerns and the cratering of global markets after 11 September, 2001, trading volumes on the Saudi market took off in 2002 and rose further in 2003. Nor do they look to have been appreciably dampened by recent violence in the kingdom. Widespread violence or the development of a real weakness in the governing structures – a not impossible scenario, according to US government analysts – would suck the wind out of the Saudi market’s sails. But failing that, investors seem content that business will proceed more or less as usual, although it does so against a background of real uncertainty.
On the flip side, any increase in security or a step forward in economic reform could help give the market another boost. The implementation of the much-anticipated Capital Markets Law will certainly help. And as NCB’s Mr al-Shaikh points out, getting the local investor to stay in the market will help consolidate gains.
Local gains?
The Saudi equity market created new wealth equivalent to 32.3% of nominal GDP in 2003, Mr al-Shaikh says. But it remains to be seen whether that wealth effect will penetrate into the local economy in the form of new jobs, new businesses, and continued business investment.
One step in the right direction will be the Capital Markets Law passed in mid-2003, which should help develop Saudi markets and bring more investors in to solidify share valuations. At over $140bn, the Saudi market cap is the Arab world’s largest, though there is yet no formal stock exchange (shares are traded on an inter-bank basis). Better developed domestic markets will also help absorb the high levels of domestic liquidity now developing in the Gulf, according to Abdul Aziz al-Daghestani, head of the independent Economic Studies House in Riyadh.
On top of strong economic results, the weak dollar and concerns over changing international relations led Gulf and other OPEC investors to repatriate $13bn the first half of 2003 alone – this reflected growing concerns among Gulf investors that, post-9/11, their funds may not be so welcome – or safe – in US markets; the first half 2003 was more than twice the total amount for calendar 2002, and analysts say the trend has continued. Funnelling that cash into shares could provide a crucial support for the market.
Privatisation
Liquidity will also be needed if Riyadh’s foray into privatisation is to continue successfully. Shares of Saudi Telecommunications Company have almost doubled since being listed last year, providing the Saudi government with good incentive to look at privatising other state-owned companies, according to Standard Chartered’s Mr Hanna.
Gulf stocks in general continue to attract interest, and new issues elsewhere are being eagerly met. The recent IPO of UAE mortgage finance company Amlak was 33 times over-subscribed, leading other finance companies to prepare new issues, and suggesting that investors’ appetite has yet to wane.
But there is some concern among investors in the Gulf that it was fast money that supported the Saudi market in 2003, and that as fast as that money came into the market, it could run right out again, headed for markets that still have more upside potential. Both the UAE and Bahrain under-performed the rest of the Gulf last year, and could attract more attention in 2004, especially given the potential for IPOs. Bahrain is currently negotiating a Free Trade Agreement with the US that should mean a boom in economic activity there. In the UAE, stocks are trading at low price-to-earnings multiples and could well prove even more attractive if investors start turning away from Emirati real estate, which has soaked up most recent investment into the country.
Then again, no economy in the region has the economic muscle – or potential – of Saudi Arabia. If the market opens further – as the Capital Markets Law suggests it should – it could suck in investor funds in volumes most other markets can only dream about.
