No Reason to Fear the Opening of Saudi Stock Market to Foreigners
JEDDAH — The Saudi stock exchange (Tawadul) is likely to open to foreign investors in 2015, and Gulf’s governments and corporates outside Saudi Arabia are concerned about the impact that it would have on their countries.
They fear that investors would switch their capital to Saudi companies, creating rapid outflows that would impact negatively domestic stocks.
However, if we consider investment patterns in the region, evidence from previous similar events, and current cyclical factors, those fears turn up to be largely unfounded, a new research by Asiya Investments noted.
First, the traditional investment approach in the region reveals that an abrupt reallocation of assets is unlikely. Gulf’s institutional investors, the key players in the region, do not shift their allocation by divesting in one country and investing in another.
Their approach is much more gradual, and, when a decision is made to increase the allocation to a country, the change is implemented through additional investments, without divesting from other markets.
Also, these institutions often follow rule-based allocations: they must allocate their assets across countries following a rule previously set which, usually, is linked to the country’s percentage of global GDP.
They are forced to maintain a specific percentage of their portfolio in each country: this constraint imposed on their strategies reduces the overall volatility.
Second, similar events in the past did not provoke a reallocation of capital in the region. For instance, in June 2014 Qatar and Dubai were upgraded from “frontier market” to “emerging market”, a move that was announced early in 2013 and that often implies an increase in inflows of foreign capital.
As a result the amount of investment coming from “foreign institutional investors” picked up quite markedly: Dubai inflows rose from $203 million in 2012 to $709 million in 2013, while in the case of Qatar the change was more significant, going from a net outflow of $925 million in 2012 to a net inflow of $616 million in 2013.
However, these increases did not come from divestments in other countries. An example is Kuwait, where the inflows coming from these investors were only marginally lower in 2013 ($509 million) than in 2012 ($639 million).
Another important lesson: the upgrade of these markets did not increase the presence of foreign investors in relative terms.
In the year following the announcement, the percentage of Qatari stocks held by foreigners rose from 8% to 9.1% while in Dubai, it rose from 17% to 17.3% and Abu Dhabi witnessed a similar change, with foreigners’ holdings going from 10.4% to 11.4%.
Given that both Qatar and Dubai saw hefty returns during that period – 55% and 119% respectively –, it follows that the increase in demand came mostly from local investors, which probably shifted resources from other assets into stocks from these countries.
This is consistent with IMF findings about investment portfolios in the GCC, which show a strong domestic bias in the region.
Gulf’s investors prefer to invest at home. Third, the fact that most of the additional investment in Saudi Arabia will probably come from the Gulf, will smoothen the impact of the regulatory changes.
Regional investors already have almost unlimited access to Saudi markets, reducing the likelihood of large reallocation of capital following the change.
GCC investors would be able to gradually take positions without waiting for the change in regulation to be formally approved.
Furthermore, the liberalization is likely to be gradual, with initial restrictions for foreign investors, which will probably adopt a cautious stance in the initial stages making again less probable a hasty adjustment.
Finally, cyclical factors will also reduce the impact of the opening of the Saudi stock exchange.
The collapse in oil prices over the last six months has cooled down sentiment among regional investors.
In spite of the recent timid recovery, oil price is still 50% below its June 2014 level. If oil prices fail to pick up, the spending capacity of the Saudi government – the main driver of the Saudi economy and a key factor explaining performance of Tawadul’s firms – will be substantially affected.
Additionally, Saudi would have to compete for investors’ attention with other new important markets such as China, whose stock exchange is currently classified as emerging market by MSCI.
China is also embarked in a process of liberalization by which foreign investors are being gradually granted easier access to listed firms.
If the Saudi stock market opens up in 2015, it will attract considerable attention from global investors, but the process is likely to be gradual and its impact in the region will be mild. Do not expect immediate sizeable transfers of capital from Kuwait, UAE or any other GCC country into Saudi Arabia. — SG