In line with the strength seen in the previous two months, certain risk assets – particularly equities – continued to perform strongly last month.
Developed-market equities were spurred by a stream of positive economic data from the United States as well as by the dovish tone struck by Janet Yellen, the expected successor to Ben Bernanke as chair of the US Federal Reserve. Renewed speculation about the Fed’s tapering of its monthly asset purchases started to affect benchmark rates, but the central bank continued to placate fears through its commitment to low rates.
European markets were helped by a cut in base rates early in the month and the European Central Bank’s determination to combat the risks associated with disinflation.
Concerns about possible Fed tapering led to a renewed rise in long-term US treasury yields last month, although volatility was contained by expectations of an enhancement of the Fed’s forward guidance for low rates.
However, outside developed markets, concerns about Fed tapering meant most emerging-market equities (barring pockets of strength in China and GCC countries), commodities and fixed income broadly produced negative returns.
The sukuk market, as measured by the HSBC/Dubai Sukuk Index, nonetheless managed to eke out a small positive performance, outperforming the Citi World Government Bond Index and higher-beta indexes.
The outperformance of GCC countries last month – in sukuk as well as in equities – was aided by a number of positive events, including the decision to select Dubai as the site for the World Expo 2020. That decision crowns a strong year for Dubai and the UAE at large. Dubai’s GDP growth accelerated to a year-on-year rate of 4.9 per cent in the first half of this year, while the purchasing-manager index (PMI) for the UAE (56.3 in October) points to continued momentum.
Sukuk issuance in GCC countries picked up considerably last month as the market stabilised. Gems Education, a Dubai-based school operator with facilities across several emerging and developed markets, launched a US$200 million debut hybrid subordinated sukuk with a 12 per cent profit rate. The issue resulted in an oversubscribed book and this unrated sukuk traded well in the secondary market.
Aldar Properties, the largest property developer in Abu Dhabi, returned to the sukuk market for the first time since its merger with Sorouh in June. The company raised $750 million via a five-year sukuk that was priced at 290 basis points (bps) over mid-swaps.
There were also a number of conventional bond issues during the month. In the UAE, Abu Dhabi Commercial Bank sold a conventional $500 million floating-rate note due in January 2017, while First Gulf Bank tapped the market with a senior $500m conventional note set to mature in 2019 that offered a fixed rate of 3.25 per cent.
While market sentiment has improved considerably since the summer, emerging-market assets in general, including bonds, have struggled to hold on to the initial gains they made after the Fed decided in September to delay tapering. Long-term government bond yields have retraced much of their initial declines, which unsurprisingly has had a detrimental effect on the total returns registered in a number of fixed-income markets and had a knock-on effect on emerging-market currencies and credit spreads. Nevertheless, as their performance in November shows, sukuk have generally been less impacted by volatility in benchmark interest rates and have provided some downside protection from emerging market stress.
Overall, despite the financial market volatility that we expect to continue, we think investors in GCC bonds can expect to benefit from a sustained strong macroeconomic backdrop, the low correlation of GCC bonds to major fixed-income sectors, and continued bond market development and growth in the region.
Collectively, we believe these factors should underpin the GCC market’s prospects for strong risk-adjusted returns in the coming months.
Mohieddine Kronfol is the chief investment officer of fixed-income and global sukuk at Franklin Templeton Investments Middle East
