Entry of foreign investors into Saudi Arabia’s stock market to awaken ‘sleeping giant’

Saudi Arabia is to open its market to outsiders in what will be a huge opportunity for foreign players. The nation’s Tadawul is the biggest bourse in the GCC by far.

Investors monitor screens displaying stock information at the Saudi Stock Exchange (Tadawul) in Riyadh November 12, 2014. Shares in Saudi Arabia’s biggest lender, National Commercial Bank, jumped their daily 10 percent limit upon listing on Wednesday after a $6 billion IPO, the largest ever in the Arab world and the second-biggest globally this year. /Faisal Al Nasser / ReutersShow less

It could be the investment landmark of 2015 in the GCC region.

If Saudi Arabia is as good as its word – announced in a far-reaching policy statement last summer – to throw open its capital markets to full-blown foreign participation this year, it could awaken the “sleeping giant” of the Middle East and lure big global investors to take a direct part in the region’s biggest economy and its most valuable stock market.

By any measure, the opening up of Saudi Arabia is a major event in global investment history. The Tadawul exchange is a big as that of Russia and, with a market capitalisation of about US$430 billion even after the oil-price driven falls of recent months, is still worth about the same as all other Arabian Gulf regional markets combined.

There is no doubt that international investing institutions would leap enthusiastically at the chance to participate in such a market. It has been closed to them for decades because of formal rules by the two Saudi regulators, the Capital Markets Authority (CMA) and the Saudi Arabian Monetary Authority (Sama), and by a perceived hostility on the part of the local investment community to foreign involvement.

All that would be swept away if the changes are introduced as planned in the first half of this year.

Global institutions would in theory rush to take part in a market that has greater diversity than most others in the region, with corporates that reflect the Saudi economy more accurately than many of the other GCC exchanges, with their preponderance of financial and property companies.

The Tadawul has genuine blue-chips such as the petrochemicals conglomerate Sabic, the investment group Kingdom Holdings and the Islamic bank group Al Rajhi, all leaders in their regional markets and with global aspirations.

It also has the most liquid of all markets in the GCC, driven by the army of retail investors who comprise as much as 80 per cent of daily turnover, much of it dominated by the big “hammour” of the market, as influential private investors are dubbed.

Saudi capital markets have also shown their capacity to run money-spinning initial public offerings. The $6bn IPO of National Commercial Bank (NCB) was one of the biggest and most successful market flotations of 2014 and overcame significant difficulties on its market debut.

NCB was floated successfully despite some opposition by conservative religious elements at home and despite hesitant global demand in view of the fall in oil prices.

Mark Mobius, the emerging markets expert of the $899.5bn investment group Franklin Templeton, says he would double or even triple his commitment to Saudi if the markets were opened up and many other investors would follow suit.

Within a couple of years, Saudi Arabia could be a major constituent of the MSCI emerging market index, in which the UAE and Qatar already sit, allowing the trillions of dollars in global institutional funds to invest in the market. Most are prevented by the current regulations.

So what will the changes involve?

After the initial policy statement, the CMA followed up with more detailed guidelines on exactly how the opening up would be achieved.

It is clear Saudi policymakers have taken a leaf from the book written by other successfully liberalised markets in the high-growth regions of the world: China; India; and other parts of the GCC.

As in China, the market will open first to qualified foreign financial institutions (QFFIs), which have to meet certain conditions to establish their bona fides as investors: at least $5bn under management and a five-year track record of investment. The Tadawul will clearly not be open to the widows and orphans of the West.

And there will still be other restrictions on foreign investment. Even QFFIs will only be allowed to hold a maximum of 10 per cent of the Tadawul as a whole and no more than 20 per cent of the equity of any individual stock.

But compared to the current regime – in which foreigners outside the GCC are allowed no direct holding of any Saudi shares and can only participate via complicated swap arrangements that expose them to risk but with limited financial upside – it constitutes an unprecedented liberalisation – and a big investment opportunity.

However, there are two inter-related challenges to be overcome before the Saudi potential can be fully realised. The kingdom, as the largest oil producer in Opec, has to live with the effects of the dramatic drop in the price of oil.

According to Jadwa Investment, one of the leading independent Saudi financial analysts, some 83 per cent of government revenue comes from energy income.

But, despite recent declines, the 2015 budget aims to maintain high levels of public spending, bolstered by the huge $736bn assets held by Sama.

The oil price fall has also had a significant effect on the Tadawul, with the value of the main market index falling by nearly 30 per cent since the decline began in September.

The budget showed that the Saudi authorities are determined to stick to previous plans despite the vastly different economics of the oil market.

The opening up of the kingdom’s capital markets to foreigners is likely to remain a central plank of Saudi economic strategy.

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