In spite of the summer heat, Ramadan and Eid Al Fitr, July proved to be an interesting month for financial markets in the Middle East and North Africa (Mena) region.
The month was marked first and foremost by a surprise announcement from Saudi Arabia’s capital markets authority that it would allow direct foreign ownership of Tadawul-quoted shares starting next year. In strong trading, Mena equities bounced back strongly from June’s negative performance, with stocks in Dubai recording their best month since 2007. Meanwhile, in fixed income, the Citi Mena Broad Index made a positive return in July, helped by economic data that continued to point to strong non-oil growth throughout the GCC.
Purchasing managers index figures for the UAE and Saudi Arabia remained very strong, although data also suggested inflation pressure was building in both places. In spite of efforts to rein in property speculation, housing costs have been rising in Dubai in particular.
In Egypt, the government showed serious intent to bring down the country’s fiscal deficit, imposing new taxes and a reform of fuel subsidies. In response to the rise in prices stemming from the cut in subsidies, the central bank announced a 100 basis point rise in overnight deposit and lending rates.
Encouragingly, recent PMI figures for Egypt rose above 50 for the first time this year. The Citi Mena Index’s returns for the month were in line with those for the JPMorgan Emerging-Market Bond Index, which continued to benefit from investors’ search for yield in a low interest-rate environment. Credit default spreads also declined by 35 basic points as measured by the CDX Emerging Markets Index.
Fitch ratings upgraded Jebel Ali Free Zone FZE’s (Jafza) long-term issuer default rating (IDR) to BB minus from B plus with a stable outlook, with the agency citing Jafza’s improved liquidity and better-than-expected operating performance. Also in July, Fitch assigned a final B minus rating to notes issued by Kuwait Energy due in 2019. This rating is in line with Kuwait Energy’s long-term foreign currency IDR. For its part, Standard & Poor’s affirmed its A/A-1 credit ratings on Abu Dhabi Commercial Bank but raised the outlook from stable to positive.
There was little new issuance in July. Of note, however, was a US$250 million five-year issue from Kuwait Energy. The bond was issued at a 9.5 per cent yield, somewhat higher than initial expectations.
The weak performance of the United States and some other large emerging market economies in the first quarter culminated with the IMF cutting its global growth forecast for 2014 from 3.7 per cent to 3.4 per cent. The most notable effect of relatively subdued growth scenario has been the unexpected decline in US Treasury yields this year. However, as recent data shows, growth is picking up in many major economies. Meanwhile, the GCC region has remained on a strong economic footing and forward indicators have suggested economic conditions will remain strong. We also expect the opening of the Saudi Arabia stock market to continue to boost investor interest in the region as a whole.
As for financial markets, the low volatility and steady upwards march of risk assets has given rise to complacency, in our view, that could falter due to any number of factors, including a revision of interest rate expectations and a corresponding run-up in bond yields. With global growth momentum broadly positive, it is important to position correctly for a possible market inflection point. We are cognisant of the increasing issuance of covenant-lite loans of varying quality as it may point to a late-cycle mentality among investors. Consequently, we are trying to avoid beta risk where possible as we expect it to be a weak driver of performance going forward.
Another risk is that spreads could widen before the interest rate cycle comes to an end or default rates rise.
We believe the GCC region represents an increasingly attractive investment destination, both in fixed income, sukuk and equities. Improving growth, increased market depth and primary market activity should support performance, especially when accompanied by a disciplined investment process that focuses on risk as well as reward.
Mohieddine Kronfol is the chief investment officer for fixed income and global sukuk at Franklin Templeton Investments (ME)
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