Dubai
THE desert states of the Gulf are proving to be fertile ground for bond investors.
Yield-hungry global funds are ploughing into regional bonds at the expense of local stock markets, where liquidity has dwindled following the 2014 oil-price crash. The last initial public offering in the United Arab Emirates was in 2017.
Once debt-averse, the petrostates of the Gulf have pivoted to borrowing to finance ballooning budget deficits. They've tried to cut capital spending and slash subsidies - steps that helped shore up finances but spelled trouble for equity investments as austerity undermined consumer spending and credit growth.
"When it comes to looking at bond and equity markets in the Middle East, it is like Mars and Venus," Richard Lacaille, chief investment officer at State Street Global Advisors, said in Riyadh. "The interest from bond investors is very clear: they want a little bit of spread, they want diversified assets, and they want liquidity."
The bond buyer's Gulf couldn't be more different from the place shunned by stock pickers for its lack of corporate transparency and market selloffs driven by knee-jerk retail traders. By contrast, borrowers in the Gulf Cooperation Council, comprising six monarchies including Saudi Arabia, are now among the biggest issuers in emerging markets, with sales of bonds and Islamic securities tripling in the first four months of this year from 2016.
"While on the equity side one could argue that risks are higher due to liquidity or transparency, on the debt side the region is viewed as having better credit quality in general versus other emerging markets," said Abdul Kadir Hussain, head of fixed-income asset management at Arqaam Capital Ltd. in Dubai. "The emergence of large sovereign issuers and issuances in the past couple of years has also improved the breadth and depth of the debt market."
One reason that regional debt is now high on the radar of investors is that Saudi Arabia, Qatar, the UAE, Bahrain and Kuwait joined JPMorgan Chase & Co's emerging-market bond indexes in January. Governments and companies in the GCC sold US$51.2 billion of bonds and Islamic securities this year through May 27, according to data compiled by Bloomberg.
In comparison, the only initial public offerings in the region raised just over US$700 million in the same period.
"New listings have become rare as equity markets are not considered a viable option to raise financing," said Mohammad Ahsan, managing director of rates and fixed income at Mashreq Bank in Dubai.
When Arqaam Capital's Mr Hussain moved to Dubai from London in 2006, banks were the main borrowers in a shallow market that suffered further setbacks during the global financial crisis. Three years later, Dubai just skirted a default after receiving a bailout from fellow emirate Abu Dhabi.
"The ability of the region to survive major high-profile defaults during that period garnered it more attention from international investors," Mr Hussain said. "The final piece of the puzzle was the inclusion in indexes. Now for it to go to the next level we need a more vibrant local-currency market."
The ranks of borrowers now range from state-run oil giant Aramco, whose US$12 billion bond sale this year was one of the most oversubscribed offerings in history, to Majid Al Futtaim Holding LLC, the Middle East operator of Carrefour SA stores. Recent debut issuers also include Saudi Telecom Co and dairy-farm operator Almarai Co.
IPO drought
Saudi Arabia has led the spree in the last three years, establishing a yield curve as a benchmark for companies. Boasting an average rating of A+, GCC sovereign debt is an appealing investment. The yield on Saudi Arabia's 2029 debt is similar to that of lower-ranked Colombia and Panama.
Just as the debt market was opening up, an IPO drought settled over the region, and it shows no sign of easing.
Finablr, Abu Dhabi billionaire Bavaguthu Raghuram Shetty's financial-services firm, and Dubai-based Network International opted to list in London this year. Shares of Saudi mall owner Arabian Centres Co, which started trading in Riyadh this month after the biggest IPO in the kingdom since 2015, have slumped more than 10 per cent since their debut.
The success of Aramco's bond sale was in contrast to its IPO plan, which has been delayed at least until 2021. Meanwhile, bond traders stayed focused on the company's high yields and pristine balance sheet.
What's more, many companies in the Gulf, including the biggest bank in Dubai, have limits on foreign ownership of stocks that make it hard for large international investors to acquire significant stakes.
The outlook for equities may be turning brighter now that non-oil economic growth is bouncing back in the GCC, with the International Monetary Fund projecting a pickup to 2.9 per cent in 2019 and 3.3 per cent next year, the strongest since the crash in crude prices.
The region's economies are "on a more sustainable footing" and government efforts bode well for their creditworthiness, according to Mohieddine Kronfol, chief investment officer for global sukuk and fixed income for Middle East and North Africa at Franklin Templeton Investments.
"We had an environment that was much more conducive for fixed-income investing than equities," Mr Kronfol said. "The equities story is now beginning to improve with a brighter outlook for growth.'' BLOOMBERG
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