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The Paris Climate Agreement and Implications for the GCC

Date : 27/12/2015
Author:  Marmore MENA

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The Paris climate change deal will only come into force after it is placed for signatures of approval (from 22 April 2016 to 21 April 2017) by States and regional economic integration organizations that are Parties to the Convention (The United Nations Framework Convention on Climate Change). It is notable that the agreement can only come into force if it has received ratification by 55 countries that represent at least 55% of global emissions. For France that hosted the climate change conference, the 21st session of the Conference of the Parties (COP21) ranked as the largest international diplomatic conference ever organized by the country.

The Paris agreement establishes a new international context for countries’ use of fossil fuels, including limiting worldwide temperature rise to well below the two degrees Celsius mark and undertaking efforts to constrain the rise to 1.5 degrees Celsius over the long term (The Scottish Government). The climate change agreement is a reflection of a collective thought, particularly emanating from the advanced nations, that is trying to move towards a post-hydrocarbon energy era. What does this mean for the GCC, whose predominant source of income is hydrocarbons? The following graphic illustrates the contribution of nonhydrocarbon revenue as a percentage of total revenue.
 
Figure1.jpg
 
In November 2015, the International Monetary Fund (IMF) released estimates that the GCC’s export revenues would be nearly $275 billion lower in 2015, in comparison with the preceding year, due to the oil price decline since mid-2014. The shortfall in hydrocarbon revenues has caused concerns about fiscal deficits across the GCC. Analysts predict that GCC countries would raise at least $15 billion in the international bond markets in 2016, an amount that would range higher than all GCC sovereign dollar debt issuance from 2013 through 2015 (Zawya). The following graphic illustrates the year on year change in hydrocarbon revenue (growth or shrinkage) from 2012 through 2016(f).

Table1.jpg
 
There is also a concerted push towards renewable energies evident in the policies of various countries around the world. Global investment in renewable energy rose by 17% to touch $270 billion in 2014. Also, the green bonds market, which barely had a presence even until a decade ago, is now worth $66 billion. The market was worth just $2 billion in 2011, implying a CAGR of about 140% from 2011 through 2015. The GCC itself is participating proactively in developing a renewable energy future. However, the concern is that the renewable energies paradigm may emerge so quickly that the needed economic diversification efforts may not have sufficient time to bear fruit.
 
Table2.jpg

Meanwhile, the supply side of the oil equation is getting larger as well. On December 19, 2015, news emerged that the U.S. lifted a 40-year-old ban on export of American oil. Moreover, Iran, which anticipates removal of sanctions soon, has indicated that it would boost output by 500,000 barrels per day in a post-sanctions environment, which it expects sometime in early 2016. Thus, the oil glut appears to be getting wider by the day.

Figure2.jpg

In conclusion, it can be said that if the GCC does not economically diversify and create new revenue sources, then the massive fiscal reserves too will come under immense stress over the long term. The Paris climate deal is one more reminder and catalyst for the urgent need for economic diversification in the GCC.

Published by Marmore MENA

Tags:  Climate Change, GCC, Hydrocarbon, Oil

Ratings:
 Current rating: 0 (3 ratings)

Why is Liquidity important? Some Research Snippets

Date : 20/04/2014
Author:  M.R Raghu

Liquidity is at the backbone of any market development and GCC stock markets are no exception. Strong oil price backed wealth effect coupled with retail nature of the market triggering speculative activity contributed to very robust liquidity levels in the past, especially before the financial crisis. Liquidity is generally measured as total value traded and is expressed as a % of total market capitalization to arrive at the velocity. A high velocity may indicate that liquidity is running ahead of the market and vice versa. Also, improved liquidity has many benefits including cost of transaction. In the context of GCC stock markets, the following questions beg answers:

  1. By how much did the liquidity drop for key index movers measured in terms of before and after Global Financial Crisis?
  2. What impact such a drop had on the bid-ask spread (a proxy to measure transaction cost)
  3. Are there any inconsistencies in this and if so what can explain it?
Before we answer these questions, let us quickly explain the methodology of this small research:
  1. We collected daily volume, value traded, market capitalization, bid-ask spread on 15 heavy weights in the GCC stock markets
  2. We organized this data in terms of pre financial crisis (before 2008) and post financial crisis (after 2008).
  3. We calculated Average Daily Value Traded (ADVT), a measure of liquidity for all the stocks
  4. We also calculated the Turnover ratio (defined as total volume traded/number of outstanding shares).
Now let us turn to our findings in a quest to answer our questions:
Table 1- % change between Pre-crisis (2003-2008) and Post crisis (2009-2013)

  1. By how much did the liquidity drop for key index movers measured in terms of before and after Global Financial Crisis?
Regarding the first question liquidity dropped across the board in the aftermath of the crisis as expected. For example SABIC’s daily average value traded (ADVT) stood at  USD 178 mn dollars during the period from 2003-2008. Post 2008 the ADVT fell by 27% to USD 130 mn dollars. Saudi Telecom saw a large decline in ADVT from USD 100 mn before the crisis to USD 11.9 mn a drop of almost 90%. The table above shows the effects of the crisis on the average value traded.

Table 2- Summary of finding

  1. What impact such a drop had on the bid-ask spread (a proxy to measure transaction cost)
In general, as liquidity improves, bid-ask spread reduces thereby reducing the cost of transaction. In the case of heavy weight GCC stocks, spreads increased in response to a fall in the liquidity for most of them. SABIC’s  Spread was 0.23% prior to the financial crisis while after the crisis it increased to 0.3%. In the case of Saudi Telecom the Spread increased marginally from 0.27% to 0.29%. The biggest increase in spreads is seen in Zain where before the crisis the spread was around 0.75% (high compared to Saudi companies) while after the crisis it increased by  88% to 1.42% though this cannot be totally attributed to a fall in ADVT as ADVT declined only by 9% compared to pre-crisis numbers
  1. Are there any inconsistencies in this and if so what can explain it?
Finally were there any inconsistencies? Some companies in our study showed positive correlation in that while liquidity decreased, the bid-ask spread also decreased and vice versa. Examples include Emaar, First Gulf Bank and industries Qatar. However the main reason behind this positive correlation is that the mentioned companies did not have sufficient history for us to make meaningful comparison between pre-crisis and post crisis numbers. The only company with sufficient data was SAMBA and we could attribute the fall in liquidity to the financial crisis and attribute the fall in spread to peers. In other words, before the crisis SAMBA had the highest spread among Saudi banks under our coverage thus the number after the crisis had to drop to be in line with other Saudi banks.

Concluding Thoughts:
Leading GCC stocks today have more bid-ask spread than a few years before thanks to poor liquidity. The bid-ask spread ranges from a low of 0.18% (Industries Qatar) to 1.52% (National Bank of Kuwait). Going forward, as liquidity improves, the bid-ask spread should reduce and may reach levels seen before the financial crisis. Market attractiveness to institutional investors can be significantly increased if liquidity improves and reduces the bid-ask spread.

Tags:  GCC Markets, Oil, Stock Market

Ratings:
 Current rating: 3 (3 ratings)

The Relationship between Oil Price & Kuwait Index-Is it breaking?

Date : 07/04/2010
Author:  M.R. Raghu & Layla Al-Ammar

Sometime back we created this historical chart depicting oil price and Kuwait stock index since 1994. Last time when we checked this in 2008, the relationship showed a historical correlation of more than 90%. A plain look at the chart would also make one feel that they are not two different lines. (see chart)
 
 
However what caught our attention is the recent divergence between oil price and KSE Index.  While the long-term correlation (since 1994) stands at 93%, the last five years correlation is placed at 75%. A simple linear regression model (with oil price as independent variable) based on last five year’s data suggests the following:
 

Oil Price

KSE Index (Expected)

Deviation from Current Index

20

5,607

-26%

30

6,497

-14%

40

7,387

-2%

50

8,278

9%

60

9,168

21%

70

10,058

33%

80

10,949

45%

90

11,839

57%

100

12,729

68%

110

13,619

80%

120

14,510

92%


In other words, the current index (at 7562) is at a discount of nearly 45% given the current oil price of USD80. Alternatively, the current index factors an oil price of only USD40 as against the current oil price of USD80.
 
 
Has something happened to Kuwait market that the strong relationship with oil price is slowly breaking away? Or does this spell a classic market opportunity? If the former is true, then the index will never close the 30% gap. If the latter is true, a USD100 oil price would mean an index level of 12,729 (68% higher from the current level). If the current index factors an oil price of only USD40, the downside risk appears minimal. However, if the 30% gap reflects fundamental structural weakness created by the financial crisis, then we may need more and more oil price to see the index make further moves.
 
In the past a strong and increasing oil price directly resulted in increased liquidity in the banking system passing finally on to end investors in the form of loans/credit. This meant money available for speculation and trading. However, in the current scheme of things a strong oil price will still create liquidity but may not create the same “pass through” effect given the fact that banks have turned more risk averse. It may also be worth noting that there are more negative catalysts than positive ones such as the corporate issues (Agility, Investment Dar, Global, Zain etc) in addition to the regulatory/political climate which have negative implications on investor sentiment. Also, lack of transparency is an issue raising negative investor sentiment. The market always had weak transparency but investors tend to care about it less in “good times” and given that the last couple of years have been bad, lack of transparency has been more of a negative catalyst than usual Hence, in our assessment, the discount is here to stay though the extent (30%) can be debated. So pray for more oil price. 

Tags:  KSE, Oil

Ratings:
 Current rating: 3.3 (3 ratings)
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