While global financial markets are on a meltdown thanks to sub-prime induced liquidity crisis, Gulf Co-Operation Council (GCC) stock markets may provide the necessary “lifeboat” opportunity to global and emerging market investors according to a recent report released by Kuwait Financial Center S.A.K. (Markaz). Propelled by ever-increasing oil price, the macro economic picture for the region has never been better. The copious flow of revenues since 2002 is triggering a major investment boom estimated at over $1.5 trillion. The oil wealth is resulting in continuous out performance of GCC companies helped by strong demand.
M.R. Raghu, Head of Research and Amrith Mukkamala, Research Analyst expects that that GCC stock market will average a return of about 20% for 2008. While this may seem modest given the return of 36% in 2007, nevertheless there is more of an upside risk to this estimate than downside (Table: 1). The forecast model is built on earnings expectations (through bottoms-up company research) and valuation focus. The report estimates earnings to grow by about 30% during 2008. Of this, Kuwait and Qatar is expected to lead the earnings growth of 42% and 30% respectively. Table: 1 - Market Outlook 2008 Market 2007 End Index Expected Earnings Growth 2008 Target PE(x) 2007 Earnings 2008 End Index Target Upside /Downside (%) Saudi Arabia 11,176 15% 22 11,842 6% UAE 6,303 28% 22 9,007 43% Kuwait 12,559 42% 18 16,310 30% Qatar 9,639 39% 23 11,645 21% Oman 9,092 22% 20 10,341 14% Bahrain 2,682 24% 14 4,061 51% Average 29% 20 21% Source: Markaz Research Valuation will certainly be a concern since some of the markets (like Saudi Arabia) have experienced steep run up in recent months. However, they are certainly not at the peak levels that were witnessed during 2005. From here, the report expects overall valuation (represented by P/E) to contract by a marginal 1%. On the whole, Bahrain provides the best upside though it is a small market in relative terms. While UAE, Kuwait and Qatar provide good upside, Saudi Arabia may see a year of consolidation. Stock Market Performance in 2007 All the GCC markets posted positive performance in 2007. The gainers were led by Oman (62%) with Bahrain lagging (20%). Saudi Arabia performance is quite interesting. Till September, the year-to-date return in 2007 on the TASI (Saudi Index) stood at -1%. However, in the last quarter of 2007, the Saudi market gained 43%, thereby recovering 85% of the losses suffered in 2006 (-50%). Of this, the month of December alone witnessed the TASI posting its largest monthly gain ever at 18.08%. Activity The total volume traded in GCC increased by 68% during 2007 to 246 Bn shares. UAE and Kuwait posted the highest increase at 118% and 87% respectively. Kuwait, which had lower volume traded as compared to Saudi Arabia in 2006, witnessed its volume reach 70 Bn shares in 2007. UAE, which has two bourses (Abu Dhabi &Dubai), witnessed aggregate volume increase to 111 Bn shares in 2007 as compared to 51 Bn shares in 2006. The aggregate value traded in the GCC markets declined by 40% to USD 962 Bn as compared to USD 1.60 Trillion. The decline in the value traded can be primarily attributed to Saudi Arabia, which witnessed a 52% decline in the value traded on its bourses. Saudi Arabia constituted 87% of the total value traded in the GCC in 2006, however, this contribution reduced to 71% in 2008. Kuwait and Oman witnessed the highest increase in value traded among the GCC markets. Among these, Kuwait’s increase (114%) is of greater significance as it forms 14% of the value traded in 2008 as compared to 1% contribution by Oman. IPO Action 38 new companies forayed into GCC stock markets during 2007 compared to 26 in 2006. Of these, 68% of the listings took place in Saudi Arabia. Saudi Arabia, witnessed 26 new companies getting listed on its bourses in 2007, most of them being insurance companies. Oversubscription rates continue to decline on a GCC wide basis. Significant declines can be seen in Saudi Arabia and UAE. Saudi Arabia over subscription rate at 5x for 2007 is substantially less than 88x in 2004. In the UAE too, average oversubscription rates, which climbed from 184x in 2005 to 222x in 2006, witnessed a remarkable decline to 57x in 2007. IPO’s continue to provide high listing gains in the GCC region with the average day one gains in GCC at 148%. However, this rate has declined from 355% in 2005 and 209% in 2006. Blue chips Table: 2 - Blue Chip Outlook Company 2007 End Market Cap (USD Mn) 2007 End Price (LC*) Expected Earnings Growth 2008 Expected PE (x) 2008 End Target Price (LC*) Upside/ Downside (%) Saudi Arabia SABIC 132,508 198.50 32% 25 263.46 33% Al Rajhi Bank 47,823 130.25 15% 24 147.31 13% STC 43,681 83.75 7% 13 91.92 10% Samba Financial Group 29,644 180.00 16% 18 175.21 -3% Saudi Electricity 18,034 15.00 5% 53 17.31 15% UAE ETISALAT 31,245 23.40 21% 20 29.59 26% Emaar Properties 22,572 14.80 27% 14 19.80 34% NBAD 10,005 22.95 17% 16 25.11 9% Mashreqbank 9,440 308.00 17% 16 254.47 -17% Dubai Islamic Bank 8,684 11.05 37% 20 14.99 36% Kuwait Zain 25,896 3.82 37% 19 4.32 13% Kuwait Finance House 17,651 2.88 36% 21 2.67 -7% National Bank of Kuwait 17,578 2.06 8% 16 1.90 -8% NIG 6,691 1.66 52% 11 2.06 24% Gulf Bank 6,813 1.72 8% 15 1.62 -6% Qatar Industries Qatar 21,568 156 30% 21 193.1 24% Qatar National Bank 9,872 222 29% 18 292.5 32% Commercial Bank of Qatar 6,893 180 40% 17 151.8 -15% Qatar Telecom 6,594 236 36% 16 374.4 59% Qatar Islamic Bank 4,974 154 40% 20 241.9 57% Oman Bank Muscat 4,525 1.9 33% 18 1.59 -16% Bahrain Ahli United Bank 4,227 1.34 2% 21 1.40 4% Bahrain Telecom 3,130 0.99 -4% 13 0.98 -1% Source: Markaz Research * Local Currency The expectation on performance among the blue chips in each country differs widely (Table: 2). Therefore, it may be difficult to adopt “once size fits all” approach to investment strategy in 2008. In Saudi Arabia, in order to out perform the TASI index it is recommended to stick with heavy weights. The report expects Saudi Arabian index to return a modest 6% in 2008, whereas some of the heavy weights such as SABIC and Saudi Electricity are expected to return 33% and 15% respectively. SABIC’s return may be lower compared to 90% return achieved during 2007. This is mainly due to less room for PE expansion. The returns are expected mainly to be driven by an expected earnings growth of 32% and a very minimal PE expansion of 0.42%. The 2007 net income growth has been at 32%, which is considerably higher than the 6% net income growth recorded in 2006. Apart from this, in 2007, the company acquired GE Plastics, which is expected to form a significant part of its growth strategy in 2008. Unlike Saudi Arabia, where expected returns are more concentrated among heavy weights, the top five companies in Kuwait are expected to provide a weighted return of 13% as compared to the expected return from the Kuwait market at 30%. Zain, the largest capitalized stock in Kuwait, may see strong earnings growth. But the stock may witness some P/E contraction thus providing subdued potential on the upside. Kuwait Finance House (KFH), while may continue to witness robust earnings growth may see some downside primarily due to valuation excesses. Banks (NBK and Gulf Bank) may have a placid year due to lower potential on both earnings growth and valuation. In UAE, except for Mashreq Bank that may experience some P/E contraction other frontline stocks are posed to post good upside backed by strong earnings growth. In Qatar, Q-Tel is expected to provide significant gains in 2008. The stock had provided a meager 4% return in 2007. Going forward the report expects both earnings growth and PE expansion to provide the necessary trigger for an expected 59% return. Q-Tel had witnessed a 600% jump in its subscriber base mainly due to various acquisitions in 2007. The report expects this to yield returns by way of earnings growth in 2008. For the year 2007, Q-Tel is expected to post muted earnings growth of 3% and we expect the earnings to expand by 36% in 2008. Apart from this, among the comparable universe of telecom players in the GCC, Q-Tel continues to quote at attractive valuation of 14x 2006 earnings and 13.7x 2007 earnings respectively. The report expects a PE expansion of 16% in 2008. GCC Economy Growth: The GCC nominal GDP is expected to witness an expansion of 14% in 2008 as compared to 11% in 2007 aided by, among other factors, favorable business climate, sustained domestic consumption and rising oil prices. Given the oil dependency of GCC economies, nominal GDP is a better proxy for measuring growth than real GDP. Both Non-oil GDP and Oil GDP are expected to grow at a similar pace of 14% in 2008. Among the six GCC countries, Qatar is expected to post the highest growth in Oil GDP in 2008. The Oil GDP growth in Qatar is fuelled by increasing sales of LNG. Even though, the crude oil production is expected to post a stable growth rate of 3% to 0.89 Mn Bbls per day from 0.86 Mn Bbls per day, the growth is expected to be high on the gas production. Gas production is expected to touch 1.3 Bn oil equivalent Bbls per day as compared to 0.97 Mn Bbls per day in 2007, representing a 34% growth in production of gas. On the non-oil GDP, UAE is expected to post the highest growth of 21% in 2008 to USD 218 Bn. UAE is also expected to grow at the fastest pace in 2008 among all the other GCC countries. Non-oil nominal GDP growth has been averaging at 16% for the period 2002-2006 and is expected to go up to 21% in 2008. In 2008, country’s nominal GDP is expected to increase by 16% from $188 billion to $218 billion mainly on the back of growth in sectors like manufacturing, construction, financial services and tourism. Oil GDP growth is expected to be at just 6.3% due to capacity constraints in oil output. Kuwait is expected to lag the growth tables by posting a Nominal GDP growth of 6% to $116 billion mainly on the back of growth in non-oil GDP. Oil GDP growth is expected to be mute at just 2.4%, in line with similar levels witnessed in 2006. This is due to expectation that oil price may not spike too high from the current high levels. The days of extraordinary growth may be over. E.g., nominal GDP grew by an average of 27% p.a. between 2003 and 2006. Fiscal Situation: The aggregate fiscal surplus of the GCC region is expected to reach USD 162 Bn in 2008, the highest ever in the history of the GCC region. This growth in fiscal surplus can be mainly attributed to the expected 14% expansion in Saudi Arabia. The government of Saudi Arabia derives more than 90% of its total revenues from oil. With the oil prices likely to remain strong, Saudi Arabia is expected to have fiscal surplus in 2008 of about $60 bn. Government revenues are expected to increase 12% to $192 bn in 2008. However, the government expenditures are expected to increase 15% in 2008 to $134 bn compared to 12% increase in 2007. In terms of speed of growth in fiscal surpluses, Qatar is expected to lead the pack with an 88% increase in fiscal surpluses to USD 8 Bn, highest surplus in recent history. Total revenues are expected to register a growth of nearly 22% to $ 29.32 billion, thanks to oil revenue growth of nearly 28%. Oil revenues constitute nearly 75% of total revenues. Expenditure at $21.47 billion is expected to increase by 8%. Current Account: The aggregate GCC current account surplus is expected to grow at a rate of 16% to reach USD 212 Bn, the highest ever in GCC. The growth can be mainly attributed to Saudi Arabia and Qatar. Saudi Arabian current account surplus forms 42% of the total current account surplus of the region and is expected to record a growth of 14%. On the other hand, even though the contribution of surplus by Qatar to the region is low at 8%, its high growth of 58% is expected to provide a beneficial impact to the overall growth rate. Saudi Arabia’s current account surplus is expected to reach $90 billion in 2008. The increase in current account surplus can be primarily attributed to anticipated increase in oil exports, which are likely to increase 13% in 2008, and higher income receipts. However, the current account balance as a percentage of GDP is expected to remain flat at 22% in 2008. Qatar has been averaging a more than 20% current account surplus to GDP since 2000. However, 2006 and 2007 witnessed a dip to 18% and 16.8% respectively. This has been mainly due to increase in imports. CY06 and CY07 witnessed the imports increase by 59% and 15% respectively. However, current account surplus as a percentage of GDP is expected to widen again to 24% on the back of enhanced exports as well as receipts from investment income. Inflation: Inflation started to witness a rise in the GCC region from 2005 onwards and is continuing to touch new peaks. For 2008E, UAE is expected to top the GCC countries with an YoY change in inflation at 10%. The inflation for 2006 was 9.3% with the general CPI rising from 121.7 to 133.0. This was mainly due to rise in demand for low and medium-cost housing. This has slowly inched up to about 9.8% for 2007. The high growth in the economy has increased the inflation rates in Qatar to historic highs. The official data for the 1Q07 shows that the inflation rates breached the 15% mark for the first time. The fall in Qatari Riyal (which is pegged against the USD) resulted in the imports becoming costlier. Coupled with this, excess demand as compared to low supply in housing had also impacted the rental rates negatively. For the rest of the GCC, Inflation is likely to moderate between 3% and 4.5%. Interest Rates: GCC countries and their pegs to the USD (Ex-Kuwait) have resulted in the short-term interest rates closely following that of the US interest rates. However, the spreads widened in 2007 with some of the spreads falling by more than 2%. ### About Markaz Kuwait Financial Centre S.A.K. 'Markaz', with total assets under management of over KD1.21 billion as of March 31, 2007, was established in 1974 has become one of the leading asset management and investment banking institutions in the Arabian Gulf Region. Markaz was listed on the Kuwait Stock Exchange (KSE) in 1997; and was awarded a BBB+ corporate rating by Capital Intelligence Ltd.