|By Arjuna Mahendran|The GCC stock and bond markets remain a safe haven to investors, underpinned by solid fundamentals. The Expo 2020, MSCI inclusion of the UAE and Qatari markets in the emerging market (EM) category, infrastructure spending across countries – the GCC Railway project to mention one – the revival of trade, tourism and real estate – as tensions in Egypt, Syria and Iran subside somewhat – are further fuelling momentum in the GCC macro trends.
Although we continue to like regional equities, we currently see more value in Saudi, Kuwait and Qatar, which are trading at an average discount of more than 20% to the UAE market. This was led higher for the week by Dubai’s DFM, once again the best performing regional benchmark (+4.3%) boosted by construction and real estate stocks.
In the UAE the construction sector (+10.4%) was the best performing, led by Arabtec (+13.6%) and Drake & Skull (+11.0%). Arabtec announced it had signed an agreeement with Aabar Properties to build 37 residential and hotel towers in Abu Dhabi for AED 22.44bn. In the GCC the petrochemicals sector (-0.3%) performed worst, led by Industries Qatar, -3.8%, and Sabic, -3.0%, on concerns that the slowdown in China can impact demand and prices for petrochemicals products.
According to consensus estimates the industrial sector in the GCC – 11.7x PE 2014, profit growth 2014 of 44% – has the largest upside (+5.4%), whereas the construction sector – 20.7x PE 2014, profit growth 2014 of 13.9% – has the biggest downside potential (-14.5%).
Emaar Properties was upgraded from junk to investment grade status by S&P, triggering a 6.5% rally in the stock for the week. Analysts upgraded equity target prices – as it has been the case for the last 2 months – to a consensus estimate of above 9 AED.
In the fixed income space a downgrade of Ooredooo (Qatar Telecom) by S&P from A to A- had no material impact, as the region still sees strong bond demand on lack of new issuance. We continue to prefer high grade and investment grade credits within the GCC – UAE, KSA and Qatar – of 5 to 7 year maturities.
Outside the region markets continue to be volatile. Non-GCC emerging markets are still turbulent – Turkey’s outlook was downgraded to negative from stable by S&P and Moody’s downgraded Ukraine’s Sovereign to Caa2 (outlook negative). January US and UK macro data are pointing to a slowdown versus elevated Q4 numbers, while some deflationary pressures are surfacing in Europe. For now we can blame this on adverse weather.
Uncertainty could be compounded by Federal Reserve Chairwoman Janet Yellen’s first Testimony before Congress next week. Ms. Yellen famously defended the need to keep loose monetary policy in her confirmation hearings before the US Congress in Nov. 2013, and then went on to surprise markets in Dec 2013 when the Fed announced its intent to commence the ‘tapering’ of its quantitative easing program.
We think that in relative terms investing in DM risky assets – US and Japan – is a safer proposition than catching a falling knife in the EM space. The slowdown in DM appears to be temporary and it will be key on this front that US data – especially labor numbers – pick up after the late aberrations caused by the harsh weather in December.
With a rebound in the latest sessions, broader credit markets strengthened outperforming sovereign bonds. However, near term volatility still resides as investors and fund managers keep a close eye on global macro data. US 10 year strengthened to 2.68% on Friday close after US payroll data.
New issuances have emerged once again, Slovenia, Slovakia, Bulgaria, and Pakistan all looking to tap debt markets. In the region, Dubai investment park is road showing for a debut sukuk sale and Sberbank (Savings bank of Russia) is looking to tap new style Tier 2 notes as Russian banks prepare to improve capital for Basel 3.
US high-yielding bonds – although looking relatively expensive – could eventually grind tighter on the back of low default rates and staggering amounts of cash on US corporate balance sheets. Given low DM inflation rates, forthcoming EM elections and unabated volatility in this space, further US treasury strength cannot be ruled out. We advise a very cautious stance in EM: we see value in South Korean credit and in Mexico – the latter for moderate risk profiles only.
Oil prices – Brent – added 3 % during the week, sustained by a decline in crude production in Libya, where output fell to between 450,000 and 500,000 barrels a day from 600,000 barrels the previous week, as protestors tampered with pipelines. WTI prices were sustained as well, due to harsh weather conditions in the US and to the release of weaker jobs data, triggering speculation of renewed stimulus discussion being on the table.
Arjuna Mahendran is Chief Investment Officer, ENBD
