International institutional investors pumped billions of dollars into UAE stock markets last year, significantly contributing to the 45 per cent increase in Dubai’s index and the 52 per cent rise in Abu Dhabi’s market in 2007. With fears about “hot money” and obstacles such as the restrictions on foreign ownership of companies, the question many are asking is whether this trend will continue in 2008.
Issa Kazim, Chairman of Borse Dubai, said last year’s efforts to market local companies in London and New York have generated a lot of interest from foreign investors. “Our valuations at the time were much lower than any other emerging markets so they saw value in investing in our market.”
Kazim said the larger macro-economic situation in the region gave investors all “the elements to believe in the GCC, and more specifically, UAE markets”.
With more foreign interest in the region’s equities, major international banks are issuing research listed companies in the UAE, a development that Kazim believes is a major factor in attracting fresh capital, and more importantly, liquidity that will stick. “The trend that we are seeing is that the percentage of ownership by Europeans and Americans is continuously increasing. which shows that these investments are going to stay.”
The efforts exerted by Kazim and the Dubai Financial Market in attracting international institutional investors was praised in a report issued by Rasmala this week.
It said the “market has been experiencing heavy inflows and outflows of ‘hot money’, which has been causing high short-term volatility. [But] this is expected to change for the better as long-term mutual fund investors have been courted by the authorities”. From the local brokers’ perspective, foreign investors’ activities have markedly increased in recent months. “The foreign assets that flushed the market have contributed from time to time about a quarter of the volumes on the markets,” Khaled Kurdieh, CEO of Mashreq Securities, said.
But the fear of speculative bets, or “hot money”, persists. While stocks in the region had a good year in 2007, the bitterness of the 2006 crash is still felt by many investors – no one wants to see a rapid flight or shifting of the new capital. But those who are closely observing [and executing] the trading patterns of foreign investors said the majority of new investments are long term. “Foreign institutions that came to our markets to buy into listed companies are not looking for speculation, they are looking for opportunities,” Kurdieh said. He said the majority of investments by major financial services players are restructured and packaged for sale to other investors outside of the region.
The consensus appears to be that the fear of “hot money” is largely overstated and irrational. Albert Momdjian, CEO of Calyon in the Middle East, who recently orchestrated one of the largest FDI deals in the Middle East, the $12.9 billion (Dh47.3bn) acquisition of Orascom Cement by French cement giant Lafarge, said the rise in oil prices is forcing investors to hedge themselves by entering the local stock markets. “With high oil prices, and a recession in the US – or the softening of the economy – investors are looking for other areas of growth.”
Fahd Iqbal, senior analyst at EFG-Hermes, said international institutions are looking at the GCC due to the boom the region is experiencing as a result of the careful reinvestment of proceeds from oil exports and because the “slowdown in the US is less likely to impact the Middle East vis-à-vis regions such as Southeast Asia since the economies here are less export dependent”.
He also said the region’s markets have little foreign penetration and correlation with Western markets, which “creates valuable opportunities for Western fund managers to diversify their returns”. And valuations still remain relatively cheap compared to other emerging market. “Our forecasts put the UAE on 12.3x in 2008 and 9.3x in 2009e P/E.” EFG-Hermes does not see the trend of foreign inflows slowing in 2008. Iqbal said: “It is likely to accelerate given that many international fund managers have launched a number of Middle East-centric funds, which will lead to an increase in the proportion of long-only funds in the UAE.”
DEFENSIVE, OFFENSIVE STRATEGY
Fahmi Alghussein, executive director and head of Mena distribution for equity products at Morgan Stanley, said international investors are pumping fresh capital into the region’s stock market as part of a “defensive, offensive strategy”.
With the perceived decoupling between emerging and developed markets and the strength of hydrocarbon prices “international investors see this as a good defensive strategy, while maintaining an offensive approach to growth in their portfolios”.
Everyone Emirates Business spoke to agreed that increased international institutional investment in the region’s equity markets is a positive development. Kurdieh, from Mashreq, said the previous system where “the same money was recycled between two asset classes (real estate and stocks) without having any inflow from foreign investors” did not help develop the markets.
Explaining the market’s view on the issue, Kazim said “fresh liquidity coming to our market is a mature investment” and “a source of stability”. Of course the rosy outlook for continued attraction of fresh funds has some major obstacles and challenges to overcome.
Other than the oft mentioned political and security situation, foreign investors are facing a more technical barrier – many of the listed securities on UAE markets are nearing the 49 per cent limit for foreign ownership.
Companies such as Shuaa, Arabtec, Aramex, and Aldar Properties have less than 10 per cent of their share registry open to foreign investors (for Arabtec, the percentage of shares available is at 0.07 per cent).
“The fact that these companies are trading at their foreign limits is definitely hindering international investors,” Iqbal from EFG-Hermes said. Kurdieh said the question of foreign ownership is a “political and cultural question”, yet he believes that it is in the interest of local companies to have more flexible shareholding opportunities “that they can offer to everybody equally”, and whoever has the appetite to come in and bid for a stake can do so unimpeded by “regulators or the boards of these companies”.
The problem is not likely to be resolved anytime soon. Companies “cannot go beyond 49 per cent for the time being, and it is a situation that has no quick solution” Kazim said. Borse Dubai’s chairman recommended that newly listed companies should open up to foreign investors to the maximum allowed by law. “We highly encourage them to open their registry.” Regulators have witnessed the benefits of foreign institutions’ participation in the markets and have been in the process of changing some of the laws for some time now. Another obstacle to foreign investment, according to Alghussein, is the “substantial blocks that are still owned in relatively few hands, whether on the public sector side or the family groups”.
While reducing the float criteria is part of the strategy to increase the number of listed companies in the region, Alghussein believes “at one point it will become a hindrance [to growth in foreign institutional investment] unless the free float increases”. Although the legal limits are a hindrance to further investments, it seems the compelling story of the region’s equities is too attractive to pass up, so investors are finding alternative routes to get a piece of the action. “In a conventional sense, most of the listed securities are reaching their foreign ownership limit, however, that does not preclude from transactions conducting on a derivative or synthetic basis,” said Alghussein.
He added: “Shuaa and Arabtec are both compelling stories within a regional play or within a more local Dubai construction story, and if you are foreign investor and you do the numbers and you like the story, you are not going to hinder yourself from buying this synthetically or through a derivative instrument.” Regardless of the obstacles, it appears that the confluence of fundamentals and the cyclical commodities boom will result in more long-term deployment of foreign investments in the markets in 2008.
The fear of speculative bets, or “hot money”, persists. While stocks in the region had a good year in 2007, the bitterness of the 2006 crash is still felt by many investors – no one wants to see a rapid flight or shifting of the new capital. But those who are closely observing [and executing] the trading patterns of foreign investors said the majority of new investments are more long term than short.
Foreign funds into UAE shares not speculative