Are UAE equities close to the top of this market rally? It is hard to disagree that the economic outlook for the UAE, inflation apart, is excellent for 2008. Also the 2007 annual financial results from the major quoted companies should be very good.
But we all know this, so is it not already reflected in the share prices of local companies that have been on a roll since last October, and have sprinted ahead to the extent that the markets have fully recovered from the crash of 2006?
In short, have we not just seen a tremendous rally? And if the move to the upside has been spectacular what does that say about the downside risk from this point forward?
Is it worth risking capital in a market that may have a limited upside and has so recently demonstrated a capacity to crash? It is probably all a matter of your time horizon.
For the short-term investor, and there are still quite a lot of them in the Emirates’ stock markets, there is a risk of being caught out by a sudden change of market sentiment: caused perhaps by contagion from a crash on Wall Street or a sudden slump in oil prices because of a United States recession.
Longer term investors could look to ride out the volatility of the cycle, and possibly reason that Middle East investors would likely reject Wall Street in favour of investment in local assets during a US recession. Moreover, the interest rate reductions likely to follow a US equity correction would boost local real estate and make UAE equity dividends more attractive.
There is also a good argument that UAE government spending would hold up well whatever happens to the global economy because local coffers are overflowing with liquidity after a six-year oil price boom. Hence the relative performance of local stocks and real estate would be significantly better and more reliable than assets overseas.
But it could still be a very volatile year for capital markets in the Emirates. At present expectations for the year ahead are sky-high and this optimism could be burst by events overseas over which the nation has little control.
It is notable that oil prices have already retreated from the magic $100 level, which appears to have been established by a single rogue trader. The miserable data on US jobs issued last Friday and the news that Singapore posted negative growth in the fourth quarter of last year has highlighted the fact that the world economy is slowing down.
Even the incident between the US navy and Iranian Revolutionary Guard patrol boats last weekend failed to stop oil prices from weakening. However, it is clear a more serious clash would provoke a sharp upturn in oil prices, and that there are numerous other geopolitical flashpoints which could reignite oil prices at any time.
Oil price strength can, therefore, not be relied upon to support the UAE equity market which has ridden high, at least in part, on the rally in oil prices to record inflation-adjusted levels. And given that oil prices are coming off a record high then this might well be expected to mark an important turning point for the UAE equities, which have tracked the oil price upwards.
On the other hand, while local stocks could well show volatility and retrace from the current rally to some degree, the oil price is also a reason for long term optimism about the outlook for local stock market investors.
In a world of tight oil and gas supplies – with some big fields having peaked in output and replacements slow to come on stream – then any set back in demand can only be temporary, and the fire beneath prices will not be dimmed for long.
If UAE stock markets have advanced positively on the road to $100-a-barrel oil, then imagine how high they could soar if $200 or $300-a-barrel was in prospect. This is perhaps the rationale behind the long term institutional investors from overseas who have been big buyers of UAE equities in this rally. Or at least it is to be hoped this is their view and that they are not just hot-money looking for a quick profit and exit.
In practice, emerging market stock markets in particular, and stock markets in general move up and down with changing investor sentiment. Today sentiment is very positive and so the UAE bourses are strong but the clouds on the global horizon give reason enough to be cautious about the immediate outlook.