The Middle East is a well-established routine milk run for international managers of funds and sophisticated financial vehicles. Investable wealth and a regional community of high net worth individuals made for attractions that representatives of international investment houses would eagerly compete for.
Of course, gallant Arab investors have for many years been welcomed also as holders of corporate stakes, be it as buyers into European car makers and chemicals manufacturers in the 1970s, or as rescuers of ventures in distress, such as Paris Disney or Citigroup in the 1990s. In this sense, new international acquisitions by state-backed Arab entities and sovereign wealth funds — one of the most recent being the takeover of 51.4% of New York-based Och-Ziff Capital Management by Dubai International Capital — continue a successful tradition.
Stock markets in the Gulf region and North Africa did not appear to be fully transparent and, until a few years ago, were largely underpowered. Legal regulations on foreign investments were prohibitive in some markets, dubious in others. Foreign funds operators had little expertise and market information was tough to come by, not to speak of other barriers to entry.
Nowadays, however, with economic burdens hanging over the US and other developed markets and investors in search of new safe havens, investments into the Middle East have growing appeal for hedge fund managers based in London and, one suspects, places like Geneva and New York. Executive learned from managers of two major hedge fund groups in London that they are quite bullish on the region which is increasingly covered under Europe, Middle East, and Africa (EMEA) funds.
The Middle East: a natural hedge
The emerging market fund house Baring Asset Management, which manages around $4 billion in EMEA equities both long only and alternatives, has been active in Middle Eastern markets and set up its hedge fund in November 2005. Paul Graham, director in Baring’s alternative business, is very positive on the region’s stock markets, whose performance during the fourth quarter of 2007 he found compelling. “In the third quarter of 2007, Gulf countries put in some very strong returns (when global equity markets were really struggling) so in that sense they are a great hedge. Their intra-correlations remain quite low, particularly when compared to other emerging markets in the EMEA universe where correlations to developed markets have become disturbingly high; the Gulf states have decoupled as it were.”
Graham considers the Middle East very much to be a burgeoning market but still at the very early stages of development. “In five years time, the markets will have changed but it’s a slow process — they’re very deliberate and very slow,” he said.
While this development is important and should not be rushed, it leaves little in the way of current trading opportunities. “The EMEA focused hedge fund environment is still a growing universe and the derivative instruments in these markets are very shallow,” Graham said. “The Baring EMEA Absolute Return Fund takes exposure on an opportunistic basis because quite frankly we can only take exposure to the blue chip names in the more developed markets like Kuwait, UAE, Qatar, Bahrain and Saudi [Arabia].”
Kuwaiti financial services lure hedge funds
Other more nimble hedge fund managers are attracted to the region from an investment perspective and not just as a hedge. Marina Akopian, co-fund manager at Hexam’s EMEA Absolute Return hedge fund that is part of the massive Resolution Asset Management, is very bullish on the region this year. “For us, if you’re talking relative to other markets it’s a clear overweight this year with very strong fundamental reasons attached — oil prices will remain high, strong economic growth will continue and although the region is facing challenges to diversify we think they’re doing it quite well,” she said. Hexam EMEA Absolute Return Fund was set up in August 2006 and is a 50/50 joint venture between Resolution Asset Management and six fund managers headed by Akopian. Currently it manages $25 million and allocates 12% of its fund to the Middle East.
The country exhibiting the strongest GDP growth in 2007 was Qatar (14.2%) and is strongly favored by Akopian, but she also sees opportunities in Kuwait. GDP growth in these countries is translating into the domestic economy. It is a very similar story to what has been seen in Russia recently: the transfer of oil revenues into a domestic consumption and infrastructure boom which will benefit stocks in financial services, construction and telecoms.
And it is perhaps the financial stocks that are most attractive to Akopian but only in certain countries in the Middle East. This year she sees more opportunities in Qatar and Kuwait than in the likes of Lebanon and Jordan. As she explained, “It’s more of a bottom up approach translated into the companies I can find on the stock market. Although GDP growth in Jordan is very healthy (6% in 2007) and things are stabilizing on the economic front, bottom up I don’t see the same interesting companies I can see in Kuwait.”
Of those opportunities in Kuwait Akopian is most drawn to financial services, since a large part of the credit facilities that Kuwaiti residents use are going into this sector, like consumer loans and the purchase of securities.
The outlook, however, is not entirely positive. As Gulf markets have been plagued by inflationary pressures which many Western analysts do not see going away any time soon, currency pegs and interest rate decisions by central banks in the region are on the watch list. Also of note, Arab stock markets last month appeared to be less uncoupled from international trends than desirable from a pure hedge point of view.
There is no question that the interest of hedge funds and asset managers has been awakened by strong developments in Kuwait and other countries with increasing economic diversification. According to a report published by Cerulli Associates, total managed assets in the Middle East at the end of 2007 amounted to more than $1.6 billion. The report focused on Saudi Arabia, Kuwait, Bahrain, Qatar, Oman, the UAE and Egypt. Most notable in the report was its forecast for mutual fund growth, which it predicted to expand by $100 billion in five years to $200 billion. Hedge funds are not the ones to miss an opportunity and their interest will be roused further when see more diversified and deeper markets in which to trade.