Despite some corporate performance soft spots and pockets of socioeconomic discontent, the Gulf economies are a good bet for investors this year, and into the future. High oil prices conjoined with high levels of oil and gas extraction was the formula that kept national wealth in the Gulf region bubbling in the first nine months of 2012, says new research by financial services multinational, Barclays.
While the probability of an economic union of the Gulf Cooperation Council (GCC) countries in the near to midterm is next to nil in her assessment, Barclays’ economist and research director Alia Moubayed is positive on the outlook for the region in 2013, albeit with some caveats for individual countries. “We are largely bearers of good news, because our outlook for the region remains very positive,” Moubayed said. “Our recommendation for investors is basically to remain engaged in the region.”
Its emerging-markets research team expects growth of gross domestic products in the six-member GCC to range from 3.8 to 8.0 percent in 2012 for individual countries and clock in at 5.6 percent for the economic bloc. Although this represents a drop from the 7.2 percent growth in GCC GDP that Barclays cited for 2011, this expectation for 2012 is higher than the bloc’s 5.1 percent growth that was recently forecast by Emirates NBD, according to a report in Gulf News. This endorsement for the region is driven firstly by Barclays’ view, asserting strong global liquidity and general support from central banks for flows of this liquidity into emerging-market assets.
“We are recommending to our investors that they move down the risk spectrum and chase higher yields,” Moubayed said. In this context, the Middle East and North Africa region offers “a good combination of assets where you have strong fundamentals but also high yields, making these assets attractive from a risk-reward perspective.”
A nuanced view on growth
The factors that will determine the economic outlooks and attractiveness of the various investment opportunities around the region are well-established constants that have been the region’s blessings and banes for many years. They are, besides oil prices, government spending, balancing of oil and non-oil economic growth and political risk.
In 2013, GCC-wide GDP growth will slow to 3.9 percent, forecasts Barclays’ latest research publication under Moubayed’s purview, “The GCC Handbook 2012”. However, the rates and speed of economic development will be quite diverse, creating performance and investment pictures that vary from country to country. In terms of real GDP, Barclays sees Qatar as the growth leader in 2013 with 4.5 percent, followed by Saudi Arabia (4.2), Oman (3.9), Bahrain (3.5), the UAE (3.2) and Kuwait (3.0).
Barclays’ views and forecasts on the GCC and individual member countries differ from the latest World Economic Outlook figures, published last month by the International Monetary Fund (IMF). The IMF document, which groups the GCC with the region’s other oil-producing nations, does not provide a GDP forecast for the bloc. For individual countries, the IMF projections for 2013 for real GDP growth in Qatar are higher than those of Barclays but the IMF projections for Kuwait and the UAE are lower than the Barclays forecasts by 1.1 and 0.6 percentage points, which is not insignificant. More interesting than the numerical forecasts, which have the tendency to fade from memory as readily as tea-leaf divinations on love and fortune, are Barclays’ views on how the different GCC countries will handle their strategies and what challenges they will face in managing the constants.
The oil snake and the non-oil tree
The paradisiacal wealth provided to GCC states by their hydrocarbon exports has long had the downside possibility of choking non-oil economic growth. The handbook sees the interplay of oil and non-oil economic expansions at the current juncture as determined by a sharp impending drop in hydrocarbons-based growth to less than half a percent year on year in 2013.
Oil prices are not the problem. According to Barclays’ assessment, 2013 will see an average oil price of $125 per barrel (Brent), up from $113 forecasted for 2012. With Iran largely out of the provider picture, oil market dynamics will be producer friendly.
The recent past provided the GCC with year-on-year hydrocarbon growth rates of 7.4 percent (2011) and an estimated 4.5 percent this year, yet production capacity limitations and relative oil price stability, even at high levels, mean that no growth is on the books for next year.
The resulting challenge will be “to encourage and sustain higher rates of growth in the non-oil sectors in the coming period”, the handbook said, specifically citing the great importance of non-oil growth for reducing unemployment.
The supply and demand balance for Liquefied Natural Gas (LNG) will next year be “extremely supportive of prices”, said Moubayed. Yet LNG giant Qatar needs, in Barclays’ view, to prepare itself for challenging gas price-plays not in the short term but beyond 2014, as gasification projects in Eastern Med and Australia and other game changers to the price dynamics are throwing their shadows ahead. “In the medium term, supply-demand dynamics in LNG could become more challenging for Qatar,” Moubayed said.
Big spenders and big cash burners
While public sector spending will continue at significant levels in Saudi Arabia and Qatar, and be elevated in Oman and Kuwait, Barclays expects less in the United Arab Emirates, where Moubayed sees significance in Abu Dhabi’s desire to rationalize spending.
This desire appears to be rooted in the early days of the economic crisis a few years back when Abu Dhabi was spending more in terms of share in GDP on stimulus measures than all it’s peers in the Gulf. This stimulus support was directed mainly to the corporate space but as of late, revision of large projects and rationalization of spending in Abu Dhabi may be linked to uncomfortable numbers from the state-affiliated corporate space.
State-affiliated issuers of corporate bonds in the wealthiest emirate of the UAE are not looking too enticing when one examines their ability to churn out revenues. Over the four years 2008-11, and for five major corporate bond issuers in Abu Dhabi, “we estimate negative cash generation of $62 billion,” the handbook noted.
Domestic issues that pose challenges in Kuwait and Bahrain have a more political bent. The more it immerses itself in political bickering, the less likely will Kuwait be able to make progress in implementing its development plan and it could also “put some of the gains at risk that the Kuwaitis made recently in terms of improving the cleanup of balance sheets and through improved fiscal discipline they have made to keep better savings for future generations,” Moubayed said.
For Bahrain, she sees a “mixed picture” where recent return to growth is juxtaposed with nervousness over inability to reach political reconciliation. Plus, Barclays’ expectation for a balanced budget in Bahrain was put in question by her visit to Manama last month. “It seems that the budget could be much higher and the deficit not be balanced at all,” she said, with a 3 to 4 percent deficit a possibility.
The tipping point: political risk
As Moubayed confirmed, geopolitics is the most important element in assessing the Middle East’s differentiated investment potentials with meaningful accuracy. According to her, the impact of geopolitics on the investment climate is twofold. On one hand, the obvious geopolitical risks of the reality have to be weighed in valuation of any investment proposition related to the region. On the other hand, the perception of high risk is anchored deeply in the minds of investors, making this a driver of decisions with a possible propensity to override the very strong economic fundamentals in the GCC that speak for investments in the region.
The complexity of geopolitical risk in the region means that the actual dangers de jour are anything but easy to spot and at the same time, tough to do analytical justice to. “Our view is that the chances for an imminent confrontation have receded considerably, at least in terms of a unilateral attack by Israel on Iran,” Moubayed said. The handbook addresses the possibility of a conflict over Iran’s nuclear program but that is not the full picture. “We have moved beyond this binary approach to geopolitical analysis to a much more complicated web of interrelated risks spanning from Syria to Iran to Iraq,” she elaborated.
For investors, this requires another round of highly nuanced thinking. “As geopolitical risk is likely to come back to haunt us very soon, people will start differentiating among risks between issuers and corporates and banks. This is why we think that, for example, corporate issuers with greater exposure to oil and gas and infrastructure will be more risky. Corporate issuers with greater refinancing needs could also be perceived as riskier, should there be capital flight from the region, or the shying away of capital inflows.”
Peeking at some of the company-level views in the handbook, a notable recommendation in the analysts’ view is Dubai Holding Commercial Operations Group (DHCOG), one of the economic crown jewels of Dubai ruler Sheikh Mohammed bin Rashid al Maktoum. DHCOG is a favorite of the Barclays equity team from a risk/return perspective because of successes in the restructuring of its Dubai Holding parent and its engagement with hospitality, property and trade, sectors that are seen as drivers of Dubai’s growth. Moubayed said, “The whole Dubai corporate space remains our top pick because the triple-B rated corporates are high-yielding at current levels.”
Mall developer Majd Al Futtaim is Barclays’ top pick among BBB-rated corporate issuers in Dubai.
A read through the handbook with a mind to inquire about the more long-term prospects for the GCC, the volume’s depiction of differentiated investment profiles and political approaches makes the idea that the GCC could become a better economic and monetary union in the short term look exceedingly fanciful. When asked about it, the Barclays economist put her optimism on infrastructure as a facilitator, much more than on politics. The GCC-wide infrastructure projects on rail, power grid and road network improvements, she opined, could be “a good entry toward convincing politicians and local constituencies of a stronger economic union between the countries.”
