(MENAFN- Khaleej Times) The game-changing addition of Saudi Arabia, the largest Arab economy, to global index compiler MSCI's emerging markets benchmark will act as a pivotal catalyst for the GCC stock markets, and could help attract $40 billion in foreign inflows into the kingdom.
The milestone decision, announced late on Wednesday, is the second key development for the Saudi bourse known as Tadawul - the largest Arab stock market with capitalisation of over $525 billion - after the global FTSE Russel index granted it secondary emerging market status in March.
From the GCC, the UAE and Qatari bourses are already included in MSCI, which has more than $1.9 trillion in assets benchmarked to its group of emerging markets indexes. The index will reclassify Saudi Arabia with implementation of its indexes starting in June 2019.
Mohammed bin Abdullah Elkuwaiz, chairman of the Saudi Capital Market Authority (CMA), said while fund inflows are expected from both passive and active funds, the MSCI upgrade of Saudi bourse would boost the appeal of oil giant Saudi Aramco's proposed initial public offering.
Elkuwaiz said the Saudi bourse operator and CMA are making sure the necessary framework is in place for the $100 billion Aramco IPO. Saudi Arabia hopes to sell five per cent of the world's largest oil exporter, valuing the company at more than $2 trillion.
Saudi Arabia was added to a watch list for a potential upgrade last year, and will now join nations including China, India, Turkey, South Africa and Brazil. Separately, MSCI said it would upgrade Argentina to the category as well.
"By supporting the inclusion of Saudi Arabia and Argentina in Emerging Markets, international institutional investors confirmed that they are now able and ready to access and operate in these markets," said Sebastien Lieblich, MSCI managing director and global head of equity solutions.
Khalid Al Hussan, CEO of the Tadawul, said MSCI's move has created market capacity to absorb liquidity and will be the main element in feeding new IPOs. The MSCI Saudi Arabia Index will have a weighting of approximately 2.6 per cent in the emerging markets index, with 32 securities, following a two-step inclusion process in May and August next year.
Daniel Salter, analyst at Renaissance Capital, said estimates suggest that Saudi Arabia could account for 2.6 per cent of MSCI EM. "We estimate that MSCI's decision could lead to $3 billion of inflows to Saudi Arabia from passive funds and a potential $10.6 billion of inflows from active funds. "Our research has shown that markets have tended to perform strongly in the run-up to inclusion in the MSCI EM Index."
MSCI also announced that Kuwait will be considered for a reclassification to emerging market in its 2019 Market Classification Review, with the results to come in June 2019. "On our preliminary estimates, Kuwait could account for 0.4 per cent of the EM index [factoring in the inclusion of Saudi Arabia and Argentina]," said Salter.
Anita Yadav, head of fixed income research at Emirates NBD, told Khaleej Times that the inclusion of Saudi equities into the MSCI EM index could trigger passive inflows of $10 billion. "In anticipation of being included in the MSCI emerging market index, Saudi stock market has already seen inflows of over $3.4 billion from foreign institutional investors so far this year. This reflects roughly eight per cent of total inflows into broad emerging market equity funds so far into 2018," she said.
Monica Malik, chief economist at Abu Dhabi Commercial Bank, said from an economic perspective, the inclusion to the MSCI index and FTSE Russell EM index is critical for the Saudi reform and privatisation programme. "The part privatisation of Aramco is vital for boosting the government's forex reserves and GDP growth outlook through higher investment. The upgrade is positive for broadening Saudi Arabia's investor base, particularly institutional investment, which tends to be more stable in nature," Malik told Khaleej Times.
Jameel Ahmad, global head of currency strategy and market research at FXTM, said there isn't a particular sector that would be primed to benefit from Saudi's inclusion into the MSCI Index, but it should support the nation's benchmark stock index as a whole.
"Inclusion into the MSCI Index holds the potential to drive high levels of foreign investment into the stock market. It can also be articulated as a vote of confidence for the Saudi Arabian economy, following a list of different measures that the authorities have taken in recent times to liberalise the market," said Ahmad.
Most analysts, hailing the move as "transformative for the Middle East as an investment destination", said sectors that will attract foreign institutional investors include oil and petrochemicals, mining and cement, motor insurance (as women will soon be allowed to drive), healthcare (on better insurance intensity and privatisation prospects), consumer sector (looks good from an unorganised to organised market share shift brought about by Saudisation), financial services, real estate, utilities, telecoms, logistics and hospitality.
"As of today, foreign investor ownership in the Saudi market is around $9.2 billion, and we expect this ownership to increase until the actual inclusion date. For Saudi Arabia and the region, this is a great opportunity to move into the limelight of international foreign investors, and to attract inflows," stock market pundits said. It is also possible that there will be a positive impact of Saudi inclusion on the broader region given the increased weightage of the overall region in the broader emerging market index, they said.
Analysts at Bank of America Merrill Lynch said another consequence of Saudi's inclusion would likely be "increased market sophistication. "With an increased number of international investors set to participate in the market, we see potential for increased corporate transparency [eg, more detailed disclosure], stronger interaction with investors and growing awareness of GEM peer groups among corporates [thereby enhancing performance]. We believe such factors could be supportive of higher mid-cycle valuations," they said.
Some analysts even predicted that Saudi bourse has a potential to would account for up to 4.4 per cent weightage if the potential Aramco IPO were included.
The MSCI Saudi index currently contains 32 stocks, all listed entities on the Tadawul market, which are likely for inclusion in the MSCI EM index. "We note, the MSCI Saudi index is heavily weighted towards the Saudi banks and materials companies (petrochemicals, mining and cement). Together, these two sectors account for 78 per cent of the MSCI Saudi Index, with telecoms and consumer staples making up a further 13 per cent of the market. Other sectors including utilities, insurance, retail and real estate account for the remainder," Merrill Lynch said.
Analysts expect Tadawul to outperform its GCC peers in the short term. We note that UAE and Qatar equity markets rallied 68 per cent and 48 per cent in the interim period of decision and implementation when they were included in the emerging market index earlier in this decade, analysts said.
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Issac John Associate Business Editor of Khaleej Times, is a well-connected Indian journalist and an economic and financial commentator. He has been in the UAE's mainstream journalism for 35 years, including 23 years with Khaleej Times. A post-graduate in English and graduate in economics, he has won over two dozen awards. Acclaimed for his authentic and insightful analysis of global and regional businesses and economic trends, he is respected for his astute understanding of the local business scene.
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