Saudi companies report mostly strong quarterly earnings; MSCI inclusion for UAE/Qatar on 2 June is good for these equity markets; geopolitical concerns in Ukraine could continue to rattle global markets; slew of positive economic data uplift markets; we still like Palladium
The events in Ukraine have had a limited impact on MENA markets. Despite the Dubai index sliding 1.5%, trading volumes remained healthy. Quarterly corporate earnings results released so far in the Saudi market suggest a stable corporate environment helped by positive quarterly earnings. As the June inclusion of the UAE and Qatar stock indices in the MSCI emerging markets index approaches, we remain constructive on GCC equity and fixed income markets. Palladium, meanwhile, remains our top pick in the commodities arena with the growing likelihood of western sanctions ratcheting up on Russia a strong driver of palladium prices.
UAE and Saudi Purchasing Managers Indices printed 57.7 and 58.6 respectively. This is well above the 50 threshold and indicates continued robust activity levels in local manufacturing and services activity. In Dubai inflation has risen to 2.6% for Q1 2014 vs 0.2% in Q1 2013. While this is a reflection of strong economic momentum it also indicates frothiness in the household rental sector and could prompt further cooling measures from the government
The Expo 2020 and FIFA World Cup would lead to infrastructure build in the UAE and Qatar, whilst tourism and trade continue to keep the UAE economy growing. The national carriers continue to expand and new rail and airport projects are planned. Market returns here do not bear the risk of currency fluctuations as the AED and QAR are pegged to the US Dollar, which will appreciate against other major currencies as US interest rates climb next year. We would therefore stay invested in GCC equity markets.
The regional petrochemical sector was mixed with SABIC earnings higher on the quarter, however lower year-on-year on the back of lower product prices. Our view on SABIC remains positive, as it can be viewed as a proxy for global recovery and a key player in M&A activity across the global chemicals space. Yansab and SAFCO too had improved quarterly earnings and offer attractive dividend yields.
In the Saudi banking sector, NCB and Samba led with stellar results offset by Al Rajhi which had a drop in earnings on account of higher provisioning. In the consumer space Savola, Budget and Catering have had good earnings growth, reiterating the Saudi retail story. Growth in loans, deposits and revenues surprised positively for Qatari banks (QIB and QNB) and valuations remain reasonable, and we maintain our favourable outlook on the Qatari banking sector.
As June approaches the MSCI EMEA (full market cap USD 680bn) and MSCI EM (full market cap USD 3.9tn) indices, will include select stocks from the UAE and Qatar based on liquidity, market cap and foreign ownership limits. Expectations are 17 stocks will enter the benchmark MSCI EMEA (9 Qatar, 8 UAE), with UAE c.3.6% and Qatar c. 3% of the MSCI EMEA.
Top diplomats from the US, Europe, Russia and Ukraine met in Geneva and agreed to take a series of steps to calm tensions in Ukraine. The crisis has had a chilling effect on Russia's bond and equity markets with reduced debt issuance this year and international financial institutions hesitant to participate in any debt deals. In the event of any military escalation the US would impose much tougher sanctions, most likely against Russia's banking sector.
Europe remains split, however, over whether to take strong action. Some of the states that will suffer adverse economic consequences include the Baltic republics, Poland and Cyprus (heavily dependent on Russian depositors). Germany could also be affected by a halt to its large export volumes into Russia.
There was a selloff in global stocks at the start of the week as uncertainty about the situation in Ukraine intensified. This led to a volatile week for equities which however managed to close stable to positive in both DM and EM (SPX +2.6% and TOPIX +3.6%) on the back of positive economic data. In developed markets the rotation from high growth tech stocks trading at high valuations to value and defensive continued. Momentum stocks also reversed a key trend trading lower. Of the companies that have reported quarterly earnings in the US, 60% have beaten expectations and as long as interest rates remain low the bullish equity story remains intact.
On the back of low inflation numbers both in the US and Europe together with renewed talks about ''unconventional'' easing measures in Europe, yields were pushed down to new lows. With the probability of lower rates for longer, spreads on long dated/perpetual bonds have tightened. For cautious investors, we would use the current strength in perpetual bonds to 'sell into strength' as long-term interest rates could rise as inflation revives in the GCC countries in 2015.
Regionally, we saw perpetual bonds and high beta names outperform at the beginning of last week, but added liquidity in EM made the market a bit softer. To name a few, Turkiye Finans and Damac both issued a 5 year Sukuk priced at 5.375% and 4.97% respectively. Republic of Pakistan also printed a 5 & 10 year deal. Saudi Electricity – one of our recommended issuers - came with a 10 and a 30 year bond - the best performers this week.
We continue to like defensive names like DEWA AE, which saw three of its bonds upgraded by Moody's last week. Other regional issuers, like Majid Al Futtaim 5.25% 2019 (3.45% ytm), Aldar Properties 4.348% 2018 Sukuk (3.54% ytm) and Mubadala 5.5% 2021 (3.25%) should see further spread compression on the back of the region's economic growth.
We reiterate our high conviction idea on Palladium, which remains our top pick performing well with room to rise further. You could invest in this theme with the ETFS Physical Palladium. The positive performance is supported by an increase in auto sales in China, the biggest consumer of Palladium. Market expectations are that global light vehicle production is forecast to increase by 3.8% in 2014 and 5.6% in 2015. The North American light vehicle market is also expected to continue its recovery. Accordingly the demand from the auto industry would increase the demand for Palladium by approximately 290,000 ounces for 2014.
The ETF is currently outperforming the benchmark. The fund is designed to offer investors a simple, cost-efficient and secure way to access the precious metals market and is Shariah-compliant.