Last year was a positive year for Kuwait, which, along with most major equity markets in the region, managed to build on the previous year’s positive performance, coming off the back of a particularly tough 2011.
Investor confidence in capital markets has grown and this is reflected by increasing investor demand for a wider range of investment opportunities, services, and better returns in the low interest rate environment. This client-driven demand has created incentives for KAMCO and other major regional investment companies to further enhance existing platforms in order to deliver solutions and opportunities to help investors achieve their investment goals.
Despite ongoing political instability seen in some nearby countries, most regional equity markets have achieved double-digit returns. All of the GCC capital market participants are working to further build robust financial institutions with stronger and evolving regulation.
Despite the challenges, the region’s capital markets are expected to see growth in returns, as well as higher activity, investment flows and liquidity
With MSCI upgrading the UAE and Qatar to emerging market status, other countries are working to develop their markets to international standards. We at KAMCO expect that in the coming five years, more regions will be considered as emerging markets, thus adding more liquidity to the region, in line with strong private sector growth and development expectations led by strong oil prices, government infrastructure spending and human capital development.
Looking forward
So far, 2014 has been a good year for all MENA regional equity markets. Expectations for the rest of the year are positive. With recovery signs well in place, the MENA region is expected to see further growth as its economies prosper.
Even though the year is expected to see some volatility in regional capital markets, if the geopolitical scene continues to improve, the area is expected to perform well overall, with most markets set to achieve double-digit returns. This maintains our expectations, in line with most other analysts, that if there are no major shocks, growth is expected to continue, especially in a low interest rate and inflation environment. Certain sectors will benefit from the anticipated growth more than others, such as real estate, services, consumer and trade finance sectors. We at KAMCO are looking into launching products that meet growth prospects and investor needs, and have launched MENA-focused managed equities and real estate funds in the past 12 months, as well as a new MENA fixed income fund. We are also gearing ourselves up to play a leading role in managing new capital market issuances.
Despite the challenges, the region’s capital markets are expected to see growth in returns, as well as higher activity, investment flows and liquidity. With those anticipated capital inflows – combined with significant developments in regulatory frameworks, including enhanced corporate governance and transparency initiatives – we anticipate a transition to strong growth in terms of depth and breadth of markets, with blue chips and growing medium-sized enterprises benefiting the most in 2014. Since Qatar and the UAE were upgraded to emerging markets status by MSCI, Kuwait has been present on the MSCI Frontier Markets Index, which makes Kuwaiti corporates more visible, attracting interest from major international equity investors.
Along with the anticipated growth in capital markets, we expect to see more development in regulation, which will bring higher costs and compliance risks, especially in the short term. Furthermore, keep in mind that regulators and policymakers alike have become extremely cautious in overseeing and managing growth, having learned from previous bubble experiences.
Nonetheless, given the current strong liquidity available with regional banks, there will be stricter limits imposed on financial institutions in order to avoid overexposure to any particular sector. Banks will be encouraged to use a risk-adjusted capital management framework for lending, as well as dealing with the operating implications of Basel III and other international issues, such as FATCA.
This could present an opportunity for local investment houses like KAMCO and international players to play a major role in developing more sophisticated capital market solutions that meet growth needs.
The region’s capital markets are still in their infancy, with limited depth and breadth, but are quickly evolving as the private sector grows and markets develop, with more instruments being introduced along with new regulations and government policies focusing on developing markets.
Such developments are needed, especially in GCC countries like Kuwait, which are considered fiscally sound markets that offer ample opportunities to investors across various sectors, including real estate, infrastructure and consumer goods sectors.
Dealing with debt
The debt situation in Kuwait and the GCC remains dominated by bank financing, and markets remain thin and limited to traditional forms of debt financing and products. They do not yet have the structured and tailored financial products seen in more advanced markets.
One key reason for the slow growth in debt issuances in Kuwait and the GCC is that the region’s sovereign debt markets are relatively underdeveloped. Investors are also not well versed in investing in local or regional debt products, meaning the market lacks depth. Stable and high oil prices have led to strong fiscal surpluses, making government activity in developing the situation a lower priority. We believe that sovereign action is needed, and that sovereign issuances are central to developing the regional debt markets through the appropriate establishment of yield curves, which is an essential base for debt management.
Having said that, some GCC countries like Qatar, the UAE and more recently Saudi Arabia, are developing their debt markets by issuing conventional and Islamic debt, as well as forming policies to develop such instruments.
The interest rate environment in the GCC is low at present, making the debt market a viable financing option for businesses. However, the presence of challenges that limit the depth and breadth of solutions makes it costly and difficult to consider such solutions by businesses raising debt financing. Another important element is the increasing awareness and understanding of debt financing and its benefits with or over equity funding. Companies need a better understanding to strike the right balance between debt and equity so as to optimise the cost of their capital structures.
The impact of oil
The six nations of the GCC had a combined nominal GDP of $1.45trn in 2011, which accounted for two percent of global GDP. This figure is estimated to have reached $1.58trn in 2012, while the IMF 2013 estimate for 2013 is $1.60trn.
The GDP of the GCC region has almost quadrupled in nominal terms since 2001, growing at a compound annual growth rate (CAGR) of 14.5 percent. This has led to a near doubling in its percentage share of global GDP from 1.1 percent in 2001 to two percent in 2011 (estimated to be 2.2 percent for 2012).
The rise in the GCC’s weight in the global economy is a result of both high energy prices and rapid real economic growth supported by government spending on production and infrastructure projects. GCC real GDP grew at an average annual rate of 4.86 percent from 2007-11 compared with a world average growth rate of 3.4 percent, making it one of the fastest growing regions in the world. The IMF estimates that real GDP growth in the GCC reached five percent and 3.7 percent in 2012 and 2013, respectively, outperforming global GDP growth expectation of 3.2 percent and 2.9 percent.
The size of the GCC economy has been supported by the hydrocarbon sector, which has been the backbone for an economy driven by elevated oil prices. However, a global economic deceleration can severely impact oil prices, with weaker demand leading to weak economic growth; this despite the fact that many countries have the buffers to withstand short-run oil price volatility, yet a sustained drop in oil prices resulting from a further slowdown in global economic activity remains a key risk.
Kuwait is the second-wealthiest country in the GCC on account of its substantial oil resources, and the fourth-largest economy in the region with an estimated nominal GDP of $199.3bn in 2013, according to the IMF. The economy remains dominated by oil and gas production, which comprised an estimated 63 percent of nominal GDP in 2012, and contributed to around 94 percent of the government’s revenues.
Economic growth has been strong, with constant prices GDP growth of approximately 8.2 and 6.6 percent in 2011 and 2012, respectively, as the oil sector expanded due to capacity increases and the mandated production cuts by OPEC introduced in 2010. Going forward, the Kuwaiti economy is forecasted to continue posting healthy growth rates in the medium-to-long term (see Fig. 1).
