Robust economic recovery is on the way, according to the Capital Markets Outlook report released by Saudi based investment specialist Alkhabeer Capital.
The global financial crisis in 2008, triggered by the US mortgage meltdown, and the contagion impact of the worldwide recession was reflective in global equity markets. While US indices S&P 500 and Dow Jones contracted nearly 38% and 34% of the value in 2008 respectively, other developing and emerging markets such as UAE (Dubai Financial Index –72%), Saudi Arabia (Tadawul All Share Index TASI –56%) and China (Hong Kong Shanghai Index –48% witnessed a higher contraction in shareholder value during the same period. Furthermore, indices with higher weightings of underlying assets, like commodities, such as Australia (Australian Securities Exchange -35%) and Canada (Toronto Stock Exchange -33%), plummeted in 2008 as markets discounted the global slowdown in demand for commodities.
In 2009, the BRIC economies registered onset of recovery in equity markets as the stock markets in these nations rebounded in the range of 40–70% during the first half of 2009. Notably, global economic conditions started showing signs of improvement in the second half of 2009. 2010 was considered the second year of recovery from the financial crisis due to the introduction of regulatory measures by governments and central banks to support growth in financial and equity markets. Furthermore, commodity as an asset class witnessed unprecedented growth in 2010, as most commodities reached an all-time high during the year. Thus, given the uptrend across multiple asset classes in global markets during 2009–2010, investors anticipated growth in equity markets in 2011.
However, geopolitical tensions in Arab countries and rising instability related to the European debt crisis in 2011 derailed investor sentiment and undermined uncertainty in global economic recovery as well as increased volatility in equity markets worldwide. This lead to a decline in key global equity indices—for example, Dow Jones declined 6%, while TASI shed 8% YTD by the end of the third quarter of 2011. Furthermore, inability of European governments to find a lasting solution to the sovereign debt crisis heightened the equity investment risk factor. Eventually, delays in consensus over a solution on Greece led to sharp southward movement in global equity markets.
However, toward the end of 2011, positive macro factors have contributed to a burgeoning outlook for global equity markets. Key macro factors supporting the upside are: (i) economic data showcasing recovery in the US economy (world’s largest economy); (ii) stability in commodity prices; (iii) elimination of uncertainty associated with the Arab spring in major Middle East economies: Saudi Arabia, Qatar and the UAE; (iv) commitment to low interest rates in major economies; and (v) consensus on lasting solution for the European debt crisis. Consequently, major global indices have rallied significantly since mid-December. This includes US indices S&P 500 and Dow Jones adding 11% and 8%, respectively, on YTD basis in 2012; and equity stock indices of emerging and developing economies like China (+16%), Saudi Arabia (+18%) and UAE (+24%) also has surged remarkably over the same period.
TASI, gaining support from global cues and after closing 18% higher YTD in 2012 (last close 7,568.0), is significantly lower than its pre-financial crisis high of 20,634.86. Robust economic outlook (3.6% growth in real GDP forecasted by IMF) – supported by buoyant oil prices and the government’s commitment to high levels of spending – supports the growth story in the Saudi equity market. In January, the PMI rose to a six-month high of 60.0, underpinned by a number of large infrastructure projects, signaling a strong start to 2012. With significant spending in the Kingdom, cement and construction sectors are expected to benefit directly. Moreover, the underlying fundamentals of the economy – such as being among the world’s fastest growing population and a high ratio of young population – further contribute to growth in the financial sector, consumer and retail sector, and real estate sector, where approval of the long-awaited mortgage law is an upcoming catalyst for this latter sector. On the other hand, the insurance sector (health insurance, in particular) is benefitting from progress in the regulatory environment.
Notably, the current ongoing surge in the TASI, after reaching a 42-month high in the beginning of March 2012, is supported by encouraging improvement in daily trading volumes. Since end of Ramadan (August 2011), the daily turnover has increased from the lows of SAR 2-3 billion and has tested SAR 15 billion levels at the higher end during this period. This significant gain in volumes, higher than the historical trend, adds to investor confidence as the market appears to be on a sustainable upside path. Moreover, a potential direct access to the Kingdom’s equity market by foreign investors could be a catalyst for a rally. While the timeline to permit foreign participation has not been set, the ongoing advanced talks indicate it could happen anytime in the near future.
TASI is set to record sustainable recovery in 2012 since it is expected to continue its northward movement as investors currently weighs heavier on stock valuations due to the elimination of geopolitical concerns in the Kingdom and stable global cues. While TASI registered a gain of 18% on YTD basis in 2012, it is trading at a TTM P/E multiple of 15.8x, lower than the historical average. Going forward, the underlying Saudi economy is expected to support robust growth in corporate earnings in 2012. However, in a conservative stance, even if we assume total earnings of companies listed on TASI to post similar growth as in 2011 (if not more) and the historical P/E average would bring us to an index level in the range of 9,750 to 10,250 over the next 12 months.
In the given scenario, risks to the estimated index performance would mainly comprise global macro factors such as underperformance of major economies vis-à-vis market expectations, further economic concerns in the Eurozone and any update on geopolitical tensions in Arab countries.