Following a weak start to the year, regional markets recovered some ground in 2Q16 as oil prices rebounded. Most equity markets had registered some gains in the second quarter of the year before shedding some of it in the aftermath of the Brexit referendum. In their first post-vote trading session, all GCC equity markets closed in the red but have since weathered the big event better than their international counterparts.
The MSCI GCC total return index closed the quarter up 2 percent, outperforming most world markets. Total GCC market capitalization stood at $877 billion at the end of the quarter, having gained $12 billion during 2Q16.
Internationally, most equity markets continued their recovery well into 2Q16, but the British vote to leave the EU took them by surprise. Encouraging data from major economies (particularly the US) helped to end the correction that had hit markets in the second half of 2015 and which continued well into January 2016. Markets were also supported by further monetary easing from central banks. The US Fed, which had been signaling its intention to raise its benchmark federal funds rate four times (25 bps each) in 2016, is now looking to hike rates twice if not once.
Meanwhile, the European Central Bank (ECB) and the Bank of Japan (BOJ) went ahead with more quantitative easing and rates cuts (in some cases to negative). But equity markets tumbled in the few sessions that followed the referendum as they were obviously positioned “wrong” in regards to the Brexit vote. The MSCI World total return index shed most of the gains it made on the quarter up to the referendum date, closed the quarter up a mere 1 percent. Volatility, which had come off in the past few months, was exacerbated by Brexit.
Regionally, markets continued to recover with oil prices well into 2Q16. Oil prices bottomed out towards the end of January and are now hovering around the $50/barrel level, up 75 percent from their low in January. GCC markets kept their close tie to oil prices for well over a year now. Despite the recent rise in oil prices, they remain relatively low and continue to raise concerns about fiscal sustainability and growth in regional economies. A prolonged period of low oil prices could force governments to reduce capital spending and benefits, and put pressure on liquidity.
GCC equities may be decoupling from oil prices as the latter appear to stabilize, and as other market specific factors come into play. The MSCI GCC total return index closed the quarter up 2 percent but performance varied notably across markets. Oman outperformed with its price index up 6 percent followed by Saudi Arabia (KSA) at 4 percent. The Saudi market had suffered more losses than most markets when oil prices tumbled earlier in the year and a stronger rebound was expected; nonetheless, KSA continues to underperform the region year to date (-6 percent vs. +2 percent).
Sentiment in Saudi Arabia has improved since authorities unveiled their much anticipated “Vision 2030” plan, which aims to diversify the economy away from oil and improve the kingdom’s fiscal standing. The announcement of new Qualified Foreign Investors (QFIs) regulations and a potential partial listing of Aramco also gave a boost to the Saudi market.
Meanwhile, the Qatari market was the worst performer regionally, closing the quarter down 5 percent. Banking, the markets biggest sector, is being pressured by declining liquidity. Some banks are also dealing with capitalization issues. Meanwhile, lack of clarity regarding government spending plans, including potential cuts, is not helping sentiment. Dubai also underperformed and was off 1 percent on the quarter but remains one of the better markets ytd. Dubai Financial Market (DFM) took the biggest hit on its first trading session post-Brexit. Its relatively large foreign investor base makes it more susceptible to international markets volatility.
Market liquidity continues to be low. The daily turnover in 2Q16 averaged $1.6 billion, down 10 percent from 1Q16 average. With banks and sovereigns now turning to fixed-income markets to issue Basel III-compliant perpetual and other bonds, and sovereigns looking to tap capital markets to help finance deficits, some liquidity is bound to be directed away from equities. Also, with GCC rates now starting to rise in tandem with US rates, fixed-income assets are becoming more attractive. Liquidity also tends to be lower in the summer and during Ramadan and Eid period.
Volatility in equity markets is likely to remain high. Brexit and the political changes it induces have introduced substantial uncertainty into markets and the dust is yet to settle. The Fed’s upcoming meetings and the likelihood and timing of further rate hikes will keep markets excited. GCC markets will continue to follow up on governments’ fiscal and reform plans for the coming years in order to gauge the implications for non-oil growth and business in GCC economies. In the near term, focus will be on the upcoming 2Q16 corporate earnings. Meanwhile, oil prices will remain a primary factor for regional markets.