GCC Liquidity: The Main Casualty of the Global Financial Crisis
This Article was originally published in several Arabic and English newspapers including Arabnews.
The Global Financial Crisis (GFC) has impacted world economies including the GCC. However the biggest issue has been the loss of liquidity in stock markets (as measured by value traded). Stock market investing and real estate are two essential pillars that provided occupational engagement to many GCC nationals. The collapse of both of these asset classes means significant contraction in many respects. This article dwells specifically on the issue of stock market liquidity, reviewing measures that can bring back liquidity at least to some extent if not all.
From a peak value, traded at over USD 1.6 trillion in 2006, liquidity experienced annual declines of 40% in 2007, 2009 and 2010 each and reached a low of USD 296bn in 2010 only to recover slightly to USD 354 bn in 2011, the first annual increase since 2006. The 2011 value traded is just one-fifth of the all-time peak experienced in 2006. Such a drastic fall led to many brokerage houses closing shop. So far, during the first half of 2012, the value traded has already exceeded that of the full year numbers for 2011 which is somewhat reassuring.
The relative halting of lending across the region has played a large part in the declining liquidity on the exchanges. According to the Institute of International Finance, around 10% of bank lending goes towards the purchasing of securities while 26% and 10% goes towards real estate and investment companies, which are currently in a state of distress or low growth potential. Consequently, loan growth across the GCC has decelerated sharply since 2009. The average annual growth in loans between 2004 and 2008 was 29%, reaching a high of 38% in 2007. This rate has fallen to low single digits during the periods 2009-2011.
There are several factors which could aid in bringing liquidity back to regional stock markets. Many of these factors deal with creating an environment which is attractive and conducive to investing, both by retail and institutional investors.
There are not many options when it comes to investing in the GCC region; most funds and portfolios deal with plain “vanilla” products like mutual and sector-specific funds. Fixed Income is only now gaining popularity as an investment opportunity, but even then, most investments are held to maturity and little-to-no secondary trading is available on these products.
A few derivative instruments have been brought to market; Kuwait Financial Centre “Markaz” has operated the Forsa Fund since 2004, which issues Call Options on Kuwaiti listed stocks. Abu Dhabi and Saudi Arabia both started ETF trading on their exchanges in early 2010, though these had little liquidity. Encouraging the development of a regional derivatives market would help support and raise liquidity levels by providing with additional options and instruments, which in turn would allow for more diverse and sophisticated product offerings.
Given that the majority of investors in the region are retail investors, who are currently in an illiquid or deleveraging state, an increase in institutional investor support would help increase liquidity. This support has generally been provided by Sovereign Wealth Funds like Kuwait Investment Authority, Abu Dhabi Investment Authority and Qatar Investment Authority, in addition to other Government-owned entities (GOEs). According to Markaz, there are around 60 GOEs in the GCC that hold roughly 30% of market cap spread over nearly 180 companies. Saudi Arabia has the highest penetration in its local market, holding 35%, while Kuwait had the least at 13%.
There have been many regulatory developments in the region over the last few years, some as part of a natural maturing of markets while others have been in response to events brought on by the crisis. Regulatory progress and development is seen as a vital component to the restoration of the GCC markets, bringing with it credibility and the attracting of foreign investor interest. The UAE has pushed through a robust Bankruptcy Law which would provide a legal framework for distressed corporates to operate within. Qatar has been actively attempting to raise its Foreign Investor Limits, mainly to satisfy MSCI requirements for upgrading to Emerging Market status, but the move will make the market more attractive to foreigners in general. Furthermore, the Kuwait Capital Market Authority was established with its regulations and bylaws governing the exchange and investment companies.
Ultimately, a return of confidence is what is needed for liquidity to come back. ‘When that will happen?’ is anybody’s guess.