Global Investment House – Kuwait- GCC Market Review – for the month of March 2008-
GCC markets succumbed to strong bout of selling pressure in Mar-08 as all the regional indices ended the month in red. Profit booking seems to be one of the major reasons for this month’s decline as all the market raked up major gains in the previous month. Again, the region’s biggest market, Saudi Arabia, witnessed across-the-board selling as the benchmark index recorded a monthly decline of 11.2%. Market participants now seems to be anxiously waiting for the first quarter results announcement which, we believe, will dictate the short term movement in the regional markets.
Table 01: Index Performances
Country Measured by Index Close MTD Growth (%) YTD Growth (%)
Bahrain Global Bahraini Index
218.7 -1.9 2.2
Kuwait Global General Index
402.5 -5.1 6.5
Oman MSM Index
10,102.6 -2.5 11.8
Qatar Global DSM Index
737.8 -5.4 7.9
Saudi Arabia Tadawul Index
9,135.0 -11.2 -18.3
UAE NBAD Index
13,140.6 -5.9 -4.3
Source: Respective Stock Exchanges and Global Research
Table 02: Global Recommends….(Further details on Page XX
Company Country Market Value Fair Value Recommendation
Jazeera Airways Kuwait 485fils 558fils BUY
GCC Investment Strategy GCC - - -
Sub-Prime Crisis & GCC GCC - - -
UAE Economic & Strategic Outlook UAE - - -
Saudi Real Estate Sector Report Saudi Arabia - - -
GCC & the sub-prime crisis....
Sub-prime lending is the practice of making loans to borrowers who do not qualify for market interest rates. It could be because of lack of credit history or inability of the borrower to support monthly payment on the loan. Sub-prime loans are risky for both creditors and debtors because of the combination of high interest rates, no credit history, and gloomy financial situations. In the recent years we have seen turmoil because of the sub-prime crisis. The reasons for sub-prime crisis are varied and complex. The crisis can be attributed to a number of factors, such as the inability of homeowners to make their mortgage payments; poor judgment by either the borrower or the lender; inappropriate mortgage incentives, and rising adjustable mortgage rates.
Sub-prime mortgage took off in a big way since 2003 as prior to 2002 the banks and financial institutions had strict lending standards for mortgages and sub-prime borrowing was limited. The lower prevailing interest rates and surplus liquidity with the financial system encouraged higher lending towards sub-prime segment. Also more and more of the consumers started vying for it which resulted in sub-prime segment becoming the fastest growing mortgage product. As a result of the above factors, house prices gained momentum which in turn fuelled more demand leading to a vicious cycle of lending and increase in house prices.
The issuance of subprime mortgages gained momentum rising from US$213bn in 2002 to more than US$700bn by 2006. The sub-prime mortgages had a market share of around 20% of all mortgages in 2006 – highest share in history. The number has rose to as high as US$1.3tn as of March 2007. But these mortgages had a much higher rate of repossession than conventional mortgages because they were adjustable rate mortgages (ARMs). The payments were fixed for two years, and then became both higher and dependent on the level of Fed interest rates, which also rose substantially. Consequently, a wave of repossessions is sweeping America as many of these mortgages reset to higher rates in the next two years.
Due to a form of financial engineering called securitization, many mortgage lenders had passed the rights to the mortgage payments and related credit/default risk to third-party investors via mortgage-backed securities (MBS) and collateralized debt obligations (CDO). Corporate, individual and institutional investors holding MBS or CDO faced significant losses, as the value of the underlying mortgage assets declined. Stock markets in many countries declined significantly. The securitized share of subprime mortgages (i.e., those passed to third-party investors) increased from 54.0 percent in 2001, to 75.0 percent in 2006.
The mortgage lenders that retained credit risk (the risk of payment default) were the first to be affected, as borrowers became unable or unwilling to make payments. Major banks and other financial institutions around the world have reported losses of approximately US$170bn as of February 2008. The likes of Citigroup, Merrill Lynch, UBS, HSBC and Morgan Stanley have announced write-offs worth US$24bn, US$22.5bn, US$18.7bn, US$17.2bn and US$10.3bn respectively. Further, profits at the U.S. banks declined from US$35.2bn to US$5.8bn (83.5 percent) during the fourth quarter of 2007 versus the prior year, due to soaring loan defaults and provisions for loan losses.
The widespread dispersion of credit risk and the unclear impact on financial institutions caused lenders to reduce lending activity or to make loans at higher interest rates. Similarly, the ability of corporations to obtain funds through the issuance of commercial paper was impacted. This aspect of the crisis is consistent with a credit crunch. The liquidity concerns drove central banks around the world to take action to provide funds to member banks to encourage the lending of funds to worthy borrowers and to re-invigorate the commercial paper markets. As a result, Fed has undertaken a series of rate cuts since Sep-07 and in its latest move, Fed made another cut of 0.75% on March 18th, 2008, falling short of markets’ expectation for at least a full percentage point cut. The current Fed rate stands at 2.25%.
The risks to the broader economy created by the financial market crisis and housing market downturn were primary factors for January-08 decision by the U.S. Federal reserve to cut interest rates by 1.25 to 3.0 percent. President Bush also signed into law on February 13, 2008 an economic stimulus package of US$168.0bn, mainly in the form of income tax rebates, to help stimulate economic growth. However, many consider the stimulus package is not significant enough to stimulate the economy. Also, the Fed increased the monthly amount of these auctions to US$100.0bn during March-08, up from US$60.0bn in prior months.
One reason the economic slowdown could get worse is that banks and other lenders are cutting back on how much credit they will make available. They are rejecting more people who apply for credit cards, insisting on bigger deposits for house purchase, and looking more closely at applications for personal loans. The crisis is not over yet and could spread to other credit markets, making it important that banks should have a strong capital base. The crisis could spread to other credit markets, such as credit cards, consumer credit, car financing, student loans or commercial credit.
But the GCC region has remained more or less immune to this crisis. The economies are expected to exhibit significant resilience in face of slowdown in the advanced world and are expected to continue witnessing the recent trend of high economic growth. The major reasons for its insulation from the subprime crisis are high economic growth, low inflation, massive current and financial account surplus, buoyancy in domestic markets and recycling of petrodollars in the local markets. GCC bank's investments in hedge funds are relatively limited and hence the impact on banks’ profitability is likely to be limited. Apart from that majority of Islamic banks in the region that conduct banking business on the tenets of Islam are restricted from investing in such type of structured products resulting in lower exposure to the sub-prime segment.
The knock-on effects of the current deterioration in the subprime would not be profound generally because of the following reasons:
- Tremendous liquidity in the region
- GCC companies generally are operating on a different environment compared to those in the U.S.
- Financial resources are available either through debt sourced from within the region or with equity. Therefore, subprime crisis of the U.S. market will have a limited impact on the GCC.
- Banking institutions in the GCC keep diversified portfolios in high-grade investments to mitigate risk and ensure positive return.
- Effect will likely to be on those organizations that have considerable international funding exposure. According to S&P survey, aggregate subprime exposure of the banks in the GCC will be less than 1.0 percent of their total asset.
- The financial profile of the GCC banks is strong, with good asset quality, high profitability, and robust capitalization.
- GCC Islamic banks are not allowed to invest in such financial instruments.
- GCC banks' exposure to leveraged loans is much lower than that of their U.S. and European peers.
Saudi Arabia real estate sector…
The real estate sector has played a key role in the Saudi Arabian economy. Its many links with a number of other sectors in the economy has rendered it crucial to the development of the economy. The sector is witnessing a phase of rapid growth that will continue for the next years. Total real estate investments more than doubled by the end of 2007 reporting 115.9% annual growth to stand at SR100.4bn. Such increase was backed by increased prices and demand within the sector. It is a market that is driven with demand fundamentals where demand surpasses supply for almost all segments. Such trend is expected to continue for the coming years thus, prices and rentals are likely to remain buoyant.
Factors supporting buoyant activities in the sector are well documented. A major contributor to the well-being of the real estate market is the availability of sustainable demand. Generally, population demographics, economic and social factors are the most important determinants that will depict demand over years. On one hand, economic expansion and increased investment opportunities in the country will continue to encourage the influx of expatriates at increasing rates, consequently demand will continue picking up. On another hand, population in the kingdom is forecasted to continue growing at an average annual rate of 2.5% reaching 25.66mn by the end of 2009. Moreover, average household size is estimated to decline from 5.5 to 5.2 persons over the period 2005-09. Such decline in household size will be mirrored by a proportionate increase in demand for housing. Based on these assumptions; the 8th DP estimated future housing demand to stand at 1mn units over the period 2005-09. This implies an average increase of 200,000 units per year. Satisfying such demand requires sufficient residential land plots with a total area of 280 msq and SR500bn of investments to construct 1mn housing units.
Another contributor would be the availability of sufficient financing mechanisms to quench the thirst of the increased demand for funds. With local banks expanding their credit portfolios at a CAGR of 21.5% over the period from 2001-06, coupled with abundant liquidity in the local economy. Government financing, in the form of facilities provided by the REDF has helped support the increased activity in both the real estate and construction sectors. Since its inception in 1974 and up to the end of 2006, REDF has financed over 613,000 housing units at cumulative disbursements exceeding SR71bn through interest-free, easy-term loans to Saudis. Moreover, in anticipation to the long-awaited mortgage law, a number of banks have started offering Shariah-Compliant home financing credit with tenors extending up to 25 years. As a result market professionals estimate the size of outstanding housing credit is likely to rise from SR4bn during 2007 to reach SR46bn by the end of this decade, assuming a gradual rise in the share of new residential units purchased through housing loans from 10% to 55% by 2010.
On the sector’s performance front, construction activity was brisk starting 2000 and up to 2007. Building permits as a proxy for construction activity in the economy reported 11.1% CAGR over the period 2000-05. This was a direct result of the huge increase in total building permits issued during the year 2005 reaching a peak of 55,369 permits. By the end of 2007 issued permits stood at 36,214 permits. Residential permits continued to account for almost 90% of issued permits. By administrative area, generally three areas accounted for more than 60% of total issued permits over years, namely; Al Riyadh, Makkah Al Mokarramah, and Eastern Region. By the end of 2007 they accounted for 34.1%, 18.9% and 12.5% respectively. This is mainly attributed to the increased activity and investments in those areas. Moreover, the increased immigration from rural to urban areas has contributed a lot in changing the demographic map for Saudi Arabia over the last period.
Analyzing the demand supply dynamics within the Saudi market revealed that Saudi real estate market is a demand driven market rather than speculative in almost all segments. Residential market is suffering supply shortage especially for affordable low and middle income housing class mainly due to the continuously growing population marked by internal migration and the influx of expatriates. This increased demand and short supply scenario has driven housing prices high over the last period. Commercial segment as well is facing a period of increased demand surpassing supply for both retail and office space due to increased business and investments activities in the country in addition to high population growth rates and increased per-capita income.
The sector has been buoyant driven by hiking demand and other fundamentals as in the rest of GCC countries. Prices continued to increase over the period 2002-05 but not at a level that dissuades both developers and consumers. However, it is important to note that, real estate prices in the kingdom are very difficult to track since there is no price registry body. However, on average it could be included that prices hiked by 10% per year for residential and commercial segments over the period 2002-05. The scenario of undersupply backed such price hikes. Similarly, the office segment continued to suffer undersupply over the period with vacancy rates in prime locations such as Riyadh and Jeddah around 2% to 5%. As a result, rentals in primary locations ranged between US$250-300/msq.
Looking forward, it is important to note that, the undersupply scenario underlies a major challenge especially for the affordable low income housing segment. Such under supply scenario is expected to continue for the short to medium term until new supply is delivered. Supporting such scenario will be demographic fundamentals combined with the strong performance of the overall economy that will sustain the growth in the real estate sector. A major solution for such challenge would be the introduction of mortgage products that are expected to add impetus to the growing sector. On another front, both retail and office segments will continue their increased demand scenario. This is a result of the increasing population as well higher standard of living and consequently the increased demand for leisure and commercial needs. Similarly, office demand will continue to witness an increasing demand due to the increased number of newly established companies and the expansion of existing ones. Such trend is expected to continue as a result of opening of the Saudi economy and new investment laws attracting more foreign investments in the kingdom.
Market activity…..
GCC bourses saw 20.3bn shares being traded in the month of Mar-08 as compared to 26.4bn shares recorded in the previous month. Also, the value of shares traded on the bourses decreased to US$70.7bn in Mar-08 as compared to US$91.7bn reported in the previous month.
Table 03: Market Exchange
Country Total Volume Traded Total Value Traded (US$) Market Cap (US$) No. of Transactions
Bahrain 179,036,650 187,958,576 28,886,951,877 5,181
Kuwait 8,235,649,000 14,823,113,183 235,085,291,047 201,441
Oman 397,649,851 835,501,229 25,366,233,766 74,571
Qatar 176,307,123 2,478,873,937 104,816,427,721 125,902
Saudi Arabia 4,266,239,277 42,392,977,911 446,567,655,266 4,519,779
UAE 7,006,681,940 9,999,654,620 248,053,735,874 292,274
Source: Stock Exchanges and Global Research
The breadth of GCC stock markets was skewed towards decliners in Mar-08 as 192 stocks registered monthly gains as compared to 355 decliners. In all the markets, except Oman, decliners outpaced advancer.
Advancers Volume Decliners Volume Unchanged Volume Total
BSE 15 138,007,182 17 40,452,597 19 576,871 51
KSE 61 4,058,864,000 115 3,920,705,000 20 256,080,000 196
MSM 61 230,426,288 26 132,865,293 98 34,358,270 185
DSM
9 52,280,971 32 110,520,881 1 13,505,271 42
Tadawul 10 1,145,161,924 104 3,110,661,309 2 10,416,044 116
DFM & ADSM 36 294,113,342 61 6,705,390,079 24 7178519 121
Total 192 5,918,853,707 355 14,020,595,159 164 322,114,975 711
Table 04: Market Breadth
Source: Respective Stock Exchanges and Global Research
