Sunshine Time
The recent rally of the MSM 30 index reflects the robustness of the Sultanate’s macro-economy. As investor confidence improves, Mayank Singh looks at the factors underpinning this trend


Fund managers at Gulf Baader Capital Markets (GBCM) First Mazoon Fund were being cautious about reentering the market in a big way till May 2009, but then as the market kept on posting gains they realised that the MSM30 had hit its tipping point. “Sitting on cash would have meant losing out on opportunities,” says Sankar Kailasam, senior vice president, asset management, GBCM. The fund deployed back its funds on the Muscat Securities Market (MSM), giving subscribers a 30 per cent return till September 2009. The sprint in the market is unmistakable – the MSM 30 index closed on September 30 at 6,572 points – a year-to-date gain of 20.8 per cent. The month also saw the index touching a yearly high of 6,737 on September 27. Contrast this with the low of 4,223 points recorded on January 21 and one gets a feel of how the tables have turned.

Says Nabeel Sultan, director, Jawad Sultan Enterprises and a chartered wealth manager, “The worst is definitely over, the markets have bottomed out and are going higher.” Better oil prices and aggressive government spending have been the fundamental drivers of the stock market rally. The impact of oil prices on the fortunes of GCC economies can hardly be overstated. GCC stock markets have a 0.86 – 0.92 per cent correlation to oil prices. So when the price of black gold fell from a high of $147 per barrel in July 11, 2008 to $31 per barrel on December 23, 2008, markets across the region took a beating. The Abu Dhabi Securities Market (ADX) fell by 47.4 per cent, Bahrain Stock Exchange (BSE) by 34.5 per cent, Kuwait Stock Exchange by 38 per cent, Dubai Financial Markets (DFM) by 72.4 per cent, MSM30 by 39.72 per cent, Doha Stock Market (DSM) by 28.1 per cent and Saudi Arabia’s Tadawul index by 57 per cent in 2008.

As oil prices hit new lows, there were doubts about the long term viability of carrying forward all the mega development projects that were being implemented. The price of oil also cast a shadow on the revenue generating capability of these economies. Says Mustafa Ahmed Salman, chairman – CEO, United Securities, “The panic that was created by the crash in developed markets accelerated selling pressure and caused foreign funds to withdraw their money from the markets.” This over reaction saw stocks falling to multi-year lows during the year.

The turnaround
As oil prices recovered from the 30’s to the high 60’s and 70’s by mid 2009, confidence in GCC economies returned slowly but steadily. On October 21, 2009, oil touched a yearly high of $82 per barrel – a scenario that few could predict three months back. Contrast this with Oman’s yearly budget estimate of oil prices at $45 per barrel and the comfort zone for the economy becomes clear. The fact that oil production for the January-August period at 802,300 barrels per day was 6.8 per cent higher than the corresponding period of the previous year added to government revenues. The average price of oil for the period works out to $49.90 per barrel, higher than the budgeted price. “The persistent weakness in US dollar and higher demand for heating oil in the winter months in the west are likely to keep oil prices firm. “Demand for oil continues to remain strong in Asia led by China and India,” says N Anil Kumar, vice president head of research, corporate research, FINCORP. Oil prices continue to hold firm at around $70 per barrel which augurs well for the average price in the months ahead.

The additional revenues have helped the government to continue spending on infrastructure and development activities, giving a fillip to the economy. In all, the government awarded contracts worth RO2.3bn by mid-October 2009 compared to RO2.9bn awarded for the year 2008. Analysts expect another RO3.2bn worth of projects to be awarded in the next few months, taking up the value of such projects to RO5.5bn by the end of 2009. This figure is the highest amongst GCC economies. “Considering that bulk of these contracts would still be a mobilisation phase, Oman as an economy would start 2010 with a healthy order backlog,” says K Gopakumar, general manager, head of wholesale banking, BankMuscat.

As the private sector grapples with a slowdown due to the global financial crisis, the government has been providing the requisite stimulus to the economy. It has followed an expansionary fiscal policy with investment expenditure for the first seven months of the year going up by 18 per cent year-on-year (yoy) and total expenditure by 4.4 per cent. This has been achieved despite a 24.7 per cent drop in total net revenues during the same period in 2009. Says Mustafa Ahmed Jaffer, executive director, Vision Investment Services, “Unprecedented levels of fiscal stimulus and quantitative easing were announced and markets reacted positively to the efforts. Investor sentiment improved remarkably and markets grew increasingly immune to the flow of bad news as governments across the board carried out concerted effort to stem the rot in financial markets.”

In a direct intervention the government established a RO150mn Market Stabilisation Fund in February 2009. As investors developed cold feet, the fund injected liquidity into the markets. Says Hassan Ali Jawad, managing director, United Securities and chairman of the board, MSM, “The mandate of the fund was to stabilise the market, by rotating liquidity. It helped brokerage companies which in turn helped the stock market, proving to be a win-win situation.” The fund has played its part in soothing frayed nerves on the MSM.

As a flanking strategy, pension funds also started taking positions in the market. The price support provided by the these agencies encouraged retail investors and institutions to re-enter the market. Once oil prices touched $70 per barrel, foreign investors too started investing on the GCC markets. The share of foreign investors during the January-September 2009 period stood at 23.14 per cent. The value of shares bought by foreign investors during the first nine months of 2009 reached RO441.6mn comprising 25.11 per cent of the total value.

Striking back
The signs of a strong recovery are underway – cement sales continue to be robust indicating strong construction activity. Oman Cement sales during the first six months of 2009 grew by 17.5 per cent to 1.13 million metric tonnes (mt). Raysut Cement’s sales stood at 1.58 million mt, a yoy increase of 13.3 per cent. Imports through Port Sultan Qaboos has been improving sequentially indicating enhanced demand and the continued inflow of expatriates indicates job creation in the economy.

The corporate sector’s numbers took a beating in Q4’08 and Q1’09 thanks to the sub-prime crisis and its aftermath. As the Sultanate’s economy gains strength the rub-off effect on companies is unmistakable. Consolidated profit of the MSM30 companies stood at RO126mn in Q2’09 – 13.4 per cent higher compared to Q1, 2009. Analysts expect these numbers to improve during Q3’09, due to sequential gains and the base effect of a poor Q3’08. For instance – profits of the MSM30 in the second half of 2008 stood at 24 per cent of the first half of 2008 and 33 per cent of the profits reported in the first half of 2009. Better balance sheet has strengthened customer confidence in the index. Says Jaffer, “Second quarter results aided the recovery as companies saw their earnings stabilise after dropping precipitously in the earlier quarters. Investors who were on the sidelines entered the market on initial signs of recovery and institutions adopted a more aggressive asset allocation strategy.” Anticipation of better corporate earnings is bringing back investors to the market.

An additional factor shoring up corporate profits is the fact that most listed companies have their own portfolios on the MSM and as the stock market recovers, these gains are getting reflected on their balance sheets. Says Ritesh Jesrani, head of research, Al Madina Financial and Investment Services Co, “In 2008 several companies had portfolio investments on the MSM, when the crash happened it eroded their profits, but now as the markets recover such investments are generating secondary sources of income for these companies.”

As the MSM hit new lows in Q4’08 and Q1’09, the prices of various stocks saw a steep revision. A number of investment holding companies started trading well below their book value. For example, Transgulf was trading at a price-to-book value (P/BV) of 0.3 times, Oman Emirates Investment Holding Company hit a P/BV of 0.4. Stocks like Oman Cables fell to as low as RO0.380. The average volume of daily trade on the MSM was down to RO3mn-4mn a day in Q1’09 (from RO10-12mn a day). And the index started trading at a price earnings ratio (P/E) of six compared to 11 times earnings during the first half of 2008. Says Kailasam, “With inflation expected to rise and the asset revaluation that happened on the MSM, investors have started coming back to the stock market.” The rerating of stock prices made valuations more attractive. A fall in share prices inadvertently gave a fillip to high dividend yielding stocks like Oman International Bank (OIB), Oman Flour Mills etc.

Return of the investor
 As the markets lost steam, the monthly trading volume fell from RO197.4mn in September 2008 to RO55.1mn in December 2008. The fall in volumes saw a reversal in January 2009 and picked up momentum from March 2009. Says Lo’ai Badie Bataineh, DGM – Investment and Development, Head of Investment Management Group, Oman Arab Bank, “We have seen new investors coming back to the market. A number of them were attracted by dividends as Oman has historically been one of the best dividend yield markets” The return of investors helped market capitalisation to increase by 2.68 per cent to RO9.3bn in September 2009.

Says Kumar, “The industrial sector started the recovery during the first half of 2009. Whenever an economic recovery materialises, commodities tend to rally first.” The trend manifested during the first half of the year as cement, copper and aluminium prices skyrocketed. For example copper prices shot up from $3000 per tonne to $6500 a tonne. The boomerang in commodity prices coupled with better demand helped the industrial sector. The industrial index of the MSM now trades at a P/E ratio of 16 times, compared to the MSM’s average of 12.8; banking sectors: 12.7 and services: 10.7 times.

The banking sector which boasts of a number of bellwether stocks has been through a rough patch. Large cap banks suffered as they became risk averse and cut down on corporate loans. Their international portfolios took a hit as global markets plummeted. If these were not bad enough came the news of BankMuscat’s RO66mn ($171mn) exposure to Saudi Arabia’s troubled Saad Group and Ahmad Hamad Al Gosaibi Group & Brothers. Says Gopakumar, “That (Saad and Gosaibi exposure) was a bit of a setback to us, but we are well provisioned for any such bad debts.” NBO and BankDhofar were the other banks which suffered impairment loses due to loans given to the Saudi groups. Adds Riyad Ammar, brokerage manager, Al Madina Financial and Investment Services Co, “The margins of bigger banks have been under pressure due to conservative lending. If the Central Bank of Oman (CBO) insists on more provisioning due to their recent exposures then their net profits would be affected further.”

The limited exposure of the Sultanate’s banking sector to overseas borrowing though proved to be a silver lining. This coupled with CBO’s regulatory initiatives like opening up of two windows worth $2bn ensured that there was enough dollar liquidity available. While the first window was in the form of a swap, the second window did direct lending against eligible promissory notes. The Central Bank also reduced the reserve requirement from eight per cent of deposit liabilities to five per cent and eased lending ratios from 85 per cent to 87.5 per cent from January 1, 2009. These measures ensured that there was no liquidity crisis in the local market. Government deposits in the commercial banks in September stood at RO1.2bn.

There is enough money in the economy for short term lending (three-to-six months), but medium to long term lending (over a year) is still difficult to come by. As governments in developed countries increase their regulatory requirements, calling for bigger provisioning in the aftermath of the financial crisis, the lending capability of banks is expected to be under pressure. As dollar borrowing has just started bankers feel that it will take six months to a year for things to stabilise. So the banking sector is still not completely out of the woods and this finds an echo in their market multiples.

Says Kailasam, “Banks need a productive asset and so they have to lend.” Aware of this banks are scouting for credible parties to lend to. A consortium of six local banks – BankMuscat, National Bank of Oman, BankDhofar, Bank Sohar, Ahli Bank and Oman Arab Bank alongwith State Bank of India inked a project financing deal with Italy-based international engineering contractor Saipem and AFCONS, an Indian infrastructure firm for a contract to design a deepwater bulk jetty at the Port of Sohar, in September 2009. The total investment in the project, including a dredging component to be undertaken by Van Oord of the Netherlands amounts to RO95mn.

Despite the downturn, the banking sectors clout on the MSM is apparent – in terms of the total number of shares traded during the nine months of 2009, the banking and investment sector was the most active reaching 2.6bn shares which represents 53.5 per cent of the securities traded and RO733mn in turnover. This was followed by the services and the insurance sector with 1.3bn traded shares and RO584mn in turnover. The industry sector stood at 944mn shares and RO415mn in turnover.

Global recovery
Oman has been able to weather the global financial whirlwind with equanimity as it was largely decoupled from international markets. Says V Gowribalan, portfolio manager with a reputed holding company, “If one is trying to justify the fall in the Oman market by linking it to the global market, such an argument is not tenable. Oman’s correlation to the developed markets is only 0.7 per cent. In 2008-09 the correlation was 0.87 per cent.” In terms of oil exports, 57 per cent of GCC exports goes to developing countries like China, South Korea, Taiwan and Japan. As these countries are still on a growth mode, the Sultanate does not have much to be concerned about.

The Asian markets rally started in March 2009 as commodity prices recovered. China started buying commodities in a big way and that helped sentiment all across. The commodity build helped equity markets to move up and genuine buyers came back. Big stimulus measures deployed by governments across the globe helped almost all asset classes to rally back. This is vindicated by the positive economic numbers that has been seen in the recent times – Q2’09 GDP data shows that Japan grew by 3.7 per cent; India 6.1 per cent; China 7.9 per cent; Brazil 6 per cent. Positive industry expansion data, rising consumer confidence and fall in equity volatility are some of the factors that are aiding this recovery. Emerging markets especially Asian markets have rallied more due to their structural stability. US and the EU though slipped by -1.0 per cent and -0.1 per cent respectively during Q2’09. US with its record unemployment of six million (10 per cent of the workforce) will take longer to recover. “Though economies may be decoupled, financial markets are correlated and so one cannot become solvent till the markets become rational,” adds Gowribalan.

 Looking ahead analysts and corporate captains are confident that the MSM will remain positive in 2010. Markets in the region are still trading at 13-16 times earnings, compared to emerging markets which are well above 20 times FY’09 earnings. This offers a good buying opportunity in the GCC markets. Given the positive outlook, equities are expected to generate superior returns vis-à-vis other asset classes and investors with a medium to long-term investment horizon could consider buying equities to benefit from the current up-cycle.

They should however weigh their risk-return objectives before investing in equities as they generally suffer from higher volatility over a short time frame. Says Jaffer, “We recommend retail investors to take advantage of the mutual fund route for getting exposure to the market and avoid speculating on individual stocks. Additionally they can spread their investment over a three-to-six months period to take advantage of dollar cost averaging.” If you are still sitting on cash, it may be a good time to re-enter the stock markets. Statutory warning: procrastinating a decision may turn out to be an opportunity loss in future.

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