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Is oil alone fuelling Gulf Cooperation Council stock markets ?

Region's citizens are placing their trust in stocks and shares


Many of the initial public offerings (IPOs) in 2004 received unprecedented media coverage and were heavily oversubscribed, indicating that the region's citizens trust their money in stocks and shares.

The United Arab Emirate's Adder Properties IPO was oversubscribed a phenomenal 458 times.

In Saudi Arabia, the Ettihad Etisalat stock issue resulted in queues that were so long that traffic was disrupted and application forms were changing hands on an impromptu black market. On the first day of trading the value of Ettihad Etisalat shares increased six-fold.

In 2004, all the Gulf Cooperation Council stock markets grew by an average of 61 percent, as against the 52 percent increase in 2003. The U.A.E.'s NBAD index grew by 88 percent, while Saudi Arabia's Tadawul Index grew by 85 percent. At the start of 2005, the combined capitalization of the region's stock markets was

$522.8 billion, with almost 500 companies now listed - an increase of 36 percent since 2000.

In January, the IPO by Agthia (Emirates Foodstuff and Mineral Water Company) was oversubscribed by eight times and at least 20 more IPOs are in the pipeline for 2005. Public and private companies increasingly see full or partial floats as an attractive way of raising capital as opposed to traditional methods such as bank loans.

Such floatation increases stock market capitalization and broadens the available portfolio spread, thus helping reduce investor risk. In the short term at least, this trend of strong growth increased levels of investor interest and company floatation seems set to continue.

Several factors explain this period of unprecedented stock market growth - first, some believe that it is high oil prices over the past two years that is primarily responsible; second, they argue that the changed geopolitical environment after Sept. 11, 2001 is a factor, speculating that capital formerly invested in U.S. assets has been repatriated closer home; third, as a consequence of the GCC-U.S. dollar peg, the region's banks are currently offering low interest rates and there is little incentive for investors to save - in fact, borrowing to speculate is cheap and better returns could be made on the stock market; and fourth, in recent years, many of the GCC governments have carried out economic reforms, embarked on privatization and invested in infrastructural and industrial projects, which has improved the region's economic outlook.

In analyzing these factors, the high price of oil over the past two years, combined with high rates of production, has undoubtedly given rise to a huge surplus of petrodollars. The Saudi economy, for instance, earned $106 billion in oil revenues in 2004 alone. Although much of this revenue was used to balance fiscal budgets and fund large infrastructural projects, there is no doubt that considerable sums found their way into the local stock markets.

The average price of a barrel of oil in 2003 was $27 - the highest in real terms since 1990 - and this increased to an average of $33 in 2004. A recent econometric study on oil price/stock market correlation found that the oil price does play a role in determining the performance of GCC stock markets. This relationship was found to be strongest in Saudi Arabia and weakest in Bahrain, the region's most and least oil-dependent economies respectively.

In addition to the role of petrodollars in helping fuel recent stock market growth, additional capital may have been repatriated from offshore assets. It is thought that large sums of GCC capital - both public and private - have been discreetly withdrawn from U.S. assets after Sept. 11. For instance, a multibillion dollar law suit was filed against Saudi Arabia by the Port Authority of New and New Jersey and even though the U.S. District Court rejected the lawsuit, it has, nevertheless, caused some regional disquiet.

Even if repatriation or relocation of funds from the U.S. markets has been minimal, new GCC investment into the U.S. market is likely to be less than in the past. Further, geopolitics aside, investment return yields are higher regionally than they are in the U.S.

The weak U.S. dollar may also be helping contribute to the growth of the region's stock markets. Even though it may increase input costs for some regional companies - those that import goods or services from the euro zone - it has primarily resulted in regional banks offering little incentive to save and every incentive to borrow and speculate. As a result of the GCC-U.S. dollar peg, regional interest rates are broadly determined by those of the U.S. Federal Bank, which are presently very low. This may be another reason for why so many people would rather invest their money in stocks and shares as opposed to it sitting in a savings account.

More generally, regional economic developments are a key factor in determining the longer-term performance of the region's stock markets. The GCC governments are balancing their accounts, paying off their public debts, improving investment and capital laws, privatizing state assets and investing substantial funds on infrastructure projects. These infrastructural investments will foster longer-term economic growth. Many of these projects are non-oil based, such as the Dubai Waterfront Complex and the Dubai Financial Center. Government-funded projects benefit the whole economy by increasing demand for goods and services and providing employment. Such macroeconomic policies help attract increasing levels of foreign direct investment.

Such diversification away from oil and a broadening of the region's economic base should have a positive effect on its stock markets.

Emilie Rutledge is an economic researcher at the Gulf Research Center, Dubai.

Beirut,02 28 2005
Emilie Rutledge
The Daily Star
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