Saudi Arabia's June Stock Market Surge Looks To Middle East Diplomatic Crisis For Direction 1

Commodity-exporting nations have had quite a difficult time in the past few years as commodity prices spiraled downward. From its peak of the past four years on June 20, 2014 to its trough on February 11, 2016, the Thomson Reuters/CoreCommodity CRB Index had halved in value. From that peak three years ago until June 27 this year, the index is still down by 45.7%.

Saudi Arabia has felt the impact of the fall in crude oil prices on its economic output as shown in the graph above. Based upon the projections of BMI Research presented in the graph below, even after a potential rebound in the next two years after negative growth this year, economic growth will still be much slower than in the past.

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Saudi equities have gained

If one were to look at the performance of the iShares MSCI Saudi Arabia Capped ETF (KSA) this year, it would not seem reflective of expected negative growth this year. The fund has returned 9% this year after having been down 2.7% as recently as June 14. Two major developments have led to a surge in stock markets of Saudi Arabia in the past two weeks:

  • The possibility of inclusion of Saudi Arabian equities in the MSCI Emerging Markets Index from 2019
  • The elevation of pro-reformist Mohammed Bin Salman as the crown prince of the Kingdom

Can the rise continue?

Even after efforts to support crude oil prices by extending the decrease in production until March 2018, increased output from Libya and Nigeria has had a depressing impact on oil prices, which, in turn, puts downward pressure on stocks from the Kingdom.

The other – and currently more prominent issue – is the Middle East diplomatic crisis with Qatar and Saudi Arabia leading the group of nations which have isolated it.

The impact of the crisis is quite visible on Qatari equities as shown in the graph above. But can other stock markets remain immune to the developments?

Apart from the fact that recent developments have given Saudi equities reasons to rejoice, the reform efforts being made by the Kingdom have emboldened investors to invest in the country. At this juncture, there is hope that an eventual solution can be found for the diplomatic crisis which would benefit KSA’s markets which are still relatively cheap at a price-to-earnings ratio of 15.

However, if the crisis drags on for long, it will lead to an exodus of investors due to fears of reduced liquidity as a result of the political uncertainty. In the broader emerging market universe, there are several prospects which can provide greater value to investors with less political risk.

So a slow growing Saudi Arabia is not as much a problem for its stocks as the ongoing diplomatic crisis. A speedy resolution will provide another major boost to equities which have had several reasons to celebrate.

In the next article, let’s turn our focus to the two countries from Africa which have been highlighted in the graph above highlighting countries currently experiencing exceptionally weak growth by historic standards.

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