After two record years, the Saudi equity market seems to be heading for yet another spectacular year — with no sign of a slowdown.
The Tadawul All-Share Index (TASI) has recorded an increase of over 95 percent so far this year. The rise in the first six months alone was 64 percent. The index is hovering around 16,000 points at present; it started on Jan. 1, 2005 at 8,206.23.
The creation of the Capital Market Authority, together with soaring oil prices and optimism about Saudi Arabia joining the World Trade Organization are the prime factors that have helped boost the Saudi stock market in 2005.
The CMA was established a little over a year ago to supervise and improve the standards of trading on the stock market. As it expands and moves into new fields, the CMA will continue to review and introduce regulations to protect companies and investors. This has given investors — small and large — confidence to invest in Saudi stocks.
Recently, CMA gained further credibility and traders’ confidence when it put a stop to the activities of certain investors and brokers over illegal activities, and imposed penalties on them. The continued monitoring and development of stock trade has undoubtedly contributed to the higher trading volumes, market index and overall improved investment climate.
CMA Governor Jemaz Al-Suhaimy told delegates at a recent stock market conference in Riyadh that the Saudi bourse is 16th in the world’s 50 largest stock markets. “The market grew by an average of 38 percent annually and 95 percent this year,” he said.
Al-Suhaimy emphasized the CMA’s efforts to increase transparency in the Saudi financial market and make it more organized, adding that it would issue four new important regulations shortly.
The Saudi stock market continued its rally after the Kingdom was given formal approval to join the WTO earlier this month. Traders believe Saudi stocks will continue to rise further as a result of membership.
“You may have noticed,” said Brad Bourland, chief economist of Samba Financial Group, “that the day Saudi Arabia was officially accepted as a new member of the WTO, the stock market had a very positive reaction. I think the market accurately perceives that the WTO will mean greater growth for the economy, and thus greater profitability for the companies listed on the exchange. To me, there is no doubt that membership in the WTO will be good for the market as a reflection of the overall good that will come to the Kingdom.”
Faisal H. Alsayrafi, the president and CEO of Financial Transaction House (FTH), agrees with Bourland’s views. “The economic and social development advantages of joining the WTO are plenty,” he said. “We are bound to see corporate restructurings and M&A (mergers and acquisitions) activity with global financial and industrial conglomerates, which in turn will increase global coverage and interest in the economy as one of the fastest emerging markets.” Ideally, he says, stock market development is a mirror reflection of a growing economy and earnings potential of listed companies. “Aside from higher indices, the stock market is set to attain a leveled and attractive stability.”
For Alsayrafi, as for all Saudi economists and businessmen, the petrochemical sector is the prime catalyst for developing the Saudi economy. But that is not all. “WTO accession will augment the integration of the local industrial sector into various fields, yielding greater comparative and cost advantages for international trading and macroeconomic balances. Global energy magnates expressed a watchful interest in Saudi petrochemical services. Under the prudent government reforms, the petrochemical industry will generate higher earnings and direct benefit to other derivative sectors.”
Bourland believes that the profitability of the petrochemical industry depends more on the global market and prices of petrochemicals than on domestic factors in Saudi Arabia. The Kingdom’s petrochemical companies, however, will now be able to use the WTO’s dispute resolution mechanisms to challenge high tariffs that some countries apply to Saudi Arabia’s petrochemical exports. “So there is that specific advantage for the Saudi petrochemical industry, but by and large, the main drivers of the industry are global, not local.”
It is confidence all round, not least in the banking sector where, as Basil Al-Ghalayini, CEO of BMG Financial Advisors, points out, healthy profits in 2004 have continued into 2005 for the country’s commercial banks. “The windfall from high oil prices is generating sufficient liquidity in the Kingdom and helping local banks to maintain a growing momentum,” he explained.
But it is more than high oil prices that are fueling the banks’ profits. “The Saudi stock market witnessed an increase in demand for bank stocks. Investors expect that banks will benefit most from the Kingdom joining the WTO, in addition to the fact that the growth in the banking sector was highest in the third quarter of 2005. It was 74 percent up on the same period of 2004, whereas the profit of all companies increased by only 41 percent in the same period. The bank stock index increased by 21 percent in the last four weeks compared to a 9.7 percent increase in the overall market index,” he said.
National Commercial Bank Senior Economist Muhammad Younas Malick is equally positive. “When assessing bank stocks on a price/earning (PE) basis they are still 15 percent cheaper than the overall market,” he said. “The 35 percent growth in banks’ earnings is sufficient to support the current prices.”
Bourland is also in confident mood. “The banks are performing well this year, along with the market in general. Underpinning the strength of bank stocks,” he said, “is strong profit growth for the banking sector and excitement generated by new players in the market and the deepening of capital markets by the CMA.”
According a report by the NCB, since the end of 2000, investors in the Saudi equity market reaped a 495.8 percent gain on the rise in share prices — and that is quite apart from dividend payments of around 2.5 percent annually and around one percent from the distribution of free bonus shares. For investors on the Saudi stock market it has been a good time; the overall wealth of those investments increased by well over 500 percent during the last five-and-half years through to June 2005.
In the 12 months to June 30, 2005, the TASI rose by 135.5 percent to close at 13,454.77 points. High profitability growth of around 45.5 percent in 2004, low interest rates along with high liquidity, higher oil prices and the ripple effects on the various sectors of the domestic economy are the major drivers of the Saudi equity market this year. Although the flotation of Bank Albilad, Saudia Dairy & Foodstuff Co. (SADAFCO) and the National Company for Cooperative Insurance (NCCI) together brought into the market 76.5 million new shares and drew around SR2.6 billion from investors this year, high liquidity and strong profitability are underpinning investor confidence.
There are four factors, according to Malick, responsible for the phenomenal growth in Saudi equity prices:
• Around 40 percent corporate earnings growth;
• Low interest rates and high bank lending to both corporate sector and consumers;
• Strong overall economic growth on the back of high oil prices and private sector business investments;
• High liquidity growth and money creation by banks.
“All these forces are acting together to push the market up and up,” he said. “The market valuation is hovering around a PE of 38, which suggests occurrence of intermittent profit-taking along the upside line. However, the possibility of market going for a deep correction is remote unless oil prices fall below $40 a barrel and erosion appears in corporate profits.”
The overall average PE valuation gradually edged up from 25.69 at the end of December 2004 to 33.04 on June 30, 2005. This implies how ambitious, even over-ambitious, investors in the Saudi market are, continuing to bid higher prices and paying an additional 28.6 percent to buy Saudi stocks than they were doing at the end of December 2004.
However, as Bourland points out, the stock market has tracked very closely the rise in oil prices, so that is “the main psychological driver” behind the runup in the market. Other important factors are “the rise in domestic liquidity, relatively uninteresting performance of other markets around the world, strong corporate earnings growth of the companies listed on the exchange, and the IPO (initial public offering) activity.”
He added that “So far, all of the IPOs have experienced strong rises in price from the initial offering price.” The authorities too, he says, have been careful to ensure that IPO valuations are not exaggerated and that all new issues are widely available to the Saudi population. The result is that every IPO thus far has been “quite a success story.”
For private family businesses, the near mania for owning shares make these interesting times. The question should they convert and go for IPOs has never been more pressing. They could stand to make millions. “It really depends on the circumstances of each family,” says Al-Ghalayini. “There is a saying ‘Raise money when money is available not when you need it’ — and money is now available in the Saudi market. Therefore, it is an appropriate time for family business to consider going public.”
Moreover, there is, he suggests, the fact that “family business IPOs help such businesses in becoming more transparent which will facilitate their demand for credit and will help them attract more investors and raise additional capital. Also, it will help them establish strategic alliances with international partners.”
But Malick has a word of warning.
“After the transitional period, family businesses particularly in the trading segment will likely face increased competition from international mega-companies,” he said. “One way the family businesses can prepare themselves is to look for domestic mergers, both horizontal and vertical, to reduce unit costs and compete better.”
It is not just the Saudi stock market that has been bullish. All Gulf stock markets have flourished as well. “Almost all GCC countries’ stock markets had positive correlation in their growth for this year,” notes Al-Ghalayini — though hardly surprising given that their economies are similar in terms of the markets’ link to the oil and gas sector.
It has been a year of exceptional growth. All Gulf markets have seen it. What has made it all the more so for the Saudi market is that it is the largest, most liquid and has the most blue chip companies listed. As Bourland points out, the market capitalization of the Saudi stock market is more than the rest of the GCC stock markets combined, “so there is no doubt that the Saudi market is the major GCC market.”
The market capitalization of the Kingdom’s 76 listed stocks reached around SR1,940 billion ($517 billion) on June 30, 2005, compared to SR1,149 billion ($306 billion) at the end of December 2004, adding SR791 billion ($211 billion) to the wealth of investors. Adjusting for incremental market capitalization due to new listings, the wealth impact was equal to SR782 billion ($208.5 billion) during the first six months of this year. The market capitalization as a percentage of estimated nominal GDP reached 189.3 percent on June 30, 2005, compared with 122.4 percent of the total nominal GDP of SR939 billion for 2004. This suggests that the market depth is rising rapidly to a point where speculative trading is dominating market activities. That is the one issue to worry about.
Meanwhile, eight listed companies increased their paid-up capital by issuing 250.65 million bonus shares during the past six months. These companies, which increased their paid-up capital, are SABIC (one bonus share for each three shares), NIC (three for five), Riyad Bank (one for four), the Saudi Investment Bank (one for four), Al-Rajhi Banking & Investment Corp. (one for one), Arab National Bank (one for four), and Saudi Industrial Investment Group (SIIG) (one for two). In addition, three new IPO issues brought 76.5 million new shares to the market. The total supply of shares increased 12.6 percent to 2.93 billion at the end of June 2005, from 2.6 billion at the end of December 2004.
It is little wonder then that the whole country seems to have caught share fever, leaping into every new IPO with gusto. It is a bull market out there.