THE Saudi bourse (Tadawul) is easily the largest in the Arab World. In mid-December its market capitalization was around $313 billion, dwarfing that of the next largest, Kuwait, which had a market cap of $94 billion.
As a percentage of GDP (gross domestic product), the Tadawul’s market cap is around 67 percent of 2008 GDP or 82 percent of our forecast for 2009 GDP. The bourse is technologically advanced, and introduced the world’s first fully electronic market in the 1990s, comprising trading, clearing, settlement and depository, the Riyadh-based Samba Financial Group said in its latest report titled “The Saudi Stock Market: Structural Issues, Recent Performance and Outlook.”
The main Tadawul All-Share Index (TASI) reached its zenith in Feb. 25, 2006, when it closed at 20,635. The TASI is currently trading over 6,000. In 2008, the Tadawul was second only to London for new equity issuance, though Saudi IPOs (initial public offerings) dwindled rapidly after the intensification of the international financial crisis in October of that year.
The Capital Market Authority (CMA) is now the sole regulator and supervisor of Saudi Arabia’s capital markets, and issues the necessary rules and regulations to protect investors and ensure fairness and efficiency in the market.
For many years the Tadawul was open to only Saudi nationals. In December 2007, as part of the moves to establish a GCC common market, the Tadawul was opened to GCC nationals, though their participation remains limited as they have tended to focus on their domestic markets. Until 2008, non-Arab foreigners who were not resident in the Kingdom could only participate through few mutual funds. However, in August 2008 the CMA approved new rules that allowed non-Arab foreigners to participate in share trading through swap arrangements with local CMA-approved and licensed intermediaries, the Samba report said.
The small cap firms tend to be heavily traded by retail investors, who dominate the market. Retail investors accounted for 88 percent of buy transactions in November 2009 (essentially unchanged from a year earlier).
Saudi corporations accounted for just 7.0 percent of such orders, while mutual funds registered 1.5 percent. In large OECD (Organization for Economic Cooperation and Development) bourses, such as London’s, institutional investors tend to account for around 90 percent of transactions.
GCC and other Arab citizens accounted for 3 percent of buys, while foreigners resident in the Kingdom registered just 0.2 percent. Foreigners resident outside the Kingdom placed 1.2 percent of buy orders with a small number of transactions. This indicates that their average purchase was sizable, which fits the profile of large foreign institutions looking to buy and hold Saudi shares.
The long-standing dominance of retail investors has led to considerable volatility in the Saudi bourse. The middle part of this decade saw a vertiginous run-up in the TASI. This reflected a number of factors, but key among them was a huge influx of small first-time traders attracted by a number of under-priced IPOs.
Between 2003 and its peak in February 2006 the index gained a staggering 700 percent, with market capitalization soaring to $800 billion — around two-and-a-half times nominal GDP. At its peak, the Tadawul was the world’s tenth largest stock market by value, despite having only 78 listed stocks, many with a limited free float.
Unsurprisingly, valuations became increasingly stretched with the average price-to-earnings ratio reaching a high of 47 in late February 2006 (the ratio exceeded 100 for a number of companies). Expected corporate profit growth began to run ahead of actual results; this was compounded by annual reporting showing that many companies had invested heavily in the stock exchange and booked unrealized stock market earnings.
The correction, when it came, was severe, with the TASI losing half its value in less than three months, ending the year more than 53 percent below where it began. Between the peak and end-2006 nearly $480 billion was removed from the value of the exchange, equivalent to about 140 percent of 2006 GDP, the report said.
This pattern was repeated, to varying degrees, across most of the other GCC states. Abu Dhabi, Qatar and especially Dubai all witnessed tremendous surges in stock prices in 2005, before experiencing equally abrupt (and in some cases even steeper) falls, the Samba report said.
The key to deepening the market lies with institutional participation, particularly from foreign entities. Since 2005, the authorities have awarded investment banking licenses to a number of foreign banks, who have also been allowed to provide brokerage services. In August 2008, the CMA granted non-resident and non-Arab foreign investors the opportunity to buy Saudi shares for the first time.
The value of foreign swap purchases in October was $472 million — small perhaps, but up sharply from the $250 million recorded in September and the $45 million recorded a year earlier.
The run-up in the stock market during the middle part of the decade saw the TASI soar well above global equity benchmarks as speculators ignored fundamentals and gambled that prices would keep on rising. The subsequent crash saw the TASI lag global benchmarks for over a year. Since the beginning of 2008, the index has basically realigned itself with the direction of global equity markets.
This realignment did not prevent another serious period of turbulence in 2008.
Surging global equity markets and oil prices in the first part of the year prompted a spike in activity on the Tadawul. However, this was followed by an abrupt collapse in the second half as the global financial system seized up. Although not as severe as the correction in 2006, the TASI still shed 49 percent between June and December, ending the year at 4,800. Market capitalization fell to $244 billion. The biggest loser by sector was petrochemicals, which lost 63 percent of its value during the course of the year, with investors concerned about a global supply glut and an apparent shortage of gas feedstock in Saudi Arabia.
Although, the TASI initially tracked the benchmark higher, its recovery stalled in May as concerns about debt problems in the Saudi corporate sector began to emerge. Notwithstanding a pickup in September, when the TASI edged above the 6,500 mark, the stock market’s performance has been uneven, and has once again diverged from the broadly upward trajectory of global markets. Third quarter corporate results were subdued, with 12-month earnings per share growth down more than 30 percent, even though many firms beat analysts’ expectations. Profit-taking also contributed to the generally lackluster performance. More fundamentally, the limits on foreign participation meant that the Tadawul did not benefit from the level of inflows seen elsewhere in the emerging world.
This worked in the Kingdom’s favor when Dubai World made its shock request for a standstill on some of its $60 billion in debt in late November. The request was poorly received by creditors and sparked a major sell-off in global equity markets, as well as in the region. By Dec. 9 the main index of the Dubai Financial Market (DFM) was down 26 percent from the date of the announcement, while other Gulf markets had also taken heavy hits. Saudi Arabia, by contrast, had shed a comparatively mild 5.5 percent. In response to the Dubai announcement foreigners unwound many of their swap positions on the Tadawul in November, but at a net outflow of just SR385 million, this had little impact on the overall index, the Samba report added.
The Tadawul is rightly seen as having enormous long-term potential given the Kingdom’s abundant economic and financial assets and its favorable demographic outlook. With 20 percent of the world’s oil reserves, foreign assets of around 90 percent of GDP, and a young and fast-growing population, the stock market-and the economy more generally-represents an excellent long-term play, the Samba report said.
