26/04/2015 00:39 AST
he Saudi regulatory authority (Capital Market Authority)’s confirmation of the date for the opening up of the market for direct market access by qualified foreign institutional investors (QFIIs) is greeted with very positive market reaction across all sectors.
The move holds significant potential for the market’s growth and importance over the coming years, Deloitte said in a study.
However, it said “while the announcement is certainly positive, we would be careful to temper our enthusiasm in the short term. With the index trading at 15.8x 2015 P/E and close to its recent peak, we believe the near-term upside will be limited. The index is likely to cross above the 10,000 mark, but how much it can sustain above this level, and for how long, is difficult to estimate.”
Deloitte recommend investors lock in gains before the June 15 effective opening date. By this stage, “we expect the market to have more than priced in the long-term positive impact from QFII access.” Moreover, the initial impact from QFIIs entering the market will probably be underwhelming. Due to the long-only nature of many QFIIs and the slightly rich valuation multiples in the Kingdom, the initial entry is unlikely to be aggressive. The Saudi market has significant depth (around $2.5 billion per day in the past year) leaving it much less susceptible to QFII trading, at least in its initial few years.
Deloitte favored exposure remain consumer stocks and banks. “In the former, we recommend Fawaz Abdulaziz Al Hokair, Jarir Marketing and Almarai; our favored bank is Samba Financial Group. We also highlight our preferred telecoms exposure, Saudi Telecom Co. Given the sentiment driven nature of the rally, we note that retail favorites Al Rajhi Bank and SABIC should also fare well. However, for the latter two names, we would recommend a short-term focus only, as the underlying fundamentals are weaker.”
Concerns related to low oil prices, coupled with the more recent concerns over QFII access being delayed, have led to a significant outflow of funds from foreign investors. Such outflows have been the largest since Saudi allowed investors to access single securities through swap products back in 2009.
However, Deloitte said concerns over the impact of oil prices on the Saudi economy are overblown. With government expenditure remaining elevated, non-oil GDP growth will remain robust, Deloitte said, noting that this is a far more important driver of corporate earnings growth. Over time, the confirmation of QFII access should also lead to better inflows. “As a result, we would expect the significant outflows to reverse and improve, but this process will be a gradual one. We do not expect foreign inflows to see significant improvement until valuations become more attractive. In the short term, the rally will be driven primarily by local investors.”
A confirmation of economic activity being sustained should help reverse some of the 15% earnings downgrade since December 2014. Not all the downgrades will be reversed, given that the heaviest cuts to forecasts were in the petrochemicals sector, which accounts for 17% of market capitalization. With the outlook for oil prices still difficult, earnings here will likely remain under pressure.
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