Dubai: Capital flows into GCC countries will remain largely resilient to recent capital flight from emerging markets, triggered by their weak economic fundamentals, global monetary policy tightening and strengthening dollar, according to the Institute of International Finance (IIF).
“Oil exporters [from the Middle East] are still seeing an increase in foreign inflows this year, unlike other emerging markets hampered by global monetary tightening and investors’ risk aversion,” said Garbis Iradian, Chief Economist, Mena of IIF.
The current account surpluses of the GCC countries are improving on the back of higher oil prices. While portfolio and other investment outflows are on the rise, mainly driven by the sovereign wealth funds of UAE, Saudi Arabia, and Qatar, inflows in 2018 are largely driven sovereign bond issuance. GCC countries raised $30.5 billion in Eurobonds in the first half of the year.
Although sovereign bond issuance from the GCC is expected to decrease due to lower financing needs, demand for the region’s sovereign and highly rated debt is likely to remain high as these markets stand out against the broader emerging markets trend.
“This comes as no surprise, as oil exporters present lower risk than other EMs due to their strong fundamentals, while presenting opportunities for regional diversification to bondholders,” said Iradian.
Despite growing emerging markets concerns, appetite for GCC debt was high. Oman and Saudi Arabia issued large tranches of sovereign debt earlier this year in anticipation of higher interest rates. After two years, Qatar also returned to international debt markets with a sizeable issuance of $12 billion. Bahrain, however, faced challenges in raising capital, as investors called into question the kingdom’s ability to meet its growing financing needs.
“Higher oil prices, durable US dollar pegs, relatively low debt levels, and ample foreign reserves make oil exporters less risky and less prone to emerging markets contagion,” said Boban Markovic, Research Analyst at IIF.
Despite the fast rise in bond yields across emerging markets, yields on GCC dollar-denominated bonds diverged to a lower trajectory, indicating lower perceived risk. Bahrain has been the only oil exporter with a significant increase in yields on 10-year dollar-denominated bonds, rising above 9 per cent before retreating to around 7 per cent on the back of announced support from its GCC neighbours.
Saudi Arabia experienced private sector capital outflows in early 2018 as the spread between the three-month Saudi Interbank Offered Rate (Saibor) and three-month London Interbank Offered Rate (Libor) tightened. Nonetheless, timely policy rate increases reduced the pressure on capital flows. Additional boosts to capital inflows came from a $6 billion-worth extension of a syndicated loan from 2016, but also from an $11 billion loan raised recently by the Public Investment Fund (PIF).
“As prospects of an Aramco IPO remain uncertain, we can expect stronger participation of Saudi Arabia’s sovereign entities [including the Public Investment Fund] in international debt markets,” said Iradian.
While capital flows into the GCC are also likely to be supported by equity inflows on the back of MSCI’s scheduled upgrade of Saudi Arabia, foreign direct investment (FDI) flows are likely to remain subdued in the near term due to political uncertainty in some countries and lack of progress in improving the business environment.