Gulf countries to ease US monetary policies Hawkish, with strong liquidity and profitable banks
U.S. Federal Reserve officials signaled an interest rate hike from March on Wednesday, the move being driven by high inflation, a tightening labor market and the economy’s rapid rebound amid restrictions in the event of a pandemic are relaxed.
Although international investors are nervously eyeing the Fed’s next move, Gulf financial researchers remain positive about the region’s outlook.
Soaring oil prices shield Gulf economies from tightening US monetary policies, as it provides them with high liquidity.
A strong banking sector and commodities market should also benefit positively from the Fed’s upcoming actions, according to Jaap Meijer, head of research at Arqaam Capital.
“While we are cautious about the US stock market as lofty tech stock valuations dissipate, we remain constructive on GCC (Gulf Cooperation Council) stock markets,” he said, adding “We expect GCC monetary policymakers to mirror U.S. Fed rate hikes entirely (as in Saudi Arabia or the UAE, whose currencies are pegged to the dollar) or at least partially (in other GCC countries).
“However, GCC banks, which make up 40% of the region’s indices, will benefit hugely from higher net interest margins, especially Saudi banks.” he points out, the profitability of banks tending to increase with high interest rates, which boosts their net margins.
Meijer nevertheless warns that he is cautious on Egyptian stock markets.
“Egypt has a low single-digit current account deficit and is heavily dependent on the dollar, despite strong foreign exchange reserves. We expect fiscal and monetary policy to be managed very tightly and that we could see a rate hike by the end of the year, which will likely weigh on equity valuations as Treasuries remain an attractive alternative for local investors,” adds Meijer.
As for regional commodities, rising commodity prices, especially aluminum and urea, will continue to support the Gulf commodities sector, Meijer says. Urea has important uses as a fertilizer and dietary supplement. It is also a raw material for the manufacture of plastics and medicines as well as batteries.
This would result in higher index weightings which should continue to support valuations in Qatar and Saudi Arabia.
“We believe M&A arbitrage and continued economic reform is a tailwind,” he added.
While international bond markets will be negatively affected by rising interest rates, the GCC will be able to mitigate the impact.
Bond markets are fixed income instruments used by corporations and governments as a borrowing tool.
“Liquidity will most likely become less abundant as asset purchases end in early March, while balance sheet liquidation begins after rates begin to rise. Nonetheless, credit spreads in the GCC are likely to remain tight on a strong liquidity, with nearly all governments running large budget surpluses while oil prices remain high,” Meijer points out.
Local sovereign wealth funds in the region will continue to internationalize and diversify their holdings.
“They can afford a risk-based approach, taking advantage of potential markets like the United States. The Fed is tightening its monetary policy,” he concludes.