August was a challenging month for the Mena markets, which witnessed a broad sell-off because of a host of factors ranging from the drop in oil prices to devaluation of the Chinese yuan.
Second-quarter earnings have been in line with market expectation and management guidance also remains intact for the remainder of the year.
The Iranian deal is being seen both as an opportunity and a concern. We expect lifting of the Iranian sanctions will provide opportunities for trade and investment in Mena. However, the extra oil supply likely from Iran would maintain short-term pressure on oil prices. Iran’s commitment to the peace process and building trust among its neighbours will be paramount for regional stability and progress.
Oil prices entered a bear market with the West Texas Intermediate (WTI) and Brent benchmarks falling by 30 per cent in the course of the last three months. Concerns about global oversupply resurfaced as Opec members continued to pump at record volumes and US production was maintained.
Oil has not declined in isolation, other commodities such as steel, copper and aluminium have also been affected by a stronger dollar and soft growth in emerging markets. Negative sentiment due to potential Fed tightening and lower Chinese growth means commodity prices may not recover at a fast pace.
While softer commodity prices could stimulate growth in commodity importing countries, the negative intermediate effect on commodity exporters will cause concern. In such a scenario countries with strong balance sheets will stand out, and in this respect, GCC countries score highly.
It is difficult to forecast oil prices given the complexity and number of variables involved. But many industry experts believe that in the long run oil prices should finally settle about US$60 to $70 per barrel. It should, however, be noted that the Energy Information Administration (EIA) has lowered its WTI crude forecast to an average of $49 per barrel in 2015 and $54 per barrel for next year.
Banks in the Mena region reported decent numbers and the average guidance for loan growth in the region ranges between high single digit to low double digit, with provisioning continuing to decline across the board as banks move towards normalised cost of risk.
However, liquidity in the banking system is tightening with a decline in government deposits in the system. Even so, many banks have been successful in attracting offshore deposits in US dollars at a lower cost. Low interest rates and pressure on asset yields continue to affect the net interest margin for the regional banks, but we believe the trend should reverse after the US Fed interest rate increase.
In its latest publication, The IMF has revised its growth projection for Saudi Arabia, the largest economy in the region, to 2.8 per cent this year and 2.4 per cent in 2016 as government spending adjusts to a lower oil price environment.
As oil prices struggle to find a floor and sustainable level, loss of revenue for many regional governments is feeding into the economic system and governments are looking at measures to reduce budget deficits.
We believe the region has multiple tools to reduce deficits, and the IMF has suggested that options such as corporate tax, VAT, excise duty on imported cars and removal of the energy subsidies be evaluated in addition to reduction in expenditure.
The overall level of leverage for most regional governments is quite low and they can fairly easily raise debt to fund deficits in the near term. Many GCC governments also benefit from strong balance sheets and large foreign reserves that could be utilised if required.
Looking forward we believe stability in oil prices remains key to regional markets and that an interest rate rise at the Fed will be an important event for the global markets. The recent correction in the Mena markets has led to many fundamentally strong equities trading at compelling valuations.
The recent selling in Mena markets has been indiscriminate with fundamentally solid equities being sold regardless of underlying valuations. As oil prices stabilise we anticipate a gradual reversal of the recent declines.
Salem Khokhar is the head of fund management at NBAD