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Volatility creates opportunities
A look at why regional markets have crashed and what investors can do about it.
While the sharp market declines across the region in 2006 were largely anticipated, the carnage witnessed by the GCC equity markets in the past few weeks has caught almost everybody off guard. The market slide that seemingly started as a result of the conventional summer doldrums turned into a freefall due to a confluence of a number of factors.
The MSCI GCC Index - a benchmark that measures the performance of the GCC equity markets - is down 29% year to date and has shed an even more alarming 33% since touching its recent peak in January this year.
Markets across the region have been battered with Saudi Tadawul Index now showing a negative year to date return of around 32%. UAE has also been adversely affected with the DFM down 34% YTD and the ADSM down 18% YTD.
What happened?
What has changed? We examine some of the factors that have come together to spoil the party for the regional investors.
Given the fact that we now live in an increasingly globalised financial market, we could not have escaped the international markets turmoil which has had a negative knock on effect on regional equities. Low correlation with international markets has been a major attraction of regional equity investing. However, as the markets have continued to deregulate and open up to foreign investment, the correlation has increased and is set to rise further in the future.
Most of the foreign money managers that had flocked to the regional equity markets in search of healthy returns just about a year ago started fleeing some time during the summer. Although foreign fund flow into the region had turned negative since the early part of this year, the trend gained momentum in mid summer.
Global fund managers who were reeling from continuing losses in developed as well as emerging markets and were facing redemptions from their client base, started unwinding their positions in the GCC markets in a major way.
The change in the direction of the international fund flows unfortunately coincided with the traditionally low activity summer months when most of the major domestic investors migrate to cooler destinations. This started a decline in the GCC equity markets which accelerated as fear started to grip the markets. The trend was further aggravated as some of the leveraged retail investors started facing margin calls and forced liquidations started.
The spate of corporate scandals that emerged out of Dubai also rattled the markets. This resulted in a "confidence of crisis" of sorts in Dubai and the selloff intensified across the UAE bourses.
When we add the fears of a "correction in the Dubai real estate market" and "rapidly declining oil prices" to the concoction, we have the recipe for the perfect storm that the UAE bourses in particular and the wider GCC region in general have faced over the traditionally quite summer and Ramadan season. UAE real estate and real estate related stocks have been particularly hard hit during this down turn.
Hedgies caught on to this trend early and started short selling the markets. Although shorting is not allowed in the regional markets, tools are now increasingly available to sell (borrowed securities) that you do not own.
Another significant - probably less talked about - factor that has been at play over the past few months has been the unwinding of the "reval" trade that many investors had placed in anticipation of a revaluation of the regional currencies.
Over the past few months, central banks have made it clear that revaluation is off the table, at least for the time being, which has resulted in negative fund flows for the region. Amidst all of the above, the precipitous fall in oil prices - down 32% since their peak at the beginning of July - has also not helped.
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