By Sarah Townsend
As Kuwait stares down its first deficit in 20 years, the Gulf state is relying on its financial sector to help navigate choppy fiscal waters. Delayed plans to privatise the Kuwait Stock Exchange are finally on the home stretch and could prove vital to the country’s recovery
Kuwait banking leaders gathered in the city last month to discuss one of the most exciting reforms in the industry toolbox: the planned privatisation of the country’s stock exchange.
Kuwait has been considering an initial public offering (IPO) of Kuwait Stock Exchange (KSE) for years but has met with political resistance and bureaucracy, delaying implementation.
Now — more than six years after the proposals were ratified, albeit with a different structure to that now on the table — the plans are finally gathering momentum.
On October 3, a few days after the meeting of sector leaders and politicians at this year’s Euromoney conference in Kuwait City, Boursa Kuwait Securities Company (BKSC, or Boursa Kuwait) was handed the official licence to take over KSE.
The privately managed Boursa Kuwait was set up in 2014 with the purpose of assuming responsibility for the management of KSE’s activities. Its board of directors replaced KSE’s committee following a transition period that ended on September 30.
The company says it will now work on developing KSE’s market status and creating a transparent capital market platform that serves a variety of asset classes and operates to robust international standards.
Following Boursa Kuwait’s first day trading as the official operator of the market, Nayef Falah Al Hajraf, chairman of the CMA Board of Commissioners, said in a statement: “Today we have taken the first step on the road to privatising [KSE] and are looking forward to working closely with Boursa Kuwait’s management on making further progress.
“This will include the development of investment tools, restructuring the market to increase its competitiveness, working to increase liquidity and attract investments, collaborating with other government stakeholders and determining a stake for an international operator.”
The first step was a Boursa Kuwait-run consultation on the market makers (banks or brokerages prepared to buy and sell a number of shares on a regular basis, providing liquidity) ‘rulebook’, which closed earlier this month.
The consultation outlined several proposals to regulate the stock market. Among them are plans to introduce a ‘stock swing’ limit of 20 percent for the maximum daily rise or fall of individual stocks by November, Boursa Kuwait CEO Khaled Abdulrazzaq Al Khaled said.
Privatisation of the stock exchange is viewed as a key plank of Kuwait’s plans to strengthen its financial sector and diversify its economy away from oil. Figures from the Ministry of Finance in December revealed the worst balance sheet in two decades — a 46.3 percent decline in revenues to around $37.6bn over the first nine months of the fiscal year ending March 2016, with oil accounting for 92.5 percent of that.
Capital Economics’ latest MENA economic outlook, published in July, claimed that Kuwait’s economy would remain “sluggish” as low oil prices persist, with forecast growth of just 1 percent-1.5 percent over the 2016-2018 period.
Like other Gulf countries, Kuwait is under pressure to limit public spending. However, a report by BMI Research last month predicted that, unlike its neighbours — Saudi Arabia in particular — Kuwait would implement only limited reforms because “its parliament will block many of the targeted cuts”.
With falling revenues and limited cuts in spending, BMI said, Kuwait’s fiscal balance is predicted to turn negative in 2016 and remain so for three years until 2019, when oil prices are expected to recover sufficiently to bring it back into surplus. The International Monetary Fund (IMF) estimates that Kuwait’s budget deficit will reach 13.5 percent of economic output in 2016.
However, Kuwait is in a stronger economic position than many of its GCC neighbours. The country has large foreign reserves — foreign assets held by sovereign wealth fund Kuwait Investment Authority (KIA) stood at $59bn at the end of 2015, according to the Sovereign Wealth Fund Institute — “more than enough” to cover the forecasted temporary budget deficits, said BMI. Public debt, estimated at only 4.4 percent of GDP in 2015 by IMF, is expected to remain negligible over the decade.
Still, the government is preparing for broad economic reform. On the back of the alarming Ministry of Finance statistics, ministers unveiled a six-point strategy aimed at restructuring the economy over the next five years. The measures range from fuel subsidy cuts to the imposition of value-added tax (VAT) and road tolls. There are also planned measures to maintain fiscal stability, including the introduction of corporate, income and sales taxes.
Reform of banking and capital markets legislation is high on the agenda. Kuwait’s financial sector is expected to be a key driver of economic growth and new regulations, such as those enabling privatisation of the stock exchange, are being introduced to strengthen capital markets, increase liquidity and attract foreign investment.
Al Khaled told reporters that, as well as the stock swing limit, KSE would introduce a ‘circuit breaker’ mechanism allowing for brief halts in trade with every move of 5 percent. At present, the range of limits for stock movements varies depending on the level of stock prices. The final set of regulations for a KSE market maker will be published by the end of the year, Al Khaled added, while in 2017 Boursa Kuwait will look at drafting new rules around short-selling, stock market lending and borrowing, and market segmentation.
Share sale details for the IPO have yet to be confirmed but under a draft version of the plan, half of the KSE will be sold to citizens while the rest will be split between various government entities and a private company with experience in operating stock exchanges, Oxford Business Group said in a recent paper. The initial proposal had split the sale 50-50 between citizens and investors.
Meanwhile, Boursa Kuwait is working with the CMA to establish a secondary market for small and medium-sized enterprises that would open in 2017.
Al Khaled said: “We are focussing on enhancing liquidity, improving risk management and corporate governance and ensuring listed firms operate according to international standards.”
By privatising KSE, the CMA hopes to improve the bourse’s competitiveness in the region and globally. It is the oldest stock exchange in the region, established in 1962. Firms listed on the exchange include Gulf Bank, National Bank of Kuwait (NBK), Commercial Bank of Kuwait (CBK) and Kuwait Projects Company (KIPCO).
However, it was reported last year that a rise in delistings was undermining KSE’s competitiveness and threatening to widen a gap with rival bourses such as Dubai Financial Market (DFM) and Saudi Arabia’s Tadawul, where economies are dynamic and stock prices robust. The value of traded shares fell 40 percent in the year to September 30, from $10.6bn to $6.5bn.
From 211 listed firms at the start of 2014, by September 2015, 24 had announced plans to delist, according to Reuters. The exchange enforced the delisting of a further five firms either because their shares had been suspended for too long or their accumulated losses exceeded 75 percent of capital.
There were only two new listings by the end of the 2015, said Reuters — telecoms firm VIVA Kuwait and Mezzan Holding — placing KSE at a disadvantage when compared to other Gulf exchanges, which are on the whole growing. Kuwait policymakers are therefore under pressure to boost trading and make the exchange more attractive to investors. Al Khaled said an application to receive MSCI emerging market status was in the pipeline, and other pieces of financial legislation are being introduced to bring KSE in line with global standards.
For example, last year, the government ratified amendments to capital markets regulations to allow for greater foreign ownership. Shortly after, Saudi Telecom acquired an additional 25.8 percent holding in VIVA for $424m, taking its total shareholding to 51.8 percent and injecting nearly half-a-billion dollars into the market.
Other new pieces of banking legislation have been adopted recently, the governor of Central Bank of Kuwait (CBK) told delegates at the Euromoney conference in Kuwait City last month. Dr Mohammad Yousef Al Hashel proclaimed: “The banking system is in a state of flux amid evolving risks — necessitating the need to continuously upgrade our regulatory regime.
“We have enhanced our capital adequacy regime to strengthen banks’ loss absorbing capacity, put up additional capital requirements for our systemically important banks and introduced a capital conservation buffer and countercyclical capital buffer to enable banks to contain the build-up of risk.
“We have also introduced a simple leverage ratio as a supplementary measure to ensure banks do not become overly leveraged, and two new liquidity standards to make banks’ funding structures more stable.
“Finally, we have strengthened our supervisory capacity to enable us to more vigilantly examine compliance with our regulations, and issued comprehensive guidelines to make banks’ corporate governance more robust.”
The Central Bank of Kuwait’s latest Financial Stability Report, for 2015, says banks’ non-performing loan ratio steadily declined to reach 2.4 percent — a “historically low level”, Al Hashel said and suggested Kuwait’s banking system has remained stable despite challenging economic conditions.
The report also showed banks’ coverage ratio climbed to 204 percent as of last year — “a record high” and substantially higher than the pre-crisis ratio of 87 percent in 2007, Al Hashel said.
“In terms of newly introduced liquidity coverage ratio, our banks are comfortably above the minimum benchmark of 100 percent required [as per international banking standards] by 2019, and on the capital adequacy side, the banking system has stayed robust at 17.5 percent.
“Banks’ overall leverage ratio at 9.7 percent is also substantially higher than the 3 percent global benchmark — indicating that Central Bank of Kuwait’s focus on financial stability has by no means restricted banks’ ability to support economic activity in Kuwait.”
Ratings agency Moody’s latest outlook for the Kuwait banking sector, published in September, on the whole backs Al Hashel’s positive report. The outlook is “stable” for the next 12-18 months, reflecting Moody’s expectation of continued government spending and growing loss-absorbing buffers. The report forecasts non-performing loans of around 3-4 percent of gross loans for 2016-2017, while profitability will likely remain unchanged.
Alexios Philippides, assistant vice-president and analyst at Moody’s, says: “Spending by the Kuwaiti government, even as oil prices stay low, will maintain growth momentum and support operating conditions for the country’s banks.
“Execution of the government’s new five-year development plan will drive new business for banks, while domestic consumption will remain strong, supporting our projections of 7 percent credit growth.
“Furthermore, enhanced loss absorption buffers — 3.8 percent of gross loans as of year-end 2015 — will allow Kuwaiti banks to manage new problem loan formation. Nevertheless, downside risks to asset quality will remain elevated, owing to high credit concentration and banks’ exposure to real estate and equity markets.”
Commercial Bank of Kuwait (CBK) chairman Ali Mousa Mohammed Al Mousa used the Euromoney conference to complain that Kuwait’s banking regulations were “restrictive” and suffocate growth. But Al Hashel hit back, and said the claim was “incorrect”. “By definition, regulation is supposed to be restrictive,” Al Hashel said.
“It is a way of organising the system to prevent [market players] from taking excessive, uncalculated risks. However, we are trying to strike a balance to give banks the breathing space to innovate and experiment. The phrase ‘restrictive regulation’ is not in our dictionary.”
Omar Alghanim, chairman of Gulf Bank and CEO of Alghanim Industries, agreed, and told reporters Kuwait’s banking system was “super solid”.
“There’s a tremendous amount of liquidity (KD5.7bn, or $188bn, according to Kuwait Central Bank) and with 17.5 percent capital ratios this is among the highest in the world.
“The capital adequacy of banks reflects the buffer that’s there within a bank’s balance sheet to withstand turbulence in the road ahead.”
Alghanim said infrastructure was a woefully underinvested sector that, if properly financed, could present new opportunities for banking. “The mistakes we’ve made with infrastructure in the past are, first of all, serial underspending,” he said. “China for the last 20 years has spent around 15 percent of GDP on infrastructure; in the GCC, we’ve spent on average 5 percent of GDP.
“Second, we always make infrastructure schemes into these very large, all-encompassing mega-projects that take years, and committees, to put together and then finally come out in this huge lump and soak up liquidity in the marketplace.
“My recommendation to policymakers would be to have bite-size infrastructure — bridge by bridge; road by road, plant by plant, rather than city by city.”
Meanwhile, Hamad Al Hasawi, secretary-general of industry body the Kuwait Banking Association, tells Arabian Business his group was pressing the government for robust laws around Islamic finance and mortgages — neither of which exist, he says — and to see a privatised bourse “improve liquidity and efficiency in the marketplace and prompt more innovative and creative ways of managing the banking system”.
Kuwait is on the right path to achieving its goal of becoming the next major Gulf financial centre. But it must be quick with its reforms to avoid falling off the map.