The announcement by MSCI last June that it would upgrade Qatar and the UAE from frontier to emerging market status set both equity indices into hyperdrive.
In the following 12 months they gained close to 100% and 50%, respectively, as passive and active managers steadily built up positions ahead of the formal transition, at the end of May this year.
As a result, when the May deadline came and went, many passive funds were already fully invested, disappointing those investors anticipating a surge of late buying.
This, combined with the flare-up of activity in Iraq by Jihadist group the Islamic State of Iraq and Syria (Isis) and the scare around the precipitous share price decline of construction firm Arabtec in the United Arab Emirates (UAE), led many investors to take profits.
The fifth largest stock on Dubai’s main bourse, Arabtec lost 60% of its value following the resignation of its chief executive officer, Hassan Ismaik, this June and the selling of shares by a key state-owned investor, Aabar Investments.
The move brought to mind the 2009 near-debt-default of state-owned property firm Nakheel, part of sovereign fund Dubai World, which has more than $30 billion of debt repayments to make this year.
The fall of Arabtec pulled down the UAE index – by the end of June it had lost 26% from its high in early May – while the Qatar Exchange Index lost 16% in June
But Julie Dickson, head of client portfolio management for equities at Ashmore, notes that both indices are climbing again, with S&P now talking about including them in its emerging markets index.
Moreover, the countries also benefited from a rush of optimism that greeted the July announcement that Saudi Arabia would open it’s $530 billion equities market – comfortably the largest in the region – to foreign investors next year.
Despite the scale of gains in the past year in Qatar and UAE, equity managers remain confident about their longer-term prospects.
Qatar has estimated it will complete $220 billion of infrastructure investment between now and 2022, when it is due to host the FIFA Football World Cup.
Banks, conduits of much of this investment, are a popular choice for investors. The three largest – Al Rayan, Qatar National and Qatar Islamic – comprise just under half of the index, with Al Rayan alone amounting to 29%.
Return on equity of these leading firms is close to 20% at present, with price-to-book ratios affordable at between 1.5 and 2, according to Matthew Beesley, head of global equities at Henderson.
“These are the most liquid stocks and they don’t look that expensive if current returns are sustainable,” he said.
With foreign ownership of Qatari equities standing at just 5%, investors are also protected against the type of price swings that followed sudden foreign investor withdrawals in emerging markets last summer.
Additionally natural gas, Qatar’s major export which accounts for 60% of GDP, benefits from long-term contracts, providing macro investors with clear visibility on the reliability of the economy’s long-term revenue stream.
According to Dickson, this means infrastructure investment is guaranteed even if the World Cup is not. FIFA, world football’s governing body, is currently reviewing the process by which Qatar was awarded the tournament.
“Winning the world cup wasn’t the catalyst for new funding, it just provided a timeline to deliver funding that had already been pledged,” said Dickson. “Whether it hosts the World Cup is not material to this in our view.”