Saudi Arabia officially opened its stock market to foreign investment on Monday, in what’s being billed as a potential game changer for emerging markets investors. The country’s Capital Markets Authority finalized the rules for direct foreign investment in early May, although plans had been in the works for quite some time. Summarizing, qualified foreign investors (QFIs) are defined as institutions with at least $5 billion in AUM and five years of experience, no QFI can hold more than 5% of a single issue and no consortium of QFIs can hold 20% or more in a single stock.
Saudi Arabia hopes the liberalization of its stock market will pave the way for MSCI EM benchmark inclusion, a process which in all likelihood will take at least two years. Here’s a look at how the Saudi market stacks up in terms of both daily trading volumes and relative size...
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...and here’s a bit on valuation and sector weights…
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To be sure, the move to allow direct foreign ownership of domestic equities couldn’t come at better time. Falling crude prices and military action in Yemen have weighed on Saudi Arabia’s fiscal position and the country is quickly drawing down its petrodollar reserves.
Citi has more on the economic situation facing Riyadh:
King Salman has clearly signaled the priorities for his administration since succeeding from King Abdullah in January. All indications have been that the Kingdom will stay the course on oil policy, protecting market share and not intervening to support global oil prices. For Saudi, this means having to deal with the consequences of significantly lower oil prices — Citi’s forecast is for Brent to average US$54 per barrel in 2015. At this price, we expect total Saudi government revenues to fall by some 41% in 2015. We believe that as a result it is highly likely that Saudi will cut expenditure sharply next year. According to our calculations, if Saudi Arabia were to maintain the same level of spending this year as it did last year, the budget deficit would balloon to US$130bn, or 22% of GDP. This would be unsustainable, in our view, with fiscal reserves covering just three years of such levels of expenditure. It would also be three times the level of deficit the government has budgeted for. We therefore think it is likely that total expenditure will shrink by around 20%, bringing the overall deficit to 13% of GDP.
And here's more color [9] from Tim Fox, head of research and chief economist at Emirates NBD:
The sharp decline in oil prices since last summer has had an immediate and significant impact on the country’s fiscal position. Last year’s budget included the first deficit in 12 years at 65.5 billion Saudi riyals (minus 2.3 per cent of the GDP), and the deficit is likely to have widened this year to about 12 per cent. In addition to further weakness in oil prices in the first quarter of this year, government spending has likely been higher than budgeted year-to-date as a result of one-off bonuses and disbursements on the accession of King Salman in February and the escalation of military activity in Yemen and against ISIL.
Given the increased spending on defence and the difficulty in reducing public-sector wages, Saudi Arabia is likely to cut its capital spending budget..
The decision to open the Saudi equity market to direct foreign investment looks timely. Saudi Arabia has run a current-account surplus ... mainly because of oil revenue. The current-account surplus narrowed ... last year ... both because of lower oil revenue and a higher deficit on the services balance, and looks like it will fall into deficit this year. An increase in portfolio investment after the opening of the equity market, while by no means necessary, would help to offset the decline in the current account, which in the absence of other inward investment would have put additional pressure on official foreign exchange reserves and reduced manoeuvrability on the balance sheet.
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In principle, Saudi Arabia should be able to offset pressure on its current account via inflows to its capital account. This is a nice option to have when you're fighting an expensive proxy war on your Southern border and when you need to keep oil prices low in order to drive high-cost US producers from the market and force a certain Russian autocrat to stop supporting a regional nemisis.
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Saudi Arabia snapshot via Citi:
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