Contrarian play

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united securities

Prudent asset allocation and cherry picking good stocks can give investors high single-digit returns in 2019. Mayank Singh reports

The year 2018 was a turbulent year for the GCC regional markets as most economies are still struggling to recover from the negative effects of low-oil prices. For instance, Oman’s Muscat Securities Market has been down for four out of the last five years since 2014. In 2014, 2015, 2016, 2017 and 2018 the MSM has given a return of minus 7 per cent; minus 14.7 per cent; 7 per cent; minus 11.8 per cent; and minus 12.7 per cent (YTD). Says Mustafa bin Ahmed Salman, Chairman and CEO, United Securities, “In a nutshell, a confluence of bad news, capital losses and uncertainty has brought panic in the local and regional markets. Investors have been asking whether this stock market decline is the beginning of something worse and should we all sell and seek safety? Most investors were forced to buy high and sell low resulting in almost everyone losing money in stocks.”

In the regional markets the rise in oil prices have given some comfort. Qatar and Abu Dhabi markets have performed well in 2018. Saudi Arabia’s market did well till the middle of 2018 but has slid since then. Dubai, Bahrain and Oman have been the underperforming markets in the GCC. On a pan GCC level, indexes like MSCI GCC and the S&P GCC have still given high single digit returns in 2018 (ytd), which is better than the last two years.

On a global level, the slowdown on China, increase in commodity prices and a strengthening dollar acted as a double whammy for markets in developing countries. Overall, while the first half of the year was reasonably good, most of the gains have been wiped out in the second half of 2018. Says Kanaga Sundar, Assistant Vice President – Research, Gulf Baader Capital Markets, “2018 has been a mixed year for investors, global markets were doing well for the first seven months of the year but then volatility has come in. Though US equities have done well, emerging market currencies have become volatile which has impacted market performance with most emerging markets giving a negative return for the year.”

Globally, these concerns persist as the Fed has indicated that there will be another interest rate revision in December 2018 followed by a couple in 2019, which will strengthen the dollar further. This in turn will affect emerging market currencies. Secondly, better economic prospects in the US will lead to a flight of capital from developing countries impacting their markets adversely.

A buyer’s market

Analysts feel that the present market levels offers an opportunity. Going with the herd while investing can prove to be a costly mistake. A better strategy during turbulent times is to do a contrarian play by leveraging cheap equity investment valuations. Markets also anticipate impending good times well ahead and tend to rise faster as an economy recovers. Says Mustafa, “The stock market mirrors expectations about the economy well ahead of time in such a fashion that allows active and calculative investors to make capital gains increasing their overall networth. We are a little cautious about the market performance, however that does not mean that there are no opportunities. The market presents opportunities all the time and our job is to find it at the right time. We need to cherry pick good stocks at cheap valuations, and there are quite a few of them available on the MSM now.” There are good stocks trading at cheap valuations. The MSM index is 35 per cent below it’s 2014 levels indicating the possibility of some good opportunities. Overall, Oman is trading at 0.9 price to book and with a yield of more than 6 per cent.

Companies such as Bank Muscat, Renaissance Services, National Gas, HSBC Oman, Raysut Cement and Dhofar International Development & Investment Holding Company (DIDIC) have performed well or have strong tailwinds backing them, but they are still below their long term fair values. HSBC is trading at a 28 per cent discount to its book value, Bank Muscat is similarly trading at a 30 per cent discount.

Fixed investment

With stock markets being under stress, fixed income opportunities have become a preferred investment choice. New options have opened up in this space as government and corporates tap the market for funds offering good returns. Oman government’s second sovereign sukuk worth $1.5bn offering a 5.932 per cent interest over a 7 year tenure received orders in excess of $3.9bn. The issue followed a $6.5bn convertible bond issue which got orders in excess of $15bn. Omantel issued bonds worth $1.5bn in two tranches in April 2018 – one for $600mn maturing in 2023 (5.5 years) yielding an interest rate of 5.625 per cent and one for $900mn maturing 2028 (10 years) yielding an interest rate of 6.625 per cent per annum. Bank Muscat and National Bank of Oman have also tapped the market.

Says Mustafa, “Bank deposits would be an attractive investment option over the medium term as people may find the interest rate to be attractive. We are seeing a rise in deposit rates this year in line with the hike in US fed rate.” Average interest rate on all deposits by banks increased by 10 bps to 1.76 per cent this year from 1.67 per cent to 2.46 per cent. US Fed rates have increased from 1.3 per cent to 2.25 per cent now. “As the Omani rial is fixed to the dollar, this increase should reflect in the local banking system as well, but with a time lag. So I think the next year, we might see an increase in deposit rates,” adds Mustafa.

The total bank deposits in Oman grew by 1.6 per cent this year to RO16.8bn. However, deposits that have an interest rate of 3 per cent and above increased by 10 per cent to RO6bn from RO5.4bn at the end of December 2017. A majority of the increase was seen in the 3-5 per cent interest rate brackets. It is likely that we may see some more deposits getting repriced upwards to 4-5 per cent. Liquidity position in the banks is also getting little tighter, which has led banks to pay higher interest to depositors. It is possible that banks may offer higher interest rates on maturing deposits to hold them back in 2019.

Macro-economy and asset allocation

Given the changing dynamics of the market Sundar suggests the following investment allocation 2019, “From a regional perspective investors can look at 30 per cent of their investments going into fixed income, around 40 per cent going to local and regional equities and rest the remaining 30 per cent in real estate either through buying of assets or participating in Real Estate Investment Trusts (REITs) though these are is still evolving. On this base investors can look at a high single digit return.”

Though the volatility in oil prices is likely to persist for some more time the government is moving ahead with its diversification plans with projects like Orpic’s Liwa Plastics Industries project, Sohar Port’s expansion, ASYAD’s Khazaen Economic City in Barka and projects in Duqm Economic Zone Development. Legislations like the new mining law and foreign investment law are expected to give a fillip to business. The fisheries sector is getting new investments such as aquaculture farms and public private partnership model is being tested out with projects like Al-Khuwair Nature Reserve which is being jointly developed by the Diwan Royal Court and Al Madina Real Estate Development. Says Mustafa, “The low oil prices may affect MSM, but the private sector activities and investment opportunities are likely to be more active in 2019 than several last years.”

Oil prices are expected to be in the $65-$80 range. In the near term it is likely to be on the lower level, as there enough supply on the market. The silver lining for the GCC region is that the deficit is coming down and next year should be more comfortable with better liquidity. The project cycle is expected to improve – both in terms of payments and projects. Says Sundar, “The government is talking about the privatisation of some companies like Oman Electricity Transmission Company and Muscat Electricity Distribution Company and these will be either through bringing in a strategic partner or through an IPO. The market is still not ready to take in big IPOs. Overall, the economy should do better than the current year and should show some positive trends improving overall market sentiment.” As the cost of borrowing goes up in the wake of upward interest rate revisions from the US Fed, local companies are likely to tap other avenues for raising money and the capital market will be one of the primary sources. Overall, 2019 is going to be a year of transition, but smart investors can still look at good returns using a prudent asset mix and picking the right stocks.