MSCI inclusion, Aramco IPO to boost Saudi reform efforts, says BoAML

The Saudi bourse’s potential inclusion in MSCI’s emerging market index next week, and the Saudi Aramco initial public offering (IPO) in 2018, are likely to alter capital markets and aid diversification efforts in Saudi Arabia, Bank of America Merrill Lynch (BofAML) said on Thursday.

If oil prices were to remain at $50 per barrel (bbl), Saudi Arabia’s forex reserves are likely to continue falling in 2018, although at a slower pace on the back of the MSCI update and oil sector privatization forex inflows.

“Stabilizing forex reserves much longer will, however, require oil prices rebounding above $50/bbl and a moderation in the current pace of capital outflows,” the report said.

Should oil prices instead average $40/bbl, net fiscal proceeds would prove to be insufficient, the bank said.

“The fiscal deficit would hover close to 10 percent of GDP, forex reserves could half to 35 percent of GDP with no sign of stabilization, and capital outflows could accelerate,” it added.

Commenting on Saudi external debt bonds, BoAML said they “seem well priced, as deteriorating fundamentals, uncertainty about reforms and oil exposure, are reflected in some premium over ratings. Risk-reward in oil credits looks now relatively poor.”

Meanwhile, the lender said it expects Saudi Arabia to hold its currency peg to the US dollar.

“However, more risk premium should be priced in long-dated forex forwards as forex reserves are likely to fall, albeit more slowly, and as fiscal consolidation success depends partly on oil prices,” it added.

Domestic liquidity is likely to tighten modestly with the resumption of domestic issuance in Q3 2017.

“We expect continued large sovereign issuance of external debt‎, supplemented by issuance from Saudi Aramco and the Ministry of Housing,” the bank said.

According to BoAML estimates, oil demand will keep growing by 1.1 million barrels per day every year until 2022. The bank expects Brent crude oil prices to average $50/bbl to $70/bbl over the next five years.

In Saudi Arabia’s petrochemical industry, BoAML expects the government to continue to prioritize downstream expansion into refining and petrochemicals.

The government support is likely to come in the form of temporary funding or financing to improve efficiency, the report said.

“In addition, petrochemical players, particularly SABIC (Saudi Basic Industries Corp), are expected to be key beneficiaries of the National Companies Promotion Program,” it said.