Investors bullish on GCC bonds amid higher oil prices: analysts

Despite headwinds from US interest rate hikes, the investment case is bullish for GCC bond and sukuk issuances in the coming year, given higher oil prices and the inclusion of Gulf nations in JPMorgan’s emerging market bond indexes, analysts told Argaam.

Brent crude prices have climbed from levels of around $66 per barrel in early January to as high as $86/bbl in October. Prices have since slipped below the $80 mark, amid a broader rout in global financial markets due to the US-China trade war.

“Improving oil prices will reduce government deficit and increase governments’ ability to spend in order to stimulate the economies,” said Anita Yadav, head of fixed income research at Dubai-based Emirates NBD.

Also set to support bonds is JPMorgan’s September announcement that Saudi Arabia, the UAE, Bahrain, Kuwait and Qatar would become eligible for inclusion in its emerging market bond indexes next year. The move is likely to attract billions of dollars’ worth of inflows to the region’s debt markets.

“GCC index inclusion is a timely recognition of the fact that issuance from the region represents over 14 percent of the stock of emerging market debt, and provides important diversification benefits,” said MR Raghu, managing director of Marmore Mena Intelligence. 

The inclusion will attract inflows of up to $60 billion into GCC bonds and could widen the investor base, increase demand, and assist in spread tightening in the near future, he added.

Fahd Abdullah, Advisory Solutions Middle East at Julius Baer, noted that the index inclusion is an opportunity for issuers from the region to gain more visibility among international investors.

“In dollar terms, there is over $350 billion benchmarked to this index from active asset managers. This is quite a significant amount of funds and investors increasingly relying on these indices for security selection and general benchmarking purposes,” he told Argaam.

Rising issuances

The GCC region has seen a surge in debt issuance over the past few years, as the slump in oil prices pushed governments to turn to international debt markets to fund part of state spending.

“Since 2010, the trend has been a figure over $20 billion for both sovereigns and corporates, ballooning to about $70 billion in 2016 and even $80 billion in 2017,” Abdullah said.

Gulf sovereigns should continue to issue in size next year, while sukuk issuance will continue to rise steadily on higher demand from institutions and asset managers, he added. 

Commenting on the outlook for issuances in 2019, Emirates NBD’s Yadav noted there is circa $26 billion of maturing bonds/sukuk next year and likely a similar amount of bank loans, part of which may be refinanced in the capital market.

“In addition there will be continued budget deficits in some GCC countries. Therefore all in all we would expect new issues to be in the range of $50 billion to $75 billion in the year 2019,” she added, noting that sukuk are expected to account for about one-third of the total issuance.

The case for Gulf bonds

Besides stronger oil prices and bond index inclusion, the relatively high credit ratings of issuers in the region also strengthen the case for GCC bonds, analysts said.

Bonds in the region offer higher risk-adjusted returns than their peers; for instance, Kuwait & UAE – which are rated ‘AA’ – offer yields at least 250 basis points than similar ‘AA’ issues, Raghu said.

“Currencies that are pegged to the US dollar, an environment of sustained higher oil prices, relative immunity from trade wars and high credit quality underpinned by strong sovereign ratings and high fiscal reserves offer an attractive proposition,” he said.

“Further, the correlation of GCC bonds with other asset classes remain low, which argues for their inclusion in investor portfolio.”

Meanwhile, in an environment of economic turmoil among the world’s major EMs, Gulf bonds can be a safe haven of sorts.

“GCC bonds are bucketed under EM within the fixed income sub-asset class. However, they do tend to be less volatile for reasons outlined above and even outperform EM debt in times of market dislocation,” Abdullah said.

Gulf debt issuances can also be a good way to diversify portfolios, offering higher coupons relative to their ratings among EMs.

Larger sovereigns in the region have high investment-grade ratings, while highly rated corporates with strong balance sheets sometimes also have links to their respective sovereigns, Abdullah said. “This creates a unique universe of issuers within emerging markets.”

However, analysts cautioned that rising US interest rates could weigh on bonds, given that one rate hike is expected by the Federal Reserve in December this year, and three more are forecasted next year.

“That said, we expect overall total return on GCC bonds and sukuk to be positive next year as the impact of rising US rates may be counterbalanced by tightening in credit spreads as well as the coupon collection on the bonds,” Yadav said.

Write to Jerusha Sequeira at jerusha.s@argaamnews.com