Middle Eastern fixed income, the darling of regional investors during the past year, is now putting them in a state of anxiety.
The jury is out on whether demand for the region's debt, which brought a record year for bond and sukuk sales in 2012, is in danger of running out of steam amid a pullback from recent highs.
Dubai's latest 10-year sukuk is trading at a discount of 12 basis points to its par value, after a sale that analysts said was "aggressively" priced. Upon issuing, the emirate's debt returned a coupon of 3.85 per cent, lower than equivalent dated debts sold by the Italian government.
That could be the high water mark for bond sales in the region, analysts say.
"Investors are starting to worry about yield compression," said Rachel Ziemba, a director of emerging markets at Roubini Global Economics. The question is whether investors are "being paid enough for the risk they're taking on", she said last week.
Debate abounds on Wall Street and London over whether a "great rotation" from bonds into equities is taking place, as fears mount that increased inflation could cause a rise in US Federal Reserve interest rates, which could squeeze spreads on riskier fixed income.
That has done little to dissuade HSBC, the UAE's largest underwriter of sukuk debt, from declaring that this year will set a new record for sales in the Arabian Gulf of between US$30 billion (Dh110.19bn) and $35bn.
The total raised through sukuk sales last year was $21.2bn. "We will see a number of new issuers in the region who have now actually taken a hard look at this and said 'OK look this makes a lot of sense for us,'" Mohammed Dawood, managing director of debt capital markets at HSBC Amanah in Dubai, told Bloomberg News last week. "'Not only can we get the size, can we get the tenure, but potentially from a pricing perspective, there is a real cost saving and there is a cost benefit.'"
Other banks, including Coutts and Emirates NBD, are recommending clients shift from bonds into equities as returns dwindle.
So far this year, investments in Islamic bonds have disappointed. Total returns on the HSBC/Nasdaq Dubai USD Sukuk index are flat. That is better than other emerging market bond benchmarks but a far cry from the ebullience recorded on equity markets.
The MSCI World index of global equities has rallied 5.8 per cent this year, as central bankers from Japan to the United Kingdom anticipate higher inflation rates and investors bet on stocks for growth.
One country creating real concerns is Qatar, where domestic inflation rates last month rose to 3.4 per cent year-on-year.
For international investors benchmarked against US or euro-zone inflation, that is unlikely to create any concerns. But Qatari investors are now receiving a negative yield in real terms on holdings of the vast majority of government debt - as well as many debts issued by companies including Qatar National Bank and Qatar Telecom - meaning they are effectively paying the government to lend it money.
That makes generating returns from Qatar extremely difficult as inflation accelerates, said Mark Watts, the head of fixed income at the National Bank of Abu Dhabi.
To counteract domestic inflation "you would have to be investing in a BBB-style portfolio", he said, referring to credit ratings on the cusp of "junk" bonds. "But all the big issuers in Qatar have government involvement," he said, which limits potential yields.
In the meantime, fears over the euro-zone sovereign debt crisis could rear their head after GDP data released on Thursday showed the currency bloc's economy shrank more than expected during the fourth quarter.
ghunter@thenational.ae
Real estate tokenisation project
Dubai launched the pilot phase of its real estate tokenisation project last month.
The initiative focuses on converting real estate assets into digital tokens recorded on blockchain technology and helps in streamlining the process of buying, selling and investing, the Dubai Land Department said.
Dubai’s real estate tokenisation market is projected to reach Dh60 billion ($16.33 billion) by 2033, representing 7 per cent of the emirate’s total property transactions, according to the DLD.
Mercer, the investment consulting arm of US services company Marsh & McLennan, expects its wealth division to at least double its assets under management (AUM) in the Middle East as wealth in the region continues to grow despite economic headwinds, a company official said.
Mercer Wealth, which globally has $160 billion in AUM, plans to boost its AUM in the region to $2-$3bn in the next 2-3 years from the present $1bn, said Yasir AbuShaban, a Dubai-based principal with Mercer Wealth.
“Within the next two to three years, we are looking at reaching $2 to $3 billion as a conservative estimate and we do see an opportunity to do so,” said Mr AbuShaban.
Mercer does not directly make investments, but allocates clients’ money they have discretion to, to professional asset managers. They also provide advice to clients.
“We have buying power. We can negotiate on their (client’s) behalf with asset managers to provide them lower fees than they otherwise would have to get on their own,” he added.
Mercer Wealth’s clients include sovereign wealth funds, family offices, and insurance companies among others.
From its office in Dubai, Mercer also looks after Africa, India and Turkey, where they also see opportunity for growth.
Wealth creation in Middle East and Africa (MEA) grew 8.5 per cent to $8.1 trillion last year from $7.5tn in 2015, higher than last year’s global average of 6 per cent and the second-highest growth in a region after Asia-Pacific which grew 9.9 per cent, according to consultancy Boston Consulting Group (BCG). In the region, where wealth grew just 1.9 per cent in 2015 compared with 2014, a pickup in oil prices has helped in wealth generation.
BCG is forecasting MEA wealth will rise to $12tn by 2021, growing at an annual average of 8 per cent.
Drivers of wealth generation in the region will be split evenly between new wealth creation and growth of performance of existing assets, according to BCG.
Another general trend in the region is clients’ looking for a comprehensive approach to investing, according to Mr AbuShaban.
“Institutional investors or some of the families are seeing a slowdown in the available capital they have to invest and in that sense they are looking at optimizing the way they manage their portfolios and making sure they are not investing haphazardly and different parts of their investment are working together,” said Mr AbuShaban.
Some clients also have a higher appetite for risk, given the low interest-rate environment that does not provide enough yield for some institutional investors. These clients are keen to invest in illiquid assets, such as private equity and infrastructure.
“What we have seen is a desire for higher returns in what has been a low-return environment specifically in various fixed income or bonds,” he said.
“In this environment, we have seen a de facto increase in the risk that clients are taking in things like illiquid investments, private equity investments, infrastructure and private debt, those kind of investments were higher illiquidity results in incrementally higher returns.”
The Abu Dhabi Investment Authority, one of the largest sovereign wealth funds, said in its 2016 report that has gradually increased its exposure in direct private equity and private credit transactions, mainly in Asian markets and especially in China and India. The authority’s private equity department focused on structured equities owing to “their defensive characteristics.”
UAE currency: the story behind the money in your pockets
