Market Analysis: GCC Bonds Attract More Takers
Beginning with bonds issued by Bahrain in 1995, GCC capital markets have come a long way. Accounting for about 11 per cent of the current Bloomberg Emerging Market Investment Grade bond index, currently GCC bonds punch way above their weight. In comparison, India is at 2.7 per cent.
The breadth and depth of the GCC market has increased and liquidity has improved in the recent past. Fiscal deficits are moti¬vating GCC sovereigns to work towards deepening the local capital markets, however, at this stage the dollar denominated universe still dominates.
Recent large issuance from GCC sovereigns have increased the market size which now stands at approximately US$240 billion (excluding issues smaller than $50 million).
A net of more than $54bn was added to the market last year alone. It is now possible to do ticket sizes of $10m without distorting bond prices. However, liquidity is sector-specific. While tickets of even $50m are doable in sovereign bonds, a $5m or $10m ticket in corporate bonds still requires working.
The number and variety of participants has increased. Half a decade ago, there were a handful of international bulge bracket banks that were active in GCC bonds. Today, though the dealer book sizes have reduced, the number of sell-side dealing banks has increased. Several regional banks such as NBAD and Emirates NBD are now active players in addition to several brokers and auction platforms. It is now possible to receive seven or eight price quotes compared with only three or four quotes few years ago.
In the past, given the small pool of available investable bonds, local investors, particularly the banks, had a tendency to hold the bonds to maturity, thereby limiting the secondary market. Low churn in the secondary market-made banks reluctant to offer leverage on GCC bonds to their personal banking clients which further hindered investor participation.
Only 18 per cent of GCC bonds were held by international holders in 2014. This percentage is now close to 50 per cent. In the past two years, large deals have mostly been placed with investors in Europe, the United States and the Asia. International investors tend to trade more often, which means higher turnover in the secondary market. Inclusion of more bonds and sukuk from the region in the emerging market index has also attracted higher international participation.
Another development that fac¬ilitates more trades in the market has been the emergence of new products. Five years ago, the repo market was almost non-existent. Today most banks engage in it and most rated, liquid securities are eligible for repo.
The market has become less polarised in terms of credit ratings. Five years ago, all GCC sovereigns were rated investment grade with four being in the AA/Aa category. Now they are spread across AA, A, BBB and BB category. Yield-seekers that had previously been hunting outside can now find yield from investable assets within the GCC.
One of the most logical and stable investor segments, namely pension and insurance industry, is not sufficiently developed in the region. However, the creation of tax-free financial zones such as DIFC, Abu Dhabi Global Market, Qatar Financial Centre and the like has encouraged more international hedge funds, pension funds etc to open local offices here and increase their participation in the GCC bond market.
Although positive developments in the GCC bond market have been many, substantial room for improvement still remains. The universe here is dominated by sovereigns and sovereign-linked paper. Lack of sector diversification is a material hindrance for asset managers wanting to increase exposure to the GCC, but getting constrained on their sector limits.
It is still very hard to play the duration game in the GCC market. Lack of a deep interest rate hedging market in the region hinders local investors’ ability to invest in longer dated bonds.
Longer dated bonds are mostly held by international investors, which in turn view the GCC as a region linked to just one commodity – oil. Depending on oil prices, they all either want to buy or want to sell. This causes extreme drying up of liquidity in the longer part of the curve during times of stress.
But all in all, from less than $100m per annum issuance in the early 90s to the current pace of over $22bn in the first quarter alone, the market has come a long way.
Anita Yadav is Vice-Chairwoman of The Gulf Capital Market Association (GCMA). She is also Senior Director and Head of Fixed Income Research at Emirates NBD.