Saudi’s EM inclusion highlights role of kingdom’s opaque players

SaudiArabia’s inclusion in emerging market stock benchmarks highlights therole of largely opaque players in the kingdom’s market: government fundsthat could be ready to push the sell button.FTSE Russell will startadding Saudi equities to its developing-nation gauges today, with peerMSCI Inc following suit later. Inclusion is eventually expected totrigger inflows from so-called passive buyers, whose assets trackbenchmarks and must align with the gauges.Other investors may holdoff because they see funds with links to the government, whose holdingsmay have buoyed stocks during recent political turmoil, as primed tooffload stakes as newcomers enter.International institutionalinvestors have suggested in meetings “that they are likely to take anunderweight position in the market, mainly on valuation grounds andpotential concerns about government-related entities selling into theevent,” Arqaam Capital analysts Jaap Meijer, Michael Malkoun and NadineMdeihli wrote in a report on March 4. The kingdom’s PublicInvestment Fund is the biggest investor in Saudi Arabia’s $530bn stockmarket, it has confirmed to Bloomberg, giving credence to speculationfrom analysts, traders and investors who frequently said that funds tiedto the government support prices during times of high volatility.Anydeclines on the Saudi market’s benchmark index present “buyingopportunities which would be acted upon by some of the funds,” a PIFspokesman said in an e-mailed response to questions.Marketparticipants suspect that government-related funds swooped in to supportthe market after the imprisonment of local billionaires at theRitz-Carlton Hotel in Riyadh in late 2017 and the international crisisfollowing columnist Jamal Khashoggi’s murder at the Saudi consulate inIstanbul last year.Some may see that as a convenient backstop toselloffs, making up for the political risks that have unnerved investorsover the past few years. Not Mark Mobius.“Many people are concernedabout the political environment,” Mobius, a veteran investor indeveloping nations who set up Mobius Capital Partners LLP in 2018 afterthree decades at Franklin Templeton Investments, told journalists inDubai last week. “It’s going to take a year or two before people reallybegin to say that Saudi Arabia is the place we want to be.”Passiveinflows could reach about $20bn once FTSE and MSCI complete theirinclusions, according to the Arqaam Capital analysts. Active managerscould bring in another $40bn. At the same time, as much as $21.8bn ofgovernment-related funds is earmarked for sale throughout the indexinclusion process, said Meijer.Those funds and early buyerspositioning themselves to sell will generate so much liquidity that “themarginal investor will see little, if any, material benefit frompassive buying,” said Adam Choppin, an investment officer at FIS Groupin Philadelphia. “The absolute direction is harder to peg, but as arelative trade, I expect Saudi to strongly underperform most emergingmarkets” following recognition by index compilers, he said.The Saudistock exchange and the local regulator have worked since 2015 to earnthe upgrades, allowing investors from abroad to trade directly,introducing new corporate-governance rules and adopting globalaccounting standards. But ultimately, there’s little visibility onwhat PIF-related funds own, according to FIS Group’s Choppin. So whilehe thinks they’ll be net sellers, there’s no telling the “scale of theirselling.”