ARAB WORLDBanking & FinanceFINANCIAL TIMES SPECIAL REPORT | Tuesday May 29 2012

www.ft.com/arab-finance-may2012 | twitter.com/ftreports

Busy buildersSaudi Arabiahas begun oneof the world’sbiggest stimuluspackages butthere are questionsover long-termfundingPage 4

T he booming interna-tional oil price maymean that Middle East-ern governments

blessed with large crudereserves have never been richer– but neither has their region’sneed for finance been so great.

As popular uprisings haveoccurred from the Maghreb tothe Levant, countries have beeneither gripped by instability orpushed into programmes ofheavy spending on state bene-fits and infrastructure.

At the same time, the euro-zone crisis is compounding con-cerns about the ability of Gulfpetrostates and corporations togain access to financing, asEuropean banks pull back fromthe Middle East and northAfrica (Mena).

The result, according toMoody’s, the credit ratingagency, is likely to be a “sus-tained reduction of lending” at atime when the Gulf Co-opera-tion Council faces an estimated$1.8tn of capital investmentsover the next 15 years.

Ashok Aram, Deutsche Bank’schief executive for the MiddleEast and north Africa, says theregion faces multiple financingdifficulties.

Regional banks are experienc-ing low levels of credit growth

as they repair balance sheets.“This can only be solvedthrough a significant expansionin debt capital markets,” hesays. “In the short term, thesolution is an rise in credit costsfor longer term funding and afiltering process where only thestrongest deals survive.”

Governments and businesseshave been moving to shore upexisting funding sources andagonising over how to gainaccess to fresh ones.

Countries such as Saudi Ara-bia and Qatar are hesitating onplans to develop their stockmarkets, torn between thetempting prospect of bringing inmore foreign ownership to boosttheir economies and fear ofwhat fresh volatility may bring.

As European banks withdraw,analysts say Asian financialinstitutions are already takingup some of the slack, especiallyin areas such as project finance.

Bankers also say regionalcompanies will increasinglyturn to the debt capital marketsto service their financing. Loom-ing Islamic bond maturities willprove a test for that growingindustry, as traders bet on whatcould be the first sukuk defaultin the United Arab Emirates.

On foreign direct investment,political and legal uncertaintieshave damped growth in coun-tries where there have beenuprisings, while creating newpossibilities in some states nowseen as havens of stability.

Egypt, Tunisia, Libya andMorocco – which has seen pro-tests but not a full popularrevolt – have all suffered fromhigher borrowing costs andstricter credit rules, according

to the business and financialservices practice of Frost & Sul-livan, the consultancy and busi-ness researcher.

Egypt, fresh from a presiden-tial election that many hope willrestore a measure of stability,suffered a foreign direct invest-ment outflow of $483m last year,compared with an inflow of$6.4bn the previous year.

Many stock markets haveproved volatile, with investorstorn – and oscillating – betweenconcerns about uncertainty andthe sense that these are some ofthe ripest emerging marketopportunities in the world.

Egypt’s stock exchange, hav-ing fallen by half last year, hasrebounded by about a third thisyear. Tunisia’s bourse is up alittle less than 10 per cent andMorocco’s down a little morethan 10 per cent. These two –like those of other countries inthe region – have suffered froma drop in European investmentbecause of the euro crisis.

In the Gulf, investors yearnfor alternatives to the accessiblebut thinly traded UAE stockmarkets. While Gulf marketssaw trading volumes of $1.6tn in2006, that collapsed to $300bn in2010 and recovered only margin-ally last year.

Saudi Arabia, the big prize,remains almost off-limits for for-eign investors because of rulescurbing their participation – asource of frustration, given themarket’s broad range of stocksand sprightly trading volumes.

A years-old proposal to mergethe UAE’s Dubai and Abu Dhabibourses – creating a market to

Need for fundsis at its greatestWith lending hit byeurozone woes anduprisings, even oil-richstates ask who willsupply funds in future,says Michael Peel

Inside this issueStockexchangesImbalancesin accessand liquiditycontinue tokeep theregion onthe periphery Page 2

Debt With billions of dollarsof Islamic debt maturingthis year, spotting problemsearly will be key tonegotiations Page 2

Islamic bankingThe industry has struggledto create enough tools tomanage short-term liquidityPage 2

Bonds Saudi Arabia, thereligious focal point forone billion Muslims, hasheartened investors withlarge deals Page 2

FDI Gulfinvestorswho flockedto northAfricaduring theoil boomare

concentrating on businesscloser to home Page 3

North African boursesSentiment in Egypt ismuch better than it wasbut bankers are watchingout for devaluationPage 3

Sovereign wealth fundsExcept for Qatar, pressureto spend locally has ivertedfunds away from trophyinvestments Page 4

PrivateequityAfter twoconvulsions,a steadystream ofdeals hasstarted toilluminate the darknessPage 4

Continued on Page 3

2 ★ FINANCIAL TIMES TUESDAY MAY 29 2012

Arab World: Banking & Finance

Saudi issuance is important signal to companies

Saudi Arabia, long thesleeping giant of the Islamicdebt markets, is finallyshaking off itstorpor and has dominatedglobal sales of so-calledsukuk so far this year.Sukuk are bonds that are

structured to comply withIslamic principles and harestrictures against interest.Rather than a fixed coupon,the instruments pay a“profit rate”.

Interest soared in theyears preceding the finan-cial crisis, but issuanceplunged in the wake of thecredit crunch and concernsthat some structures didnot adhere closely enough

to Islamic law. However,sukuk sales rebounded to arecord $32.6bn last year,according to Dealogic, andthis year has startedstrongly, with almost $14bnof issuance already.

The average yield hasalso steadily declined, to alow of 3.58 per cent, accord-ing to the HSBC-NasdaqDubai sukuk index.

Malaysia has longdominated the market,followed by the United ArabEmirates.

However, after years ofdisappointing activity,Saudi Arabia – the religiousfocal point for 1bn Muslimsaround the world – hasheartened investors andbankers with a spate oflarge, well-received deals in2012.

“It’s a big vote of confi-dence in the sukuk mar-ket,” says MohammedDawood, managing directorof Islamic global markets atHSBC Amanah, the British

bank’s Islamic arm. “SaudiArabia is the biggest econ-omy in the Middle East andthe fact that the govern-ment itself is now issuingsukuk is an important sig-nal for other companies andthe wider region.”

The largest deal was thedomestic, government-guar-anteed 10-year SR15bn($4bn) sukuk sold by theGeneral Authority of CivilAviation to finance theexpansion of the KingAbdulaziz International Air-port in Jeddah.

Crucially, given its gov-ernment guarantee, thesukuk set a local bench-mark against which otherdomestic issuers can pricetheir own potential Islamicbonds. However, it was a$1.75bn debut internationalsukuk by Saudi ElectricityCompany that arguablycaused the biggest stir. Thecompany received orders of$18bn as investors piledinto an international bond

that many saw as anotherproxy for the government,which itself has no cause toborrow given its oil wealth.

While Middle East inves-tors bought about 40 percent of the SEC sukuk,bankers working on thedeal said that there wereplenty of “conventional”

institutional investors aswell. This brought totalsukuk issuance from SaudiArabia to $7.2bn this year,already surpassing the fullyear peak of $5.7bn in 2007,according to Dealogic.

Further issuance iswidely expected, particu-

larly from the banking sec-tor. Banque Saudi Fransi,for example, has filed a pro-spectus for a $2bn Islamicbond programme in Londonthat aims to raise longer-term funding than is availa-ble in the domestic market.The first instalment camein mid-May, when the Riya-dh-based Islamic Bank solda $750m, five-year sukuk,which attracted orders of$4bn and paid a “profitrate” of 2.95 per cent.

“The recent Saudi Ara-bian sukuk were importantmilestones for the globalsukuk market,” Mr Dawoodsays. “We expect a lot morein the coming year.”

There has also beenheartening news out of theUAE, where Dubai recentlysold a two-part $1.25bnIslamic bond. Aside fromaffirming the emirate’srehabilitation, after its 2009debt crisis, the larger $650mtranche had a 10-year ten-ure. This is a rare duration

for the sukuk market out-side Malaysia, where inves-tors have typically pre-ferred shorter-term bonds.The largest tranche in therecent SEC sukuk also hada 10-year maturity.

Yet in other areas innova-tion has taken a back-seatrole to more standardisa-tion. After some high-pro-file and debilitating clericalconcerns over some struc-tures, bankers are mainlyfocusing on three types –ijara, murabaha andmudaraba-wakala.

“The sukuk market is lessbespoke and more standard-ised these days,” MrDawood says. “We needcontinual refinements, butin a co-ordinated fashion,with the approval of all par-ties, scholars, regulators,investors and borrowers.”

However, uncertaintyabout how the instrumentswould be treated in arestructuring continues tocloud the market.

The Islamic debt marketis constrained by itsrequirement for real, tangi-ble assets to underlie alltransactions.

Although many bankshave dabbled with struc-tures that either are only“asset based” rather than“asset backed” – with someeven backed by revenuestreams from intangibleassets – scholars generallyfrown on these.

This means, however,that many potential borrow-ers cannot tap the sukukmarket as they do not havethe physical assets requiredto place the structures, andthat sukuk generally cannotbe increased in size, nomatter how large the orderbook.

“The requirement for tan-gible assets is still a bigconstraint for the market,”says one senior banker. “Itwill still be some timebefore the sukuk marketreally hits its stride.”

BondsThe kingdom hasdominated sukuksales, writes RobinWigglesworth

‘We need continualrefinements withthe approval ofscholars, regulators,investors andborrowers’

Banks hit bya shortageof products

While Islamic banking hasexpanded rapidly in theGulf, its usefulness as asingle source of finance hasbeen curbed by a shortageof products that sharia-compliant institutions canbuy and sell.

Assets under manage-ment at Islamic banks havegrown at a tremendous paceover the past decade, butthe industry has struggledto create enough financialtools to help manage short-term liquidity.

Unlike in more developedmarkets, such as Malaysia,the sukuk market in theGulf is still in its earlystages of formation andcannot yet support theshort-term cash manage-ment needs of the banks.

To tackle the dearth inshort-maturity products,both governments andinvestment banks have arole to play as assets undermanagement are forecast todouble to $990bn by 2015from $416bn in 2010, accord-ing to Ernst & Young. “Themarket requires much moreshort-dated product in orderto enable Islamic banks toeffectively manage theirliquidity,” says YavarMoini, an executive directorat Morgan Stanley in Dubai.

Commodity murabaha –Islam’s version of interbankshort-term lending and syn-dicated loans – that gener-ate funds through the buy-ing and selling of products,such as precious metals,have become the tool ofchoice. However, their pop-ularity has drawn the ire ofIslamic scholars who criti-cise the structure, sayingthat it is not in realitybacked by assets.

Efforts to develop Islamicshort-term liquidity prod-ucts have been multifac-eted. Solutions have runfrom deepening the sukukmarket to creating morecomplex structured prod-ucts that are taking time tocatch on. With a more liq-uid Islamic bond market,participants can trade long-er-dated maturities in shorttimeframes, so allowingthem to earn a return ontheir cash.

In recent years the cen-tral banks of Bahrain andthe United Arab Emirateshave introduced short-termliquidity management tools,such as Islamic certificatesof deposits and short-datedsukuk, to support theirbanks. In Qatar, which hasseparated its Islamic banksfrom its conventional lend-ers, the government soldbillions of dollars in Islamicdebt to help lenders. Thesplit between the two typesof banks is forcing sharia-compliant institutions topay more attention to themanagement of their funds.

Saudi Arabia recentlysold its first sovereign-guar-anteed Islamic bond,another step towards devel-oping the local market thatalso took advantage of lowborrowing costs.

However, because of the

unfavourable profit rates ofthese low-risk tools, there isstill a gap in the market forinvestment banks to createnew products.

“There’s a lot of workbeing done on the invest-ment banking side to comeup with more ways to man-age short-term liquidityrather than to place it withthe central bank,” saysMuhammad Farhan, headof Islamic finance for HSBCin Saudi Arabia. “This maynot be as swift as we wantit to be, but we see a lot ofmomentum.”

The sukuk market inSaudi Arabia, the Arabworld’s largest economyand home to the world’slargest Islamic bank, mayhave an advantage oversome of its other Gulf coun-terparts, thanks to a stronginstitutional investmentsector. Some bankers com-plain Islamic lenders areslow on the uptake when itcomes to new products,even when they have beencrafted to meet their needs.With many western banksretrenching from the shar-ia-compliant industry in theregion there has been lessof a focus on innovation.

While much of the discus-sion focuses on how Islamicbanks can put their cash towork, HSBC says its sharia-compliant structuring busi-ness in the region is domi-nated by liquidity creationas opposed to investmenttools.

Although many Islamicbanks remain highly liquidin local currency, they arefacing the need to generatemore short-term dollar-based funding, creatingopportunities for invest-ment banks. Commoditymurabaha remains the dom-inant product for short-termliquidity management,while there has been a risein short-term repurchaseactivity, says Mr Moini.Repurchase agreements,known as repos, allowbanks to lend out an assetto a counterparty and get areturn on the transaction.

Still, neither of these hasprovided the perfect short-term liquidity managementsolution for Islamic banks,analysts say. Some lendersremain cautious and slowin using such tools. Bothtools have also been criti-cised by the more conserva-tive elements of the indus-try, which see the productsas a means of mimickingconventional ones.

Despite some progress,bankers agree that Islamiclenders have limitedoptions when it comes toraising short-term funds orputting to work short-termmoney.

“It’s still an issue,” saysAfaq Khan, chief executiveof Standard Chartered’sIslamic banking arm inDubai. “There is a sense ofurgency to address this. Alot more needs to be done,we’ve not seen much.”

Some bankerscomplain Islamiclenders are slow onthe uptake when itcomes to newdevelopments

Sharia complianceIslamic lendershave limitedoptions, saysCamilla Hall

As investors looked on indismay at the 2009 defaultof Islamic bonds from SaudiArabia to Kuwait, manycritics forecast the demiseof the Gulf’s sharia-compliant industry.

Islamic bond structureswere seen as too compli-cated and too far removedfrom the real economy.While financial instrumentsappeared to be based on col-lateral, they turned out tobe just like any other con-ventional product.

At least $10bn of Islamicdebt is maturing in the Gulfthis year, according toZawya, the data provider.The high value of maturi-ties is explicable given that2007 was a bumper year forsukuk issuance and mosthad five-year tenors.

The complexity of thesharia-compliant sukukstructures made the debtrestructuring talks moredifficult and discussionsground on for months, evenyears, with little progress.The financial crisis caughtIslamic banking unawaresand left it struggling to con-vince investors.

However, after a spatter-ing of Islamic debt restruc-turings, bankers hope theindustry is better placed tounderstand such debt work-outs. Trying to spot prob-lems early will be key tocompanies’ chances at suc-cessful negotiations.

“There’s no cookie-cutterrestructuring,” says AfaqKhan, chief executive ofStandard Chartered’sIslamic unit in Dubai.“Each restructuring willbring a different angle, butwe should take comfort thatpractical solutions with awin-win for everybody havebeen found.”

The restructurings, suchas Kuwait’s InvestmentDar, Saudi Arabia’s SaadGroup sukuk, or Bahrain’s

Gulf Finance House, havetaken years to unfold – andsome remain unresolved.

Deals that appearedfavourable several yearsago at the height of thefinancial crisis have notheld their ground as theeconomic slowdown hasdragged on. That has forcedcompanies to return to thedrawing board and restruc-ture again.

Analysts are concernedabout a number of upcom-ing Islamic debt maturities.Distressed debt traders arecircling companies at thesame time as some Islamicbond yields rise.

With a $1.1bn Islamicloan maturity looming,Arcapita, the Bahrain-basedIslamic investment bank,has filed for Chapter 11bankruptcy protection toprotect its $3.6bn in globalassets from any possiblelegal challenge from hedgefunds.

Dana Gas, the Sharjah-based energy company, hashired Blackstone to help itmanage its upcoming $920msukuk payment after receiv-

ables rose on the back ofunrest in Egypt.

Dubai government-ownedJebel Ali Free Zone Author-ity and Dubai InternationalFinancial Centre Islamicbonds also are a concern.

All restructurings need tobe approved by a shariaboard, further complicatingthe process. Bond restruc-turings tend to be more dif-ficult than discussions over

the repayment of bankloans. Hedge funds, whichdo not depend on relation-ships with the company, areoften more aggressive atthe negotiating table thanbanks, which may want tomaintain good relations.

To avoid such complexdebt workouts, companieshave felt under pressure tospell out their Islamic bondstructures more clearly in

prospectuses. Sukuk buyersare also paying more atten-tion to the small print afterthe financial crisis signalledthe end of buying withoutreally understanding theproduct, bankers say.

Lessons have been learntfrom the financial crisisafter Islamic finance indus-try sharia-compliant struc-tures defaulted publicly forthe first time. Companiesand creditors have as aresult learnt to act morequickly and have changedthe way they structure debtin the first place.

“You’ve seen a lot of busi-nesses try to not let thingsslip to a restructuring –rather they’re proactivelypushing out maturities.They’re sizing up the refi-nancing risk they’re willingto live with,” says Muham-mad Farhan, head ofIslamic finance for HSBC inSaudi Arabia.

One of the problems isthe lack of specific advice.“One has to question thequality of advice that’savailable in the sharia-com-pliant sphere,” says Harris

Irfan, managing partner atCordoba Capital, a sharia-compliant advisory firm inDubai. “It’s very hard tofind the right advice.”

Unlike conventionalrestructurings, in whichmultitudes of investmentboutiques and larger firmscompete for business, thereare few examples of special-ist outfits offering specificIslamic advice to companiesin distress. Small teams orindividuals offer the servicein the larger investmentbanks.

While some high-profileIslamic restructurings haveremoved the shock factorthat hovers around the fearof default, companies stillface few options when itcomes to advise on debtmanagement.

With so much debt matur-ing over the coming monthsit will soon become clearwhat lessons have beentaken on board. Thoughsome sharia-compliantrestructurings have takenplace there are still fewexamples to guide compa-nies in the right direction.

RestructuringCamilla Hallreports on thecomplexities ofsharia compliance

Debt maturity puts experience to the test

Imbalanceskeep Gulfregion onthe sidelines

G ulf markets should bean enticing prospect forglobal investors as oilprices underpin strong

economic fundamentals in most ofthe Gulf Co-operation Councilstates. But imbalances in accessand liquidity continue to keep theregion on the periphery of moreexciting emerging markets else-where.

Institutional investors are facedwith a dilemma. The huge marketof Saudi Arabia is largely off-limits, whereas the more easilyaccessible markets of the UnitedArab Emirates have limited trad-ing volumes.

Gulf markets boasted tradingvalue of $1.6tn in 2006, a peak thatcollapsed to a trough of about$300bn in 2010 and that onlyenjoyed a modest recovery in2011. Saudi Arabia, the biggesteconomy, has a large equitiesmarket that stands up to scrutinycompared with other emergingmarkets. With a broad base oflisted companies, the healthy vol-umes are an interesting prospect.

Participants have been expect-ing the market to be opened toforeign investors this year, thoughoutsiders are already trading viaswaps with intermediaries. “TheSaudi Arabian stock market isanticipated to open to qualifiedfinancial investors,” says Chris-tian Kern, head of regional equityresearch for JPMorgan. “It isexpected that, with their potential

entry, the overall equity marketvolumes will continue to grow inSaudi Arabia.”

But other analysts and fundmanagers are more hesitant.Saudi Arabia may be more con-cerned about controlling capitalflows than luring foreign money,given ample domestic liquidity,says Raghu Mandagolathur, headof research at Kuwait FinancialCentre, or Markaz, an investmentbank. He says a return of domes-tic liquidity in Saudi Arabia,along with other markets such asQatar and Kuwait, will definethese exchanges’ fortunes in com-ing months.

The UAE is one market thatcould do with a return of foreigncapital to revive liquidity levels.The emirates’ dire liquidity levelsof 2011, which prompted dozens ofbrokerages to go out of business,have returned after a brief rise inactivity in the first quarter.

Among the UAE’s 100-odd listedcompanies, about 60 per cent oftrading activity was concentratedin the leading five stocks in April,while half of the companiestraded less than $1m.

“What we saw [in the first quar-ter] was a function of market per-formance. When it started todwindle because of internationalpressure and sentiment, liquidityinstantly dropped,” says Fadi al-Said, head of investments at INGin Dubai.

Regulatory changes to allowshort selling and market makingactivities, identified by managersas an important driver of change,are being considered by the fed-eral regulator in Abu Dhabi. Offi-cials, however, have alreadydoused optimism by pushing backthe target date for the introduc-tion of reforms to the end of 2012.

Market participants continue to

believe such regulatory changescould herald a new dawn for UAEmarkets, which if unified andmore liquid would challengeSaudi dominance.

The UAE’s two stock markets,

Dubai and Abu Dhabi, have foryears been studying a proposal tocreate a unified platform. Officialssay the proposal remains livebut has been delayed by questions

about how to value Dubai’spublicly listed exchange in anymerger.

The political issue of controlover the unified bourse has gener-ated further complexities. JeffSinger, chief executive of NasdaqDubai, has called for a taskforceto be created by the governmentand the private sector to co-ordi-nate decision-making in a push“to fix the markets and increasetrading levels sufficiently”.

One popular solution would bethe privatisation of state-ownedcompanies to broaden themake-up of listed companies onthe Abu Dhabi and Dubaibourses, where the real estate andbanking sectors are over-repre-sented.

Nasdaq Dubai, despite a merger

with the Dubai Financial Market,continues to face the low-liquidityvicious circle that persuadesdomestic companies to choosebusier foreign exchanges for ini-tial public offerings. For example,NMC Health, this year’s sole UAEpublic listing so far, listed inLondon.

Shuaa Capital, which withmany UAE brokers has radicallydownsized its retail brokeragearm, says companies and marketsneed to do more in terms of trans-parency and to compete for inves-tor attention at a global level.

The investment bank says it isfinalising plans to launch a corpo-rate brokerage arm to help man-age the complex task of generat-ing liquidity and improvingaccess to information.

Stock exchangesSimeon Kerr reportson the constraintsconspiring to keepglobal interest subdued

Market makers: the Dubai exchange which, if unified with Abu Dhabi, could challenge Saudi dominance Bloomberg

Among the UAE’s 100-odd listed companies,about 60% of activitywas concentrated inthe leading five stocks

Afaq Khan,chiefexecutive ofStandardChartered’sIslamic unit

ContributorsMichael PeelMiddle East Correspondent

Camilla HallGulf Correspondent

Simeon KerrDubai Correspondent

Robin WigglesworthCapital MarketsCorrespondent

Abeer AllamFT Correspondent

Stephanie GrayCommissioning Editor

Steven BirdDesigner

Andy MearsPicture Editor

For advertising details,contact Mark Carwardine:+44 (0)207 8734881;email;mark.carwardine@ft.comor your usualrepresentative.

FINANCIAL TIMES TUESDAY MAY 29 2012 ★ 3

Arab World: Banking & Finance

T he initial optimismsurrounding theMiddle East’s popu-lar uprisings,

sparked by political corrup-tion and unemployment,has given way to mountingconcerns over the politicaland legal uncertainty thathas stymied foreign invest-ment, at least in the shortterm.

Cash-rich Gulf investors,who flocked to Egypt andother parts of north Africaduring the recent oil boom,are opting to invest at homeand to wait until the politi-cal situation is clearer.

The drop in investment innorth African states hasbeen exacerbated by theunfolding eurozone crisis,which has resulted in anincreased international costof borrowing, restrictivecredit rules and a liquiditycrunch.

This has affected invest-ment in countries such asEgypt, Tunisia, Moroccoand Libya, where Europeanforeign direct investment isa main component of thegross FDI, according to thebusiness and financial serv-ices practice for Frost &Sullivan.

As Egyptians voted lastweek in the first presiden-tial election since a popularrevolt ended the 30-yearrule of Hosni Mubarak last

year, foreign investors areclosely watching the out-come which will shape thepolitical and the economicagenda of the most popu-lous Arab nation.

Egypt posted FDI out-flows of $482.7m in 2011,compared with inflows of$6.4bn a year earlier.

Leading presidential can-didates, including formerregime officials AhmedShafiq and Amr Moussa,and Islamists Abdel Mon-eim Aboul Fotouh andMohamed Morsi, say theyfavour a free-market econ-omy and will work towardsattracting foreign invest-ment.

But Mr Aboul Fotouh’ssuggestions to cut energysubsidies by half to energy-intensive industries, andreassess FDI on the basisof technology transferrather than job generation,has made some investorswary.

“The problem is lack ofvisibility, investors will nottake the risk,” says Sébast-ien Hénin, portfolio man-ager at the National Inves-tor (TNI). “They also wantto rely on having cheapenergy to export competi-tive goods but it will bemore challenging to getsuch advantage.”

Foreign investors andanalysts are less concernedabout electing a MuslimBrotherhood candidatebecause they believe he willwork well with the Islamist-dominated parliament.

Still, the vague nature ofthe future relationsbetween the army and thepresident, or the role of thepresidential authorities in

writing the constitution,add to the confusion.

The Egyptian economyhas been hit by a drop intourism as well as the lackof decision making by offi-cials afraid of being accusedof corruption, analysts say.

Allocating land forprojects, for instance, hasall but stopped becauseland has been the centre ofcorruption cases in thepost-Mubarak era, econo-mists say.

Foreign investors com-plain that, while electionshave provided a glimmer ofhope, a rising sentiment ofpopulism and the absenceof clear labour and taxationlaws, has cast shadows overinvestment decisions.

“The risk of tax codeuncertainty puts me offanything in Egypt in theshort term,” says an impor-tant Gulf investor.

“The labour-intensive

investments will carry a lotof risk in new Egypt. Theadvantages of Egypt are thebig market and cheaplabour. If I have a problemwith laws on how to hireworkers and compensate

them, it wipes the advan-tage away.”

Since former Mr Mubarakstepped down as presidenton February 11 last year,the country has been facingstrikes in both the publicand private sectors.

Workers have pressed for

salary increases and achange of management.

“I do not expect the presi-dential election will allevi-ate the problem for any-one,” says one foreigninvestor. “Workers getaway with anything now,but without any accounta-bility.”

Foreign investment iscritical to job creation tostem an unemployment ratethat hit 12.6 per cent in thefirst quarter of 2012. About3.4m working age peopleare unemployed, or 62,000more than in the fourthquarter of last year,according to the govern-ment.

“In general, there areinvestors who did not losehope in Egypt because thefundamentals are still thesame,” says Mohamed AbuBasha, an economist atEFG-Hermes, the regionalinvestment bank.

“But that does not meanit is going to happen soon.Morocco may emerge as thewinner of uncertainly in theMiddle East. It is more sta-ble and predictable thanEgypt.’’

Analysts and investorsnote that Tunisia has cleartaxation and labour lawsand could be attractive toinvestors. But the small sizeof the market could prove adeterrent.

Libya’s chaotic transitionand Algeria’s nationalistpolicies, which promptedthe government to cancel orrenegotiate contracts withforeigners, has made manyinvestors wary.

“Algeria can afford itnow, but it will face unem-ployment and housingissues in the future; thesame issues that we haveseen in the Arab countriesthat revolted,” says Mr AbuBasha.

Uncertainty casts a cloud over FDIInvestmentThe eurozone crisishas exacerbated thedrop in interest,writes Abeer Allam

Egypt elects: leading presidential candidates say they favour a free market economy and will work towards attracting foreign investment Getty

rival Saudi’s for size –remains on ice.

Saudi Arabia has beenmore active internationallyon debt financing, where itsofferings of Islamic law-compliant sukuk (bonds)have helped drive a briskworld market this year.

The $14bn of sales ofsukuk so far this year – in amarket in which the UAE isalso a big presence – are oncourse at least to match the$32.6bn of last year, accord-ing to figures from Dea-logic, the financial data pro-vider.

The biggest Saudi dealwas a government-guaranteed 10-year SR15bn($4bn) sukuk sold to financethe expansion of KingAbdulaziz International Air-port in Jeddah, but thehighlight for many inves-tors was a $1.75bn bondoffered by Saudi ElectricityCompany.

Orders outstripped theoffering size 10-fold, reflect-ing international confidencein the ability of Saudi Ara-bia – the world’s largest oilexporter – to honour debtobligations even at a timeof heavy public spending athome.

Additionally, Dubai madea notable sale, a two-part$1.25bn bond that under-scored the emirate’simproved reputation amonginternational investors afterits 2009 financial crisis.

Islamic finance is also setto play an important role inthe restructuring of themany Arab world compa-

nies that ran into troubleafter the internationalbanking crisis hit in 20070-8.

Following initial anxietythat the complexity ofmany sharia-compliantproducts was hinderingefforts to put ailing compa-nies back on their feet,bankers say they are nowbetter placed to deal withbillions of dollars of Islamicdebt maturing this year.

That has not stopped dis-tressed debt traders fromtaking an interest in compa-nies whose bond yields arerising because of concernsthey may not be able to pulloff a restructuring.

Arcapita, the Bahrain-based Islamic investmentbank, has filed for Chapter11 bankruptcy protection,ahead of its $1.1bn Islamicloan falling due.

The fate of a $920m sukukpayment coming due fromDana Gas, the energy com-pany based in the UAE

emirate of Sharjah, is alsobeing closely watched.

In project finance, SaudiArabia – the region’s big-gest economy – has led theway, the sector boosted byone of the world’s largestgovernment fiscal stimuluspackages.

But while local lendersare piling into the marketthere are concerns this maynot be enough to make upfor the exodus of interna-tional banks.

Part of the funding gap isbeing filled by big stateinvestors such as the Public

Pensions Agency, the Pub-lic Investment Fund andthe General Organisationfor Social Insurance, orGosi, which can argue theyare fulfilling a public inter-est by backing deals thatcreate jobs and boost theeconomy.

Project finance progressis slower elsewhere,although bankers sayopportunities are appear-ing. A cross-country railproject and a new liquefiednatural gas terminal areplanned in the UAE andthere will be huge buildingneeds for Qatar’s hosting ofthe 2022 football World Cup.

Private equity has, to adegree, defied the politicalinstability in the MiddleEast, with the number ofdeals rising 20 per cent lastyear, even as revoltsengulfed the region, accord-ing to the Mena PrivateEquity Association, anindustry body.

Thriving areas includehealthcare in Saudi Arabiaand retail in the UAE,although the activity has astrong pragmatic streak.

Industry insiders saytransaction volumes are uppartly because more sellershave begun accepting theyhave to drop prices fromthe boom-time valuationsthat once beguiled them.

Many institutional inves-tors remain wary, prefer-ring emerging Latin Ameri-can, African and Asian mar-kets. It is part of mixed pic-ture that – in financing asin politics – seems to beembroiled in both the bestand worst of times.

Need for funds is at its height as euro’swoes and uprisings depress lendingContinued from Page 1

‘I do not expect thepresidential electionwill alleviate theproblem. Workersget away withanything now’

Stock markets Egypt defies the odds

Despite the politicalupheaval, the periodicviolence and weakeconomic performance, theEgyptian stock market,remained among thebiggest global winners thisyear, advancing by about34 per cent to date.Although the EGX 30

started at a low base afterlosing 50 per cent last yearfollowing the popularuprising that toppled HosniMubarak and a subsequentcapital flight by foreignholders of Egyptian stocks,the robust performance hassurprised observers. TheEGX 30 was ahead of MSCIEmerging Market, whichgained about 10 per centand of MSCI World thatrose 7.5 per cent.“The performance started

to change when peoplerealised the situation wasnot so bad after the firstanniversary of therevolution [January 25]went fine,” says SébastienHénin, portfolio manager atThe National Investor, aninvestment research group.“You still have some issues

related to the economy, forinstance tourism is downand you have a lot ofstrikes and demands forsalary increases.”Despite the gain, foreign

investment in Egypt’s stockmarket remains limitedthough the shares remainrelatively cheap, at 22 percent less than the emergingmarkets average.The potential devaluation

of the Egyptian pound is abig concern for foreigninvestors, who havewithdrawn billions of dollarsfrom Egyptian equities eachmonth since May 2011 aftersteady inflows in 2009 and2010, according to EPFRGlobal. The JPMorgan Africafund, which pulled out ofEgypt last year, has not yetreturned.Negotiations with the

International Monetary Fundover a $3.2bn loan have not

progressed as planned. It isconditional on Cairo’s abilityto line up other sources ofcredit to meet a fundingdeficit of $11bn until nextApril.Analysts, however, remain

cautiously optimistic as thecountry has already electeda parliament and voted lastweek for a new president inthe first election since MrMubarak was forced to stepdown last year. A freepresidential election wouldgive a positive signal toinvestors and prove that theruling military council iscommitted to hand overpower to civilians, despite achaotic transition period,analysts say.Minoush Abdelmeguid, an

investment banker andmanaging director at UnionCapital, says theenvironment is still tough.“The country is still inlabour,” she says. “There isdefinitely devaluationcoming on its way.Investors want tounderstand before theymake a decision. Yet thereare some positive signalsand the sentiment is muchbetter than last year; thereserves are picking up,tourists are still coming andinflation eased.”The Saudi government

pledged a $2.7bn aidpackage for Egypt anddeposited $1bn to easeforeign reserve pressures.While Morocco, along with

other north Africancountries, was supposed togain from the politicaluncertainty in Egypt, theeuro crisis has spilled overto its southern neighbour.Casablanca stock exchangehas dropped by 11 per centso far this year.“Morocco is under

pressure because 80 percent of the trade is withEurope,” says Mr Henin.“The bulk of tourism andremittances come fromEurope.”Tunisia, whose stock

market advanced by 8.2 percent so far this year, alsosuffers from its reliance onEuropean tourism andinvestment, curtailedsharply by the eurozonecrisis. Tunisia, whichsparked the Arab uprisingwhen it toppled itspresident last year, had amore orderly powertransition than Egypt.“The market reboundedto levels close to the prerevolution value, yet itremains mainlydominated by localinvestors.“It remains the most

expensive market in theregion,” says Mr Henin.“There were a lot ofhopes to have IPOs, butwe have not seenanything significant.”

Abeer Allam.Sébastien Hénin, portfolio

manager at The NationalInvestor

Islamic finance isset to play a role inrestructuring ofmany Arab groupsthat ran intotrouble in 2007-08

Project finance: image of the King Abdulaziz airport upgrade

‘The performancestarted to changewhen peoplerealised thingswere not so bad’

4 ★ FINANCIAL TIMES TUESDAY MAY 29 2012

Arab World: Banking & Finance

Sovereign wealth funds Attention turns to the home front

Soaring public spending inthe Gulf is threatening thebudget surpluses of theregion’s sovereign wealthfunds as domestic concernsdrive expenditure.Spending has risen

fourfold in less than adecade and the price of oilneeded for countries toproduce surpluses hasrocketed. With those flowsat risk, funds will face morecompetition for governmentrevenue.Pressure to spend

domestically has divertedbudgets away frominternational trophyinvestments and into localsectors such as healthcare,education and job creation.As unrest has spread acrossthe Middle East, the Gulfhas responded by putting itspetrodollars to work athome.Government funding for

the region’s sovereigninvestment arms is forecastto rise by 8 per cent thisyear, compared with anincrease of 13 per cent ayear ago, according to arecent report by Invesco,the asset manager. Whilethe funding rate has fallen,government revenue is setto rise by 31 per cent thisyear against 25 per cent in2010, the report says.“In general, higher

spending needs havetempered foreigninvestment,” says RachelZiemba, a London-baseddirector at Roubini GlobalEconomics. “Still, they arerelatively healthyinternational savings due tohigh [oil] prices and higheroutput.”While domestic spending

has diverted some wealth,oil prices of more than $100a barrel have partiallymitigated the impact onsovereign funds.However, with debt woes

in Europe re-emerging, theprice of oil has alreadysuffered.Qatar has stood out from

the other regional funds,taking multiple minoritystakes in western blue-chipcompanies this year.Despite boosting spending

at home, Qatar, with itssmall national population

has had a recent splurge ofpurchases abroad. In recentmonths, the emirate hasbought stakes in companiessuch as Siemens, Shell andTiffany’s.Analysts say Qatar is less

vulnerable to oil priceshocks because it is thelargest exporter of liquefiednatural gas, which is sold onlong-term contracts.“Qatar is a bit special

because it has more cash,lower spending needs and amuch higher risk tolerance,”says Ms Ziemba.She believes Qatar will

have $25bn to $30bn toinvest this year, taking itsassets under managementto between $120bn and$130bn.While Gulf governments

are wealthier than theirneighbours in the Levant,they are under pressure toshow that the petrodollarsare reaching the local

population. Somegovernments do not publishtheir annual budget data,leaving citizens in the darkas to how money is spent.The United Arab Emirates

has slowed its purchases oftrophy assets, spendingwindfalls locally andbranching out into emergingmarkets such as Brazil.More than half of the assetsof the Abu Dhabi InvestmentAuthority (Adia) are investedin indexed-funds that trackglobal stock markets. WhileAdia typically receivessurplus revenuesautomatically from thegovernment, investmentarms such as Mubadala alsobid for funds, according to arecent bond prospectus ofthe latter.Adia, one of the world’s

largest sovereign wealthfunds, said last year that ithad sharply improved itsannualised rate of return in2010 measured over a 20-

year period. Mubadala,which announces quarterlyresults, made a $1.1bn losslast year. Results for thehuge Kuwait and QatarInvestment Authorities werenot available.Risk appetite at the

sovereign funds has alsodeclined since the onset ofthe financial crisis, accordingto Invesco, the independentinvestment managers.Demand has increased for“tangible” income-generatingassets such as real estateand infrastructure, it says.The post-Lehman Brothers

stock market collapse leftmany of the region’s fundsburnt as bank share pricescollapsed and asset valuesplummeted, causing a pausein activity.“Western governments are

keen to go to the MiddleEast and look to sovereignfunds for interest, but theyhave to make theirproposals very attractivebecause the amount ofcapital available is reallyrather tight,” says NickTolchard, head of MiddleEast for Invesco.“Funds will be saying ‘if

we’re going to invest, thereneeds to be a degree ofbilateralism’.”The Kuwait Investment

Authority has turned itsattention to Asia, openingan office in Beijing last year.The fund received approvalto invest $300m as aqualified internationalinvestor, with a view toexpanding.In Saudi Arabia, HSBC

estimates that, if oil is at$100 a barrel in 2013, theneven with oil sold at morethan 10 times the cost ofproduction, the kingdom willnot generate surpluses.Foreign exchange reservesof the Saudi ArabianMonetary Agency stand at$560.8bn.Analysts have pointed to

concerns over SaudiArabia’s domestic oilconsumption, which theysay in the long term couldthreaten its potential futureoil revenue as crude isdiverted from theinternational market.

Camilla Hall

Qatar has stoodout from the rest,taking multiplestakes in westernblue-chip groups

Private equity has beenthrough two convulsions inthe region. First, the globalfinancial crisis underminedthe banking system andaccess to leverage, then thepolitical revolts of the Arabuprisings further shatteredconfidence.

But practitioners arestarting to see a light atthe end of the tunnel.

Data produced by theMena Private Equity Asso-ciation, an industry body,indicates that the numberof deals rose 20 per cent in2011 compared with 2010,with the number of exitsalmost doubling during thesame timeframe.

“People are focusing onidentifying pockets ofgrowth and investing inthem,” explains ImadGhandour, managing direc-tor of CedarBridge, theprivate equity firm.

“This is the trend we areseeing – maybe the overallmacro picture is not thatbright, but there are placeswhere you can put moneyand make money.”

Hot sectors includehealthcare in larger mar-kets, such as Turkey andSaudi Arabia, or retail andfranchising in the tourism-focused United Arab Emir-ates.

Dubai-based Abraaj Capi-tal in January sold a Turk-ish healthcare provider to aconsortium led by Malay-

sia’s sovereign wealth fund.The Carlyle Group, which

in 2009 bought into Turkishhealthcare, earlier this yearacquired a stake in a bigeducation company in Tur-key and a Saudi-based fast-food franchisee in late 2011.

“Prices are realistic, butyou can’t bottom fish forgood assets right now. It’srare to see deals at dis-tressed levels,” says Mus-tafa Abdel-Wadood ofAbraaj Capital.

A sense of realism hasdawned on sellers, many ofwhom were clinging toboom-time valuations,allowing a steady stream ofdeals to illuminate thedarkness that haddescended on the sectorsince the financial crisis.

“It all boils down to price.That’s the biggest stimula-tor of this activity,” says MrGhandour.

“Valuations are now pro-viding some good opportu-nities in the region – aftertwo shocks investors seethat life goes on, businessgoes on.”

But the apparent recoveryin private equity has yet toreignite interest from globalfunds.

Mr Ghandour says insti-tutional investors such aslarge pension funds haveyet to step back into theregion in a meaningful way,preferring more attractivepropositions in Latin Amer-ica, Africa and Asia.

“People look at the Mid-dle East and north Arica asone region. They don’t dis-sect it into different coun-tries,” he says.

“There is uncertainty inEgypt, Syria is there andIran is an issue right on ourborders – even though

Egypt is growing fasterthan Europe and the Gulfis booming, this is all beingclouded by political risk.”

Dozens of private equitygroups have dropped out ofthe market since the finan-cial crisis, leaving a handfulof companies, includingestablished names such asAbraaj Capital, The CarlyleGroup, Bahrain’s Investcorpand Egypt’s Citadel Capital.

The heightened politicalrisk is an opportunity forregional investors who feelmore comfortable in thesechallenging environments.

Hisham El-Khazindar, co-founder of Citadel Capital,

the Cairo-based privateequity firm, which has$9.5bn of investments, sayspolitical change will gener-ate longer-term growth.

“As governments shifttowards more democraticsystems, transparency willincrease, economies will berun more efficiently, cor-ruption will be reducedand subsidies will be betterdirected under the scrutinyof elected parliaments,” hetold a recent conference.

Africinvest-Tuninvest, aprivate equity group thatfocuses on small-cap compa-nies, has made about 100investments in Africa,including $200m worth in

north Africa, targetingdeals of between $5mand $20m in sectors suchas manufacturing andeducation.

“The governments havebecome more aware aboutthe need to foster privateequity and not rely on gov-ernment investment andthe financing of privateinvestment by debt bank-ing,” says Ziad Oueslati, co-founder of Tuninvest.

Other funds are alsoincreasingly looking tosmall and mid-cap deals, aswell as venture capital forsmaller businesses.

Abraaj says it continuesto carry out larger, “plat-form” deals as they come tofruition, but says the stead-ier deal flow comes fromsmall and medium-sizedtransactions.

“Some of the most excit-ing opportunities are belowthe radar screen, fast-grow-ing companies that needcapital and support to getthem to the next level,”says Mr Abdel-Wadood.

Ex-investment bankerSalam Saadeh, co-founderof Y+ Ventures, this monthplans to have a first closingfor a $30m fund focusing onregional digital and mobilecompanies.

Rather than seed capital,the fund will investin models businesses, help-ing them to expand, withexpectations of at least twodeals by the summer.

“The digital and mobilescene in our region is devel-oping very quickly,with many talented entre-preneurs creating numer-ous new start-ups on aweekly basis to solve partic-ular problems,” says MsSaadeh.

Heightened political risk givesopportunities to local investorsPrivate EquityMany global firmshave yet to returnto the market, saysSimeon Kerr

‘Prices are realisticbut you can’tbottom fish forgood assets rightnow. It’s rare tosee deals atdistressed levels’

A swift glanceacross the low-rise landscape ofRiyadh reveals

what project finance bank-ers across the region like tosee: cranes.

And what is on display isnot the rusting equipmentthat has laid dormant insome other Gulf cities, butthe hustle and bustle ofactive construction sites.

As the Saudi Arabian gov-ernment continues with oneof the largest fiscal stimu-lus plans in the world,building infrastructure forits swelling populationremains at the heart of thecountry’s domestic policy.

But with internationalbanks taking a step backfrom long-maturity projectfinance, curiosity is mount-ing as to how these planswill be funded here andelsewhere in the Gulf.

“There ought to be moreconcern over some of thebig projects – there’s still abelief that the larger bor-rowers, such as QatarPetroleum, Aramco andSabic will always get theirprojects done. But they’llhave to push even hardernow,” says Jonathan Robin-son, head of regionalproject finance at HSBC.

With more than $500bn inforeign reserves, the SaudiArabian government is wellplaced to finance its petro-chemical and infrastructureprojects but prudent cashmanagement points to aneed to diversify sources.Funding projects looks tobe reliant on combinations

of government financing,local banks and Islamicbond issuance.

A recent deal closed byNational Industrialisation(Tasnee) and Sahara Petro-chemical to fund three newfactories is an example ofhow finance is being raised.The companies agreed a 16-year syndicated loan ofSR5.09bn ($1.4bn) with ninelocal lenders. They willthen raise more funds byissuing an Islamic bond toinvestors, so diversifyingthe sources of funding.

Though local lenders,flush with local currencyliquidity, are helping to fillsome of the vacuum left byinternational banks, theyare not able to meet all thefinancing needs of the king-dom’s developmentprojects, bankers say.

Local banks tend to relyon short-term fundingthemselves, so are not wellpositioned to lend over dec-ade-long periods. They arealso restricted by singleobligor limits that ringfencethe maximum amount thatcan be lent to one companyor institution.

In order to fund suchprojects in dollars, locallenders may have to raisefunds in the debt markets.Banque Saudi Fransi soldits first dollar-based Islamicbond this month, attractingorders of more than fourtimes what was required.

With these challenges,government funds such asthe Public PensionsAgency, the Public Invest-ment Fund and the GeneralOrganisation for SocialInsurance, or Gosi, can stepin to support certain dealsthat will help to create jobsand boost the economy.

“A lot of the big financingwill be done by the pensionfunds,” says Paul Gamble,chief economist at JadwaInvestment in Riyadh.“They have their money.They don’t need to go outand borrow. Most govern-ment projects can fall backon to those if they want to.”

Saudi International Petro-chemical, known as Sip-chem, announced thismonth that one of its unitshad signed a SR164.8m loanwith the Saudi Industrial

Development Fund tofinance building a plant.

The scale of building inSaudi Arabia is hinted at bythe data for cement sales inthe kingdom, which rose 16per cent in the first fourmonths of this year, com-pared with the first fourmonths of 2011.

However, this pace is notbeing mirrored across theregion as a whole.

“Generally, we see thatthere are a number of majorinfrastructure projects inthe GCC [Gulf Co-operationCouncil] but activity stillremains low compared totwo or three years ago,”says Paul Mansouri, a law-yer at Norton Rose in AbuDhabi.

Although progress is

slow, bankers say projectfinance opportunities arecropping up again in AbuDhabi, Kuwait and Doha.The union rail project and aliquefied natural gas termi-nal in the United ArabEmirates are also luringproject financiers.

Qatar’s future World Cupdevelopment plans are alsoexpected to create someexcitement in the projectfinance arena, once theybegin in earnest.

Regardless of the country,international lenders willbe hoping for one thing ifthey are going to lend largesums, and that is govern-ment guarantees.

“They [Saudi Arabia]are firing on all cylindersright now,” says HSBC’s

Mr Robinson. “Saudi Arabiahas the largest deliverablecapital plan in the Gulf.Anyone can plan projectsbut not everyone candeliver.”

Questionmark overwho paysfor projectsInfrastructureLenders are findingimaginative ways toraise cash, reportsCamilla Hall

Tip top: cranes stand near rising skyscrapers in the King Abdullah district of Riyadh Bloomberg

Infrastructure for aswelling populationremains at theheart of Riyadh’sdomestic policy