Are GCC stock markets heading for a fall?

The sudden 5.5 per cent correction in the Saudi Arabian market on Saturday caught most observers unaware. Perhaps it should not have come as such a shock. All the warning signs are flashing.

The Ettihad Etisalat IPO was massively oversubscribed last month, and it is a pretty iron rule of stock market investing that when everyone thinks that buying shares is a good idea that this is the time to get out, and stay out! The Wall Street legend of 1929 of how John D. Rockerfeller sold out after getting stock tips from his boot-boy comes to mind.

Also Saudi stocks are up by more than 70 per cent this year, after a similar stellar performance last year. This has stretched valuations past anything approaching reasonable, and the old adage still applies: what goes up must come down!

Now what changed last week in Saudi Arabia was pretty fundamental. The oil price - which dictates the size of revenues earned by the state - fell very sharply. A barrel of oil that was costing $55 a barrel and few weeks ago can now be had for $42 a barrel.

This may prove to be a short term oil market downturn, or the mark of a return to prices nearer to the Opec range of $22-28 a barrel. Whichever proves to be the case we certainly have a major wake-up call for Saudi Arabia.

Analysts reckon the stock market could now shift 10-12% lower. The danger is that market corrections are seldom modest affairs.

Markets tend to overshoot on the upside and undershoot on the downside. Thus heading for the exit door at this stage would seem a sensible course of action, with massive downside risk for investors and little upside potential.

The interesting thing to watch will be whether the Saudi jitters spread to neighboring GCC markets. Logic suggests that the same oil price argument also applies to them.

Kuwait and Qatar have only just returned to the levels seen at the start of the year, which might protect them except that they were very overbought even at that level.

Oman, Bahrain and the UAE look vulnerable after a very strong upturn in share values during 2004. The indexes of these markets all look like market peaks, and the prospect of lower oil prices will feed eventually into a more sober business environment, albeit with a time lag of 18 months to two years.

However, this is not to say that some trading opportunities will not occur within this timeframe. But stock investors should be extremely weary of trying to short a falling market. This is a dangerous game for the professionals and certainly not for the amateurs.