Nomura report on 'The Great Arabian Bubble'

The Bahrain office of Japanese broking giant Nomura last week surprised clients with a report entitled 'The Great Arabian Bubble' which pointed to a disconnect between the real economy and the financial instruments that are supposed to reflect it in the GCC stock markets in general, and the UAE and Saudi Arabia in particular.

The analysis traced the recent development of Saudi stocks and super-imposed the Nasdaq market during the dot-com years of the late 1990s and early 2000. Not only is the Saudi market's rise similar in shape to the Nasdaq, but stock price rises in Saudi Arabia are actually significantly higher than in the dot-com years!

Nomura's analysis is just an articulation of what many professional market analysts say in private about GCC stock markets.

On the one hand, the economic fundamentals of the region are excellent. High oil prices, relatively low interest rates, economic reform, a boom in real estate and massive liquidity. These are all great reasons to be positive about the business outlook for the real economy.

But stock market investors have run well ahead of the game and heavily borrowed retail investors have fuelled 'The Great Arabian Bubble' in stock values, with a historic price-to-earnings ratio of 50 for the stock market in Saudi Arabia.

Nomura argues two possible future scenarios: a nasty correction or a long period of drifting sideways. And with hectic retail activity, with house wives and air cabin attendants joining in the fun, and a lot of lending by local banks who also appear to have got the bug, the former rather than the latter looks most probable.

Will this damage the real economy? Clearly some impact on consumer spending and bank lending might be anticipated. But the UAE and Saudi economies are likely to be able to take a stock market crash in their stride.

The Nomura report compares this situation to what happened in China where stock markets have crashed since a peak in August 2000 and yet the real economy has been through a period of phenomenal growth. GCC stock investors could still be right about the future but get their fingers burned by a stock market correction.

They will find that hard to understand. But that is the whole point, they don't understand what they are doing and will probably only learn the hard way. Nomura advises its clients to 'aggressively reduce' stock holdings in the UAE and Saudi Arabia.