Complex Made Simple

What is next for global stock markets and what does this mean for equities in the Middle East?

Over the last month global stock markets have been the victim of risk-off sentiment that has embedded itself in price action, causing the Dubai Stock Exchange to sink around 9% in the last three months. Whilst a lot of the blame lies with Europe, especially peripheral nations like Greece and Spain, poor economic data out of the US, dovish central banks in most major economies and fears of a hard landing in China also played their part in the global risk sell-off.

By Chris Tedder, Research Analyst,

There has been significant reason for investors to be scared. But these factors don’t appear to going away anytime soon, especially with regards to the situation in Europe.

One word which is commonly used to describe the situation in Europe is uncertainty: the uncertainty surrounding Greece’s position in the Euro and the uncertainty about Europe’s growth outlook (or lack of growth). Merkel and other EU leaders have been very vocal about ensuring Greece remains in the Euro, partly because it will likely cost a lot more to let Greece leave than to let it stay but mostly because the market would probably react very poorly to news that the Eurozone is willing to let Greece slip away, especially when the exact ramifications are so uncertain (the domino effect – if Greece falls it may cause other nations to fall as well). Also, if Greece leaves it may create a precedent for other nations to follow.

Furthermore, leaders in the EU are struggling to agree on a more decisive course of action. The recent mid-week informal EU summit failed to produce anything of significance. Nonetheless, Italy’s Monti was on the wires stating that most EU leaders agree on the Eurobonds idea, with the exception of Germany who remains opposed to it.

However, there may come a point when Berlin has no choice but to agree with the other EU leaders. Yet, it is hard to see why Germany would agree to Eurobonds as it would significantly increase their cost of borrowing – but Germany may find some middle ground on other options (bank recapitalisation, European deposit guarantees).

There is also a lot of uncertainty surrounding the ability of China to avoid a hard landing. Some investors are questioning the effectiveness of Beijing’s policy loosening measures. But we are questioning Beijing’s implementation of the measures and there scope. What we have seen so far from the Chinese government is not aggressive enough in our opinion. Yet, there is some light on the horizon for China, with the government having both the will and capacity to implement more aggressive policy easing (a recent statement by the government acknowledges, and even lists, significantly more policy easing is needed).

In the background the US continues to muddle along, and we expect this to continue for the foreseeable future. However, we would change this view if there was deterioration in US labour market data, which is one of the only bright spots of 2012.

So, what does this mean for the Middle East? Markets in the region haven’t been able to escape overall investor sentiment (we only need to compare Dubai’s stock market performance to that of the UK to see this in action). Furthermore, whilst we expect China and the US to mostly keep out of the spotlight it is unlikely markets in the region will be able to escape the risk-negative sentiment surrounding Europe.

At the very the least until the Greek election in June gives investors a better picture of the future of Greece and the Euro. Current surveys suggest Greeks want to stay in the Euro, but there is also a lot of support for anti-austerity parties. Simply, Greece cannot stay in the Euro if it doesn’t agree to the austerity package. Hence, we think gains for macro sectors of Middle Eastern stock markets will continue to move with overall risk sentiment for a little while to come.