Is Saudi Arabia ready to Capitalize on Potential Upgrade to Emerging Market Status?

This article by CEO Kurt Lieberman originally appeared in Finance Forward, November 23, 2015.

This article explores the readiness of Saudi Arabia to be included in the emerging markets and specifically compares it to the other majority Muslim countries in emerging markets– Egypt, Indonesia, Malaysia, Qatar, Turkey and United Arab Emirates.

Country Score Graph Majority Muslim CountriesIn a recent article Magni assessed these six majority Muslim countries. Saudi Arabia was not included as it is currently considered part of the frontier markets. For either MSCI or FTSE to promote Saudi Arabia from frontier to emerging, the country would need to open its capital markets to foreign investment. On June 15, the Saudi stock exchange, the Tadawul, became one of the last major emerging markets to let foreigners buy shares directly. However, significant restrictions remain and greater opening will be required to achieve promotion to the emerging markets.

Magni Country Scores are used as the basis for comparison. These scores measure a country’s environment for effective corporate governance. They are based on widely-accepted economic concepts that describe the role of a country’s business environment in achieving successful and sustained economic growth, as well as on the valuation of a country’s equity market. The legal and regulatory system of a country and its overall economic infrastructure create the corporate governance environment for companies operating within the country. Portfolios built using Magni Country Scores have outperformed relevant benchmarks over extended periods.
Currently, Saudi Arabia has a Magni Country Score comparable to Russia and would rank 42nd in the investible world (a combination of the countries in the developed and emerging markets). Among majority Muslim countries, it would rank behind Turkey and ahead of the United Arab Emirates.

Saudi Arabia rankingIn the prior article, Magni identified that the majority Muslim countries were improving faster than the other countries in the emerging markets and much faster than countries in the developed markets. The article projected the potential for at least one of those six countries to become a leader across the emerging markets. Saudi Arabia is improving even faster than the six majority Muslim countries in the emerging markets. The country’s largest improvements have been in areas relevant to eligibility for promotion into the emerging markets, including securities regulation and accounting.

To continue these rapid improvements, Saudi Arabia will need much greater transparency and stronger shareholder rights. In particular, there is almost complete opaqueness regarding fiscal policy, while government supplied statistical information is of comparatively low quality. This opaqueness creates barriers to investment as projects require higher returns to compensate for the risks resulting from a less clear business environment. Shareholder rights are also weaker than in other countries and that weakness is particularly evident in the laws and regulations related to insolvency.

Increasing transparency and strengthening shareholder rights to the level of Malaysia has the potential to improve Saudi Arabia’s score ahead of the other majority Muslim countries and close to the top of the emerging markets.

Fortunately, these improvements are consistent with Islamic values. Increasing governmental transparency increases Adl (justice) and reduces the potential for transactions involving Gharar (“deceptive uncertainty”) as parties to transactions are dealing with comparable, accurate information. Strengthening shareholder rights increases Amanah (trust) in the capital markets.

Previously we identified Malaysia and Indonesia as potential leaders among the countries of the emerging markets. Based on this assessment Saudi Arabia should be added to the list of potential leaders.