The following article is from our 8020 Investors newsletter  – “The Monthly Truffle – Emerging Markets Insights” our exclusive Emerging Markets Investment Reports. For more information visit our product page here or contact us directly.

In this article, we look at Saudi Arabia, its economy, and its many investment risks. In order to reach a sensible investment strategy and course of action, we will consider Saudi Arabia’s political and economic forecasts in light of recent domestic and global affairs that will likely impact local stock markets.

Saudi Arabia Political Assessment 2019

Crown Prince of Saudi Arabia
Crown Prince of Saudi Arabia, Mohammad bin Salman

‘We were not like this in the past’, said Prince Mohammed bin Salman (a.k.a. MbS) in an interview in October. ‘We only want to go back to what we were – the moderate Islam that is open to the world, open to all religions.’

Anyone with even a passing interest in Saudi Arabia is aware of the new Crown Prince’s extraordinary impact on the politics of what remains one of the world’s last absolute monarchies.

Launching wars in Yemen; attempting to bring Qatar to its diplomatic knees; arresting his rivals and keeping them holed up in a five-star hotel in Riyadh; and, perhaps most pointedly, taking on the religious old guard even going as far as ordering their disappearance – all things accomplished without even being king.

For many, from liberals who bemoan Saudi’s archaic attitudes towards women and other faiths, to conservatives who want to see a strong Saudi Arabia as a counterweight to an ascendant Iran, the Prince comes as a dizzying breath of fresh air.

A grand vision for his country, attracting foreign investments and modernizing the country from the bottom up by investing in future technologies were circulating among global investors that inspired not only the elite of Wall Street and Silicon Valley but also its own population.

Maybe the semi-moribund economy of the kingdom, so long reliant on oil, so heavily weighed by a staggering un and underemployed younger generation, so steeped in its own traditions, will shake off its stupor and become a force of dynamism and progress in the Middle East – Maybe, just maybe.

The Khashoggi incident is just one of the many unfortunate blunders surrounding Saudi Arabia’s foreign affairs and MbS’s performance on the international stage.

The war in Yemen has been described by the UN as the world’s worst humanitarian crisis and among military experts a complete failure. Instead of demonstrating strength it has destabilized the entire region with Qatar being one scapegoat.

The big purge within its own ranks had the opposite effect. His branch of the House of Saud has already begun to consolidate its hold on power in a staggering confrontational sequence of maneuvers that have left the traditional balance between centers of power in the country completely shredded;

Going into 2019, everything is uncertain for MbS, his visions, and his country. The House of Saud is more divided than ever and the international community is performing a balancing act between commercial interests and Western values. It seems that only Trump and Putin are the countries last real supporters – nothing to be particularly proud off nor rely on.

Powerful Religious Institutions

To make matters worse, the Prince has successfully jettisoned the potential support of anyone in his broader clan to come to his rescue if things go horribly wrong.

Prince Al-Waleed bin Talal
Prince Al-Waleed bin Talal

His branch of the House of Saud has already begun to consolidate its hold on power in a staggering confrontational sequence of maneuvers that has left the traditional balance between centers of power in the country completely shredded; none of these figures – such as the multi-billionaire (and similarly liberal voice) Al-Waleed bin Talal – can reasonably be expected to lift a finger to bail out the man who had them arrested on charges tantamount to treason.

For started, religious conservatism isn’t some passing fad in Saudi Arabia – it is built into the very fabric of the legitimacy of the House of Saud.

Sure, in the aftermath of the 1979 revolution in Iran, Saudi – as the main Sunni power in the region – also tacked towards the religious.

Sure, the ascendancy of institutions such as the much-hated mutaween religious police really came into its own in the last three decades. But Wahhabism – the deep traditionalist strain of Islamic practice that the House of Saud adheres to – has been part of the governing ideology of the Kingdom since its inception in the 1930s, and was part of the ideology of the dynasty that created it since at least the 18th.

To put this in context, Wahhabism has been denounced as ‘puritanical’ and ‘ultraconservative’ by some Islamic observers – and the Saudi state has, according to the State Department, spent a staggering six billion dollars over the past twenty years spreading its influence.

What all this means is that Prince Salman and his allies have a daunting task ahead of them. The areas of Saudi practice that need reform are myriad, yet none poses quite as deep-rooted a challenge as reforming the very religious ideology on which the entire legitimacy of his future kingship is based.

There is widespread consensus in Saudi Arabia that the economy needs to reform and prepare for a post-petroleum world. There is a similar consensus that Iran needs to be taken more firmly to task (witness the recent resignation of the Premier of Lebanon – tellingly announced in Riyadh – on account of his being altogether too chummy Hezbollah, Iran’s great proxy in the western Middle East). But whether the Prince can take on the powerful religious institutions at the heart of the country remains to be seen.

Saudi Arabia Economy 2019

Depressed Oil Prices

Oil WTI PriceThe most recent Oil price development is ‘disastrous’ for Saudi Arabia according to Emerging Markets Guru, Mark Mobius. At a critical stage of its grand restructuring plan – Vision 2030 program, a constantly delayed IPO of Aramco and many financial commitments including billion-dollar investments into Softbank’s Vision Fund, it really comes at an inopportune time. Besides, Saudi Arabia, with a few exceptions (Al-Waleed bin Talal), has never been a country famous for its savvy investments or investment acumen.

“If you look at price of oil, it’s disastrous for Saudi Arabia and these other countries that depend on oil prices. I mean we were predicting $100 (a barrel) by the end of last year and now we’re at $57 — this range is incredible, it’s a disaster,” according to Mobius.

Saudi Arabia already suffered a period of depressed Oil prices and it didn’t manage it well. State debt had increased dramatically during that period, coinciding with regional bankruptcies, including the most prominent one that was managed by family members of the Bin Laden family.

Falling Foreign Investments
To make matters worse, the many blunders committed by MbS had a direct impact on foreign investments. Thanks to this absolute disastrous incident involving the murder of journalist Khashoggi, foreign direct investments will further fall in coming years.

Riyadh already saw its foreign investment figures drop dramatically in 2017. Thanks to MbS erratic move in his so-called anti-corruption shakedown, foreign investors got spooked. Recall, that on the Prince’s order hundreds of Saudi royals and businessmen in the Ritz Carlton hotel including Prince Al-Waleed bin Tatal who was one of the fire figures popular in the West were detained. The result was mass confiscation of properties and finances that could rival any communist country at the height of their purges.

Here are some figures on foreign direct investments:

Between September and November of last year, foreign holdings of shares in the Tadawul, Saudi Arabia’s stock exchange, fell by 7 percent.

The numbers show a downward trend going as far back as 2008 — that year saw a high of $39.5 billion in foreign direct investment (FDI), dropping nearly every year and chalking a mere $1.4 billion in 2017, according to the UN Conference on Trade and Development’s World Investment Report.

“That represents a more than 80 percent drop from the previous year’s $7.5 billion in FDI, far worse than the worldwide decrease in FDI of 23 percent.”

“Recent drops were due in part to large divestments and foreign multinationals like Royal Dutch Shell selling their stakes in local ventures to their Saudi partners,” the UN report said.

Still, the kingdom signed deals worth up to $50 billion during its Future Investment Initiative, called the Davos of the Middle East, held in late 2018. Unfortunately, the carefully choreographed event that should have been MbS’s grand moment turned into a farce as many international investors boycotted the event.

Nevertheless, Saudi Arabia is scheduled to join the MSCI Emerging Markets index later this year, a move expected to attract some $15 billion in passive funds and many billions more in active funds. This shows again, the fallacy of index funds and passive investing: Dump money flowing into dump investments.

Failing Macro Factors

The kingdom’s economy shrank for the first time in nearly a decade last year as businesses struggled to deal with higher electricity and fuel prices and a 5 percent value-added tax (VAT) introduced at the start of the year according to financial news.

“Unemployment has been creeping upward, now at a decade-high of 12.9 percent. And the labor market in 2018 contracted after the government began imposing fees on businesses hiring foreign workers, leading to an exodus of more than 900,000 expatriate employees from the country.”

Saudi Arabia plans to boost the 2019 budget, by spending more than 7 percent seems like a joke. It comes at a time when its finances have already been strained by prior bad years.  Lower oil prices really don’t help either in times of financial constraints and the need to stimulate the economy out of its rut.

The Qatar Intermezzo

The blockade of gas-rich Qatar since June 2017, doesn’t help either, nor for its regional stability, nor the stimulation of regional trade and commerce, nor the oil price at large. Qatar is often accused by Saudi Arabia to finance international terrorism. But more importantly, Qatar’s excellent connections to Iran. The regional dispute hurts both parties and the entire region.

In terms of economic flow and investor’s confidence, one can only wonder how far this can go and what the long-term damages could be for the region.

To top this all, Qatar announced its surprise withdrawal from OPEC at the beginning of 2019, an organization it had been an official member since 1961. With that, the future of OPEC is on shaky ground, and immediate development of the oil prices – both so important to Saudi Arabia’s economic well-being.

Qatar’s Energy Minister Saad al-Kaabi said at a news conference Monday that Doha would leave OPEC on January 1, 2019. This comes at a time where the Oil price has already suffered substantially causing some headaches among Saudi’s economic elite.

Saudi Arabia Outlook 2019

So – can the young Prince survive without the support of the religious and the powerful in a country where religion and power are often the same things? Can the prince recover from the disastrous blunders that happened last year?

Right now, it seems that the Jared Kushner strategy of “just sitting this out” seems to be working, as plenty of investors, including Trump, still bet on the Prince – surely not for selfless reasons. In our opinion, a diplomatic blunder in its own right and a short-sighted investment policy for those that intend to commit capital in the years ahead.

A continuous depressed Oil price and declining foreign direct investment are poison for Saudi Arabia’s finances and its economy going forward. Both grand projects, Aramco’s IPO and Vision 2030 program, are in serious jeopardy with serious political consequences.

The crown prince’s bold Vision 2030 program, a drive to diversify the kingdom’s revenue away from hydrocarbons and create private sector jobs for the country’s booming youth population is underfunded and lost momentum. Besides, the project has always shown considerable financial risks that solely rely on a single man’s ambitions for grandeur and recognition.

As Mark Mobius summarized it so bluntly: “The Khashoggi murder is a very bad situation, and as far as I’m concerned I don’t think we should be investing in Saudi Arabia for that reason unless there is some real big change.” We concur 100%.

The real change will lie with the Crown Prince. In just a few months, he completely reverted his image from a young and modern prince seeking reforms for modernization to that of an erratic and archaic despot that might be in power for the next 30 years.

Salman bin Abdulaziz Al Saud
Salman bin Abdulaziz Al Saud

So far, everything he has touched hasn’t turned to gold but into dust. He is neither the military genius nor is he the leader in commerce and reforms he likes to portray himself. Yemen is now seen as an increasingly futile quagmire; the Qatar boycott a long-term drag to the region. The Khashoggi incident, an international blunder that has divided the investors’ community – further declines of foreign direct investment are to be expected.

A sober summary would be, that the Prince is simply incompetent and unfit to lead the country. He has been given too much power too quickly for the level of maturity he has been displaying to the world community. Worst, he is not listening to his advisors who could have constrained him in reasonable ways. But like in an ironic episode of Games of Thrones, the real responsibility lies with the King – King Salman of Saudi Arabia.

There is still time to turn things around, practice damage control and for the Prince to change. He will have plenty of time if he survives any revolts within his own family ranks. But for now, this all doesn’t bold well for Saudi’s economy nor its stock markets.

Saudi Arabia Stock Market 2019

To seek and time investment opportunities and to monitor Saudi Arabia’s economic and stock market performance watch the iShares MSCI Saudi Arabia ETF.

KSA Performance 2018
KSA Performance 2018

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