Value investing is the way to unlock returns from GCC equities

Non-oil diversity offers opportunities for smart stock picking

Dubai: Amidst the general gloom in the Middle East markets resulting from the sharp oil price decline over last one year and the sluggish performance of GCC equity markets yielding a mere 1.6 per cent CAGR [compounded annual growth rate] in the past 10 years a new research shows there are enough opportunities for value investing that could unlock returns far in excess of standard benchmarks.

GCC investors can unlock value and reap dividends by taking a value-investing approach as the region offers a diversity of high- return opportunities across verticals in the non-oil sector, said analysts at Arthveda Capital, an India-based global alternative investment major.

The post-2009 recovery has been marred by a dramatic decline in oil prices — the steepest since 2008. The GCC equity market has also been sluggish, with relatively low yields while the overall outlook for a GCC investor also remained bleak as instruments such as fixed income funds were not lucrative in the prevailing low interest scenario.

In addition, the offshore fixed income options such as sovereign bonds can either hold their capital at low yields of less than 2 per cent, or face risk of capital loss as US Fed rates increase. That leaves the alternative to a dull investment scenario focusing on regional businesses that create value and not stock market returns.

Despite such a bleak perception, investors focused on the region can reap ample dividends from investing in non-oil sector entities, according to analysts. Offering an analytic view to GCC investors on returns potential from a Smart Alpha Value-Investing framework, the Arthveda Capital analysts said that contrary to the popular belief, the GCC is a highly diversified market with robust non-oil sectors such as real estate, insurance, food production, construction etc …

“The GCC region currently has a population of over 49 million growing at a significant 4 per cent annually, along with a combined GDP of $1.6 trillion [Dh5.9 trillion], with growth rates ranging between 4 to 8 per cent. Given the scale and diversity of the region, there would always be businesses that create superior value,” said Vikas Gupta, Executive Vice President, Arthveda Fund Management.

According to Arthveda, there are over 25 business sectors apart from oil & gas that has the potential for creating higher value to reap dividends from investments.

Smart Alpha Index

Applying the Smart Alpha Value Investing framework based on the Graham-Buffett way to the S&P GCC Composite Index, analysts said that oil and gas sector was in the lowest rung as a potential sector for investments.

The Graham-Buffett way of value investing is based on the principles enunciated by Warren Buffett and his guru Benjamin Graham. Under the value investing framework, investments are done in value stocks that are not necessarily defined as those available at low PE [price to earnings ratio] or low PB [price to book value ratio] but rather those available at a significant discount to their intrinsic value based on a discounted cash flow analysis.

Based on its analysis of the 312 companies in the S&P GCC Composite Index, Arthveda Capital said 85 companies matched the value-investing criteria. Value investing criteria assessment is done on the basis of financial risk, business quality and cheap valuation.

Projecting a GCC Smart Alpha index allocation, the analysts note said that financial and industrial sectors led the potential for higher returns at 35 and 29 per cent respectively. Oil and gas surprisingly accounted for a mere 1 per cent within the value-investing analysis framework while consumer services were at 9 per cent, consumer goods at 6, basic material at 8, telecommunications at 7, health care at 3 and utilities at 2 per cent.

“The GCC Smart Alpha index significantly outperforms the benchmark with an average annual return of almost 11 per cent which corresponds to a high excess return equal to 9 per cent when compared to the S&P GCC Composite price index. The Smart Alpha index comfortably outshines the benchmark from a risk perspective as well, with its annual standard deviation of 13 per cent, being much lower than the benchmark’s standard deviation of 19.2 per cent,” said Gupta.