With the Tadawul set to open to large foreign financial institutions the focus has shifted to Saudi Arabia but what does it mean for the local asset management industry? Mena Fund Manager reports on the latest developments

By opening-up the Tadawul to foreign investors, authorities in Saudi Arabia have made clear their desire to promote the country's asset management sector. Domestic asset managers will now invest alongside new entrants to the market from across the globe.

The Saudi asset management sector has grown steadily in recent years with the number of funds now numbering over 200, overseen by 67 authorised fund managers.

To help grow the asset management sector further the CMA has unveiled a number of objectives to help support the growth of the industry. "The CMA attaches paramount importance to asset management industry," the regulator noted in its strategic plan for 2015-2019.

Among measures included in the regulator's four-year plan were proposals to raise the Saudi public's awareness of funds and investing. It also plans to look at fund distribution channels, moving away from the direct sale of funds by managers towards supporting the establishment of fund platforms. Other plans aim to develop regulations on the legal structure of funds to bring them in line with international practices.

Local market trends

Of the 263 funds recorded by the Saudi Capital Market Authority (CMA) at the end of 2014, equities-focused products were the most numerous, while there was also a large number of 46 money market funds and 41 balanced products.

Equities products are the most popular win the region, representing the greatest by number and by number of subscribers, according to CMA statistics. Money market funds are also highly popular with domestic investors.

One trend that has become more popular recently has been the launch of IPO funds by a number of firms in recent months. AlKhair Capital, Ashmore, Blominvest and Muscat Capital.

"We have seen an increase in preference towards IPO funds from clients with higher liquidity needs combined with a high risk and return appetite," says Amrith Mukkamala, strategic advisory head at MEFIC Capital's wealth management department. "This has been mainly due to: one, an increasing number of IPOs in Saudi Arabia both in 2014 and 2015; and two, historically high return rates of stocks right after their listing on the bourse."

He adds: "In the recent past, the fund route has generated significant interest due to the advantage provided to funds during the allocation process of an IPO in comparison to direct investment by an investor."

Data from the World Federation of Exchanges showed six IPOs during 2014. There were five in 2013 and seven in 2012, although activity across the region has slowed since the onset of lower oil prices.

Real estate is a popular asset class for Saudi investors, drawing large numbers of subscribers in both public and private funds, the area is of interest to the CMA, which is looking at developing regulations and reportedly investigating a Reit structure.

"Investors with a low liquidity requirement have increased their interest and allocation towards income generating real estate funds, says MEFIC Capital's Mukkamala. "The income generating real estate segment has been witnessing a high demand due to the stable yields the product generates over longer periods of time.

"This has augured well not only with endowment funds but also with family offices with defined contribution plans to their respective mandates. In addition, the Saudi Arabian real estate income segment provides attractive yields of greater than 8-10%, which is, superior to yields available in developed markets."

Trading the Tadawul

The CMA was quick to point out that opening up the Tadawul to foreign investors was not designed to attract capital or liquidity to the market. The regulator claimed the move would promote its efforts to increase institutional investment in the Saudi capital market, contributing to increased market stability and reduced share price volatility.

Indeed, trading is currently dominated by retail investors who often  account for more than 80% of trades. Foreign institutions via swaps make up less than 5% of trading activity. The opening up of the Tadawul will lead to increased inflows to the Saudi stock exchange.

"It's very much a case of the Saudis wanting to compete in the region, they see themselves as the largest domestic market but haven't developed the market infrastructure in the same way as UAE and Qatar," says Nick Tolchard, head of Invesco Middle East.

One of the benefits of opening up the market to large foreign investors will be the impact on Saudi-listed companies, which many in the industry hope will provide greater incentive to improve transparency and corporate governance. With 170 listed companies in May, increased interest from abroad could help drive a number of new public listings.

"My understanding there will be a bigger focus on broadening the market by having a lot of IPOs," says Tolchard. "I think there will be more opportunities for local investors to invest domestically, although it is already a market where they have a strong home market bias."

As the largest market in the region the opening up of the Tadawul to foreign  investors has drawn a lot of attention from the industry in recent months.

"The Tadawul is not opening up because it needs money: it's opening up because it wants long-term investors and liquidity to improve over a longer period," says Charbel Azzi, head of Middle East, Africa & CIS at S&P Dow Jones Indices.

"It's going to take some time before we see the impact on the market, it's not going to happen overnight," he says. "Once the market opens up, ourselves and the other index providers will have to look at when and how we will add Saudi to the other emerging markets."

A figure of around $30-40bn in new money is expected by some to to enter the market, says Azzi. "An asset manager that is looking to come into the market will have to abide by certain rules," he adds, noting some of the restrictions for foreign institutions.

"There's a whole lot of paperwork that needs to be done on the back-end before we see the investment trickle in."

Passive problem?

Index providers could be among some of the beneficiaries of the market opening up as new index-tracking funds begin to emerge.

"We're very careful to tackle these things; for us an exchange is very important: we don't look at it as a data provider, but as a partner," says Azzi. "If we want to do something, it will be of benefit to local investors."

Yet, while the number of exchange-traded funds (ETFs) tracking the Tadawul is likely to increase with the opening up of the exchange to international investors, appetite for passive investing may yet remain subdued.

Currently there are three Saudi-listed ETFs on offer currently - Falcom 30, Falcom Petrochemical, and HSBC Saudi 20 - but the index trackers seem to have seen a drop in interest. According to the CMA, the number of subscribers dropped from 307 at the end of 2013 to 255 by the end of 2014.

But Invesco's Tolchard believes the appetite for passive investing elsewhere will generate inflows to the market. "What's significant is how this will generate automatic inflows into Saudi Arabia given the amount of passive investment by global institutions at the moment," he says.

Tolchard adds that while there will be increased interest in the Saudi market, it may take some time before international investors feel comfortable investing large sums.

"It's important to note there is a lot of Middle East money outside the region and increasing local investment opportunities may mean some of that comes back," adds Tolchard. "But it depends on whether investors view the region as a whole and concerned about political risk, or whether they look at it on a country level and see good opportunities.

"It is a positive development in building the Mena capital markets and creating more of an investment focus than what there has been so far which has been more focused on asset gathering from the region," he adds. "This will encourage investment in the region, which is positive for the domestic asset managers."

Indeed, while a number of market participants Mena FM spoke to thought it would take some time before the sector begins to see the benefits of the changes, it is likely to have a more positive impact for the region as a whole.

Separately, the introduction of large international asset managers to the domestic market could also start to change the dynamic of the local asset management industry. While many managers in Saudi Arabia are set up as partnerships currently, the addition of international firms to the sector could see a new wave of corporate activity.

"Looking at empirical evidences across various other markets which opened up to foreign investors, there is also the potential of foreign investors actively seeking to expand their global footprint," says MEFIC Capital's Mukkamala.

"This would mean partial acquisition of stakes in the existing players with strong distribution and asset management teams."

© MENA Fund Manager 2015