Turmoil in Bahrain refocussed the question of which GCC nation will become the Middle East’s premier financial hub, according to Rebecca Healey, senior analyst at research provider TABB Group, symbolised by the delayed launch of the Bahrain Financial Exchange (BFX), which had been due to begin trading on 28 April.
The BFX, a multi-faith, pan-regional, multi-asset exchange that officially opened on 7 February, has held off the start of trading due to recent violence and unrest.
Modelled on European multilateral trading facilities, BFX, has secured a licensing agreement with index provider FTSE, to offer derivatives based on FTSE indices. It will offer users Sharia compliant trading of products, currencies, commodities and equity indices through its Islamic division, Bait Al Bursa, in addition to its conventional market offering. Along with the Bahrain Financial Harbour, the development of the BFX demonstrated Bahrain's desire to become a centre of finance.
“Bahrain was very well positioned as a gateway between Saudi Arabia, Iran, Iraq, and within the Gulf Cooperation Council (GCC) countries has been small enough to remain uncontentious,” said Healey. “In that sense Bahrain was uniquely positioned to be a financial centre in the gulf, but given recent events, it will take some time to pull back. It remains to be seen whether they have now lost out to others such as Dubai.”
Political sensibility is crucial to pan-regional success in the region. When it was announced that the headquarters for the single gulf currency project would be located in Saudi Arabia, other gulf states walked.
In a recent report, ”Trading in the Middle Eastern: The road to Mecca', Healey explains that Bahrain's rivals' plans to attract overseas liquidity are looking more credible, where political will can be found.
Although the Saudi Arabian market dominates the region, accounting for 45% of the region's US$707billion market capitalisation, it does not allow overseas investors. Because oil revenues support its economy independently of a capital markets infrastructure, removing the political will found in countries without the same resource, smaller players are viable at least on the short term. Dubai, for example has invested heavily to create the international financial market infrastructure, the DIFC.
The United Arab Emirates (UAE), which includes the Dubai and Abu Dhabi stock exchanges, and Qatar are both open for reclassification from frontier to emerging market status by index provider MSCI in June 2011. Countries with emerging markets status are often accessible under the mandates of long-only investment funds, where frontier markets, of which Bahrain is one, are not.
In her report Healey says that the UAE anticipates US$1.5 billion of investment and Qatar expects investments totalling US$3.9 billion of the current US$380 billion invested in emerging markets funds globally.
The recategorisation of the countries rests on them making changes to foreign ownership limits and account structures. The introduction of these changes will not only facilitate overseas investment directly, but will bring market structure and trading practices in line with international standards, increasing the likelihood of trade flows aggregating in these markets.
The restriction of foreign ownership is capped at 49% in the UAE for most stocks, with companies able to issue their own limits up to that level; a companies law is under discussion, originally scheduled for October 2009, that would increase the ownership limit to 75%. In Qatar, foreign ownership limits are 25% of free float, but may push this up to 30 or even 49%. However there is no timeline for any change, which can be made by the Emir issuing a decree.
Account structure has already begun to change; the delivery versus payment (DvP) model, being rolled out in UAE stock markets from 28 April, and on Qatar Exchange from 14 April. DvP allows custodian to settle or reject trades, making the operation of dual trading and custody accounts optional. Where dual accounts are operated, rapid electronic trading is inhibited by the need to transfer stocks from the custody account to the trading account prior to an order being placed.
However even with these changes made, there are no guarantees that the GCC countries will see electronic trading develop as it has in the west. “There is a bit of a stand-off with the western investors looking to trade in one particular way, and the exchanges obligated to meet rules such as individual investor ID’s which are unlikely to change anytime soon,” says Healey.
Use of investor IDs actively prohibits electronic trading as it requires child orders to be sent individually rather than allowing an automated system to divide a parent order up.
“It may be the sell-side that eventually accommocates local market practice, if they are able to offer market making facilities which is currently under discussion.” she says, adding “You may see changes ahead based on this model.”