Monthly 16 September 2015 Monthly Insights Policy makers are facing significant challenges as diverging growth trends between developed and emerging market economies are being compounded by falling commodity prices amidst volatile financial market conditions. Global macro: With the crisis in Greece having abated, the late summer was dominated by two issues; the turmoil in Chinese equity markets and the prospect of US monetary policy normalization. GCC macro: Survey data on economic activity in the GCC suggests that while activity has picked up in the third quarter, the pace of non-oil growth has likely slowed this year. In the UAE, higher than forecast oil output has partially offset slower growth in the non-oil sector, but we have revised our 2015 growth forecast down slightly to 4.0% from 4.3% previously. MENA macro: Non-GCC economies across the Middle East are relatively insulated from the two major headwinds undermining the outlook for other emerging markets around the world – China, and the possibility of a Fed rate hike. Fixed Income: Macro risks such as falling commodity prices, particularly oil, and fears of a hard landing in China, ensured lock-step movement in risk assets across developed and emerging markets. Average sovereign and corporate bond investors recorded net losses in the range of 0.5% to 1.9% over the month as a result of China induced volatility Currencies: Alternating expectations about the FOMC meeting this week are effectively keeping the USD hemmed-in, having moved sideways overall during the summer. With the current market sentiment being towards no change in interest rates, the USD is likely to benefit should the Fed finally pull the trigger. Equities: Since the start of H2 2015, the meltdown in Chinese equities accelerated the decline in global equities and accentuated volatility amid concerns over global growth. The immediate focus of investors will remain on the Fed before the focus turns to the interpretation and ramifications of what the Fed has or has not done. Commodities: Raw materials struggled over the summer as bearish fundamentals are now being compounded by heightened volatility in financial markets. Oil prices continue to fall as supply soars Source: Bloomberg, Emirates NBD Research 20 40 60 80 100 120 140 78 80 82 84 86 88 90 92 94 96 98 2010 2011 2012 2013 2014 2015 Global oil supply (m b/d) Brent oil price (USD/b) Tim Fox Head of Research & Chief Economist +971 4 230 7800 [email protected]www.emiratesnbdresearch.com
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Monthly Insights...with soft inflation data in August (WPI -4.95% and CPI 3.66%) benefiting from the recent collapse in oil and commodity prices. These trends are likely to keep inflation
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Monthly 16 September 2015
Monthly Insights
Policy makers are facing significant challenges as diverging growth trends
between developed and emerging market economies are being compounded
by falling commodity prices amidst volatile financial market conditions.
Global macro: With the crisis in Greece having abated, the late summer was
dominated by two issues; the turmoil in Chinese equity markets and the prospect of
US monetary policy normalization.
GCC macro: Survey data on economic activity in the GCC suggests that while
activity has picked up in the third quarter, the pace of non-oil growth has likely
slowed this year. In the UAE, higher than forecast oil output has partially offset
slower growth in the non-oil sector, but we have revised our 2015 growth forecast
down slightly to 4.0% from 4.3% previously.
MENA macro: Non-GCC economies across the Middle East are relatively insulated
from the two major headwinds undermining the outlook for other emerging markets
around the world – China, and the possibility of a Fed rate hike.
Fixed Income: Macro risks such as falling commodity prices, particularly oil, and
fears of a hard landing in China, ensured lock-step movement in risk assets across
developed and emerging markets. Average sovereign and corporate bond investors
recorded net losses in the range of 0.5% to 1.9% over the month as a result of China
induced volatility
Currencies: Alternating expectations about the FOMC meeting this week are
effectively keeping the USD hemmed-in, having moved sideways overall during the
summer. With the current market sentiment being towards no change in interest
rates, the USD is likely to benefit should the Fed finally pull the trigger.
Equities: Since the start of H2 2015, the meltdown in Chinese equities accelerated
the decline in global equities and accentuated volatility amid concerns over global
growth. The immediate focus of investors will remain on the Fed before the focus
turns to the interpretation and ramifications of what the Fed has or has not done.
Commodities: Raw materials struggled over the summer as bearish fundamentals
are now being compounded by heightened volatility in financial markets.
Key Data & Forecast Tables .............................................................................. Page 20
Page 3
Global Macro
With the crisis in Greece having abated, the late summer was
dominated by two issues; the turmoil in Chinese equity
markets and the prospect of a US monetary policy
normalization. Both were seen as destabilizing to global
financial markets, and to emerging markets in particular, even
as there were signs of economic recovery in a number of
developed economies
Chinese markets spread fear
Looking through the noise, China’s slowdown has been with us for
some time, so it was some surprise that its actions to spur growth
in late August were met with such a volatile reaction. In particular,
the decision to depreciate the Chinese currency by 3% should not
necessarily have been such a shock, with our own USD/CNY
forecasts being 6.40 for much of this year, seeing a weaker
currency as one way the authorities could eke out a bit more
competitiveness. However the manner and timing was quite
abrupt, with the consequence that other emerging markets came
into the firing line as commodity prices sold off.
Chinese markets tumble
Source: Bloomberg, Emirates NBD Research
Casting doubt on a Fed rate hike
This also provided a jolt to growing expectations that the US Fed
would shortly begin to normalize monetary policy, with the volatility
casting doubt on whether the FOMC would have the nerve to
move as early as this month. Our own view is somewhat different
in that we see the persistence of zero interest rates as actually
contributing to much of the instability that has recently been seen.
But volatility probably reinforces the need to act
Increasingly, the level of concern over what is likely to be a
relatively small adjustment in interest rates does appear to be
becoming excessive. To an extent this hyper-sensitivity may also
hint at how zero percent interest rates have actually become part
of the problem, rather than the solution. In fact it might be argued
that they are not only contributing to current financial markets
instability but arguably to low growth and low inflation as well.
Interest rates have been kept too low for too long, which is
contributing to excessive risk taking and increased leverage in
many parts of the world. Much of this has flowed into emerging
markets and commodities, contributing to bubbles, which in places
like China have become unsustainable. As such, the sooner the
Fed moves to start tightening monetary policy, arguably the better
it will be for financial markets in the long run.
And the economic arguments are also strong
From the real economy’s perspective too it could be said that zero
rates might even be deflationary by discouraging investment in real
assets, thus contributing to the current era of low growth.
In terms of the immediate domestic arguments for the Fed going
ahead, these also look quite compelling. The US August jobs
report showed a further tightening in the labour market which on
balance adds to the case for a September interest rate rise.
Although the headline rise in non-farm payrolls was less than
expected at 173k, there were positive revisions to the prior two
months (41,000) which more than made up for the August shortfall.
There is also awareness that the August result will probably get
revised higher as well given historical patterns.
Furthermore, the unemployment rate dropped two-tenths of one
percent to 5.1%, the lowest reading since 2008, taking it to where
the FOMC sees NAIRU as well as to the mid-point of its central
tendency forecast for Q415. To illustrate the risk that wage
pressures should not be far away if the unemployment rate stays
at current levels or falls further, hourly earnings also rose a little
more than expected by 0.3%, taking the yearly rate to 2.2% up
from 2.1%. The absence of more significant inflation pressure is
not necessarily a reason to hold off either, with the Fed’s Vice
Chair Stanley Fischer saying that Fed has to move before the
inflation rate reaches the Fed’s 2.0% target.
US employment strongest since 2008
Source: Bloomberg, Emirates NBD Research
Giving the Fed a window of opportunity
The Fed clearly has the opportunity to tighten monetary policy at
the upcoming FOMC meeting therefore, a chance they may not
want to miss if they fear losing policy flexibility the longer they wait.
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It also has the cover of tightening against a backdrop of ongoing
stimulus measures in most other parts of the world, which should
serve to soften any blow globally stemming from US policy steps.
The Chinese authorities are likely to deliver more fiscal and
monetary policy easing, on top of the recent steps they have
already taken. We have previously talked about
China’s challenges in terms of a high wire act between achieving
a mix of sustainable long-term growth and the need to maintain a
sufficient level of short-term growth in order to maintain social
stability. While overall we back it to succeed, this is unlikely to
prevent growth falling back towards 6.5% in 2016 and is unlikely to
prevent further periods of sharp volatility in its markets.
As ECB hints at more QE…
Meanwhile the Eurozone has continued its steady, if unexciting
recovery, with Q2 GDP being revised up to 0.4% from 0.3%, and
with Q1 also up to 0.5% from 0.4%. Other more contemporaneous
data, however, show that momentum remains sluggish overall in
H2 with PMI activity treading water in the low 50’s, while
production and retail sales data have also been mixed. As a result
the ECB has hinted at further easing steps, with President Draghi
recently talking about more QE and at extending the period over
which it will be implemented. The ECB raised the issue limit to
33% from 25% and cut inflation and growth forecasts in its staff
revisions, although for now the central bank sees the lower
inflation rate as transitory being caused mainly by energy price
developments.
Further BOJ easing comes nearer…
Developments in Japan have not altered our expectation that more
stimulus measures will eventually be needed either. The Bank of
Japan left policy steady this month, maintaining the JPY80 trillion
annual increase in the monetary base in place since last October.
The Bank seems to be betting that the weakness in growth and
inflation during Q2 will be temporary, with an improvement seen in
the second half. However with Q2’s contraction being revised
stronger to -1.2% (q/q saar) from -1.6% before, largely due to
firmer inventories, most estimates are now that H2 growth will also
still be weak. And as we suspect that inflation will still undershoot
the Bank's time frame for a return to 2% inflation, we find it hard to
believe that the BOJ will not increase QE further. The late October
meeting probably presents the first opportunity as this is when
updated economic projections will be released.
And easing bias remains elsewhere
Easier monetary policy also seems likely to be on its way in India,
with soft inflation data in August (WPI -4.95% and CPI 3.66%)
benefiting from the recent collapse in oil and commodity prices.
These trends are likely to keep inflation below the RBI’s 6.0%
January target, which should allow the bank to cut the reverse
repo rate further from its current 6.25%. New Zealand also cut
interest rates earlier this month to 2.75% and looks capable of
doing more, while the RBA in Australia and the Bank of Canada
also appear to be never too far away from easing policy further
either, even as earlier rate cuts continue to work their way through
these economies.
Only the BoE looking to follow the Fed’s lead
The only other notable country where there is a debate about
tightening monetary policy is in the UK, with the Bank of England
probably about six months behind the Fed in terms of when it
might happen. The economic data on the whole shows growth
continuing, but it has still been rather fitful from month to month,
especially over the summer. Interestingly the minutes of the
September MPC meeting showed an acknowledgement of the
risks stemming from emerging markets, but the overall view was
still that it was unlikely to alter the likely path for policy.
Furthermore there have also been comments from a number of
MPC officials warning about the likely need to raise interest rates
sooner rather than later, and this in spite of headline inflation
reverting back to 0.0% in August.
The BoE usually follows the Fed
Source: Bloomberg, Emirates NBD Research
Tim Fox +9714 230 7800
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GCC Macro
Survey data on economic activity in the UAE and Saudi Arabia suggests that while activity has picked up in the third quarter, the pace of non-oil growth has likely slowed this year. In Saudi Arabia, this has been more than offset by much higher than expected oil production year-to-date and we have upgraded our GDP growth forecast to 3.0% from 2.5% previously. In the UAE too, higher than forecast oil output has at least partially offset slower growth in the non-oil sector, but we have revised our 2015 growth forecast down slightly to 4.0% from 4.3% previously.
Since our last Monthly Insights publication in July, global markets
have seen a renewed bout of volatility. Oil prices have declined
nearly 20% on concerns about oversupply and slower growth in
China, while a sharp sell-off in Chinese equity markets combined
with a devaluation in the renminbi led to declines in global equities
and emerging market currency depreciation. Uncertainty about
when the Fed will begin to normalize monetary policy has not
helped.
Regional economies facing headwinds
In the GCC too, equity markets declined as concerns about the
global economy and oil were exacerbated by regional geopolitical
tensions, not least the conflict in Yemen. GCC FX forwards
surged on concerns about the sustainability of currency pegs in the
face of widening fiscal deficits and shrinking current account
surpluses. (For more on this, please see our report of 25 August
2015, “MENA Devaluation Risks”).
Interbank rates in the UAE and Saudi Arabia have increased, while
deposit growth has slowed, indicating tigher liquidity conditions in
the domestic banking system. Anecdotal evidence in the UAE
suggests that corporates are feeling strain as payments from
customers are being delayed, with firms in some sectors missing
loan payments to banks.
3m interbank rates have increased
Source: Bloomberg, Emirates NBD Research
Growth is robust, but slower than 2014
However, economic and survey data suggests that the situation is
not as dire as some might think. The latest Emirates NBD
Purchasing Managers’ Indices for Saudi Arabia and the UAE show
a faster expansion in economic activity in the non-oil private
sectors in August compared to June and July.
UAE and Saudi Arabia PMIs
Source: Markit, Emirates NBD Research
However, the pace of expansion in the non-oil sectors in both the
UAE and Saudi Arabia is slower this year compared to 2014:
average PMI readings are slightly lower in January-August 2015
relative to the same period last year. The same trend is evident in
the Dubai Economy Tracker, which surveys Dubai firms using a
similar methodology to the PMI surveys. Business activity/ Output
in Dubai has picked up in August, but the average index reading
year to date is lower than for the same period last year, suggesting
a slower pace of growth relative to 2014.
Dubai Economy Tracker
Source: Markit, Emirates NBD Research
It is important to recognize that ‘manufacturing’ accounts for a
significant share of the non-oil sectors in the UAE and Saudi
Arabia. Refining and other downstream activities are included in
‘manufacturing’ from a national accounts perspective, and also
included in the PMI surveys of economic activity. Higher crude oil
production this year has underpinned growth in these oil-related
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industries and thus contributed to the robust PMI readings and
overall non-oil sector growth.
While the headline PMI data looks pretty robust in the context of
low oil prices and a strong dollar, the more granular survey data for
Dubai suggests that activity in the services sectors is more
sluggish than the whole economy output index suggests. While
firms remain very optimistic about the growth over the next twelve
months, the activity index for the key travel and tourism sector was
only slightly above the neutral level 50 level in July and rose to just
52.6 in August. Wholesale and retail sector activity expanded at a
slightly faster pace in August, but the activity index for this sector
was still below that for the whole Dubai economy.
Dubai Economy Tracker
Source: Markit, Emirates NBD Research
2015 GDP growth revisions
At the start of this year, we had pencilled in a 1% rise in
hydrocarbon sector growth, and 5.8% growth in the non-oil sector.
Given the lower readings for average PMI, and the softness in the
services sectors year-to-date, we have revised our forecast for
non-oil growth down to 4.7% this year, down from 5.2% in 2014
and the slowest pace of non-oil growth in the UAE since 2010.
However, Bloomberg oil production data shows that oil output in
the UAE (a good proxy for hydrocarbon sector output) has growth
2.8% year-to-date. Overall, we now expect GDP growth of 4.0%
in 2015, down from our previous forecast of 4.3% and also
lower than the 4.6% growth recorded in 2014.
In Saudi Arabia too, our initial forecasts for hydrocarbon growth
were much lower than has been the case so far this year; Saudi
Arabia has boosted oil output to an average 10.2mn bpd in the
year to August, nearly 6% higher than 2014, and likely more than
offsetting any slowdown in the non-oil sectors. Indeed, we are
revising our 2015 GDP growth forecast for Saudi Arabia up to
3.0% from 2.5% previously.
Khatija Haque +971 4 230 7803
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Non-GCC Macro
Non-GCC economies across the Middle East are relatively
insulated from the two major headwinds undermining the
outlook for emerging markets around the world. First, limited
reliance on short-term portfolio investment will help mitigate
potential capital outflows caused by the U.S. Fed raising
interest rates in H2. Second, with the exception of Iraq and
Iran, every non-GCC economy in MENA runs relatively large
trade deficits with China, meaning there will be less of a direct
impact from either slowing demand or a weaker currency in
the world’s second largest economy.
That is not to suggest that this region is heading into the final
months of 2015 from a position of strength. For the hydrocarbon
exporters – Iraq, Iran, Algeria and Libya – ongoing weakness in
global oil prices is resulting in significant macro and market strains,
and will force economic growth onto a lower trajectory over the
coming quarters. The Algerian government announced in August
that it would seek to cut spending by 9% in 2016, on top of the
lower expenditure they had already announced for 2015.
Iraq also looks set to reduce public spending, with estimates from
MEED suggesting the value of major capital expenditure projects
in process now stands at only USD10bn, compared to USD24bn a
year earlier. As growth in the non-oil sectors of this region is driven
predominantly by government spending, these cutbacks will
undoubtedly result in a slower pace of economic expansion in the
near term, while such large reductions to CAPEX can also threaten
the long-term outlook by reducing potential GDP growth.
Oil Dependency
Source: Haver Analytics, Emirates NBD Research
Similar to the GCC, some of the stress that has resulted from
lower hydrocarbon revenues will be offset by increased debt
issuance. The majority of this is likely to come from Iraq, which in
addition to receiving USD1.2bn in emergency financial assistance
from the IMF in late July, is also seeking to raise up to USD6bn in
international bond markets this year. As part of this process, Iraq
received its first sovereign credit ratings from Fitch and Standard &
Poor’s in recent weeks, both of which rated the country a B-,
putting it on par with Jamaica and Egypt. While Iraq’s outlook has
been undermined by both the drop in global oil prices in addition to
the deteriorating security environment, we would also note that oil
production has continued to expand at a healthy pace, with output
hitting an all-time high of 4.3mn b/d in August.
Net oil importers still under pressure
For some of MENA’s net oil importers – Morocco, Tunisia, Egypt,
Jordan and Lebanon – the past several months have proven
difficult, with economic momentum appearing to slow over the
summer, disappointing hopes that 2015 would be a year of
recovery. Tunisia is a case in point, with data showing real GDP in
Q2 expanding only 0.7% y/y (-0.2% q/q), which was the slowest
pace of expansion since the second quarter of 2011, and which
brought growth in the first half of the year to 1.2%.
Tunisia Real GDP Growth
Source: Haver Analytics, Emirates NBD Research
Not surprisingly, one of the worst performing sectors was the
Hotels and Restaurants industry, which declined 8.5% y/y between
April-June. Two separate attacks since April targeting foreign
tourists will likely result in even steeper declines for the hospitality
sector in the second half of 2015, and should offset the boost from
this year’s stronger-than-expected agricultural harvest. As a result,
we have revised our 2015 real GDP growth forecast lower, and are
now projecting the economy to expand only 0.6%, compared to
2.7% in 2014.
Lebanon’s already weak economic outlook has also suffered in
recent months, as large-scale protests have broken out over the
government’s failure to address the ongoing crisis over a lack of
garbage collection. Policy paralysis is nothing new in the country,
however a spike in public demonstrations may threaten to
undermine consumer and business confidence even further in the
near term. Some of this was likely reflected in the August
Purchasing Managers’ Index, which dropped to an 11-month low of
47.8, and down from July’s reading of 49.3. The central bank has
stated it is planning to undertake an USD1bn stimulus program in
the hopes of stimulating credit growth, however their forecast is for
growth of only 0-1% this year.
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Positive news from Egypt
The most positive news has come out of Egypt, where Italian
energy group Eni has recently announced that it had discovered
what it called a ‘supergiant’ underwater gasfield, which might turn
out to be one of the largest in the world. The field – known as Zohr
and containing the equivalent of 5.5bn barrels of oil – sits near
existing infrastructure in the Mediterranean Sea, meaning that it
can be relatively easy to develop.
Egypt Natural Gas Reserves
Source: BP, Emirates NBD Research
Tapping into such resources would undoubtedly have a positive
impact on the domestic economy, and reduce Egypt’s recent
reliance on energy imports to meet local demand. The prospects of
an increase in foreign direct investment in the near term, and an
improved goods trade balance over the long term, would also help
ease balance of payments pressures, and mitigate downside risks
to the Egyptian pound.
Jean-Paul Pigat +971 4 230 7807
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Sector Focus
Dubai’s tourism and hospitality sector
The hospitality sector accounted for 5.6% of total GDP in Q1 2015.
Growth in the sector accelerated to 9.2% y/y in Q1 2015 from 3.9%
y/y in Q1 2014. However, the GDP breakdown for the hospitality
sector measures only restaurants and hotels. Tourism in the
broader sense is a much bigger driver of economic growth in
Dubai; some officials have indicated 20-30% of Dubai’s GDP is
tourism related. This would include transport, impact on retail and
other associated industries and services.
Dubai’s hospitality sector, % y/y, Q1 2015
Source: Dubai Statistics Centre (DSC), Emirates NBD Research
Dubai’s tourism sector business activity and confidence
Activity in the travel and tourism sector picked up in August 2015
with the index rising to 52.6 from 50.5 in July, according to our
latest Dubai Economy Tracker. The tourism sector however
recorded the lowest growth across the three key sectors surveyed
(construction, wholesale and retail trade). The relative softness in
the travel and tourism sector may be partially due to the summer
‘low season’, but the strength of the USD against key emerging
market currencies has likely been a big contributor to relatively
weak activity growth in this sector.
Separately, Dubai has been recognized as one of the top 5 global
destinations for international travelers, retaining its top rank in the
MENA region, according to the 2015 MasterCard Global
Destination Cities Index. The index provides an overview and
ranking of the 132 most important global cities. In 2015, Dubai is
expected to receive roughly 14.3 million international visitors, up
by 8% y/y. Dubai is in the top ten ranking in terms of visitor
spending, which is estimated to reach USD 11.68bn in 2015 while
it will remain the city that generates more international overnight
visitor expenditure per resident than any other city (USD 4,668).
ENBD’s travel and tourism indicators, August 2015
Source: Markit/ Emirates NBD, Emirates NBD Research
Dubai’s tourism strategy on track The number of tourists coming to Dubai and staying in hotels, hotel
apartments, holiday rentals and onboard cruise ships rose to
13.2mn in 2014, up by 8.2% y/y, according to Dubai Department of
Tourism and Commerce Marketing (DTCM). Dubai is on its way to
achieving the ambitious travel and tourism strategy which aims to
attract 20 million visitors to the emirate by the end of the decade,
according to DTCM. A strong tourism and hospitality industry will
also provide an important boost to retail and other associated
industries and services.
2015 global top 10 destination cities by international overnight visitors, million
Source: MasterCard, Emirates NBD Research
There is a high degree of concentration of hotel room supply
(number of hotel rooms) within a few key segments. For instance,
upscale, upper upscale and luxury hotel rooms (4* to 6* stars)
accounted for 52.6% of Dubai’s total existing supply and 61.9% of
the additional projected supply. The midscale and upper midscale
segment (2* to 3* stars) accounted for 10.6% of Dubai’s total
existing supply. In our view, Dubai’s tourism strategy to strengthen
the midscale and upper midscale segment is moving in the right
direction with 22.3% of the additional projected supply directed to
that segment. This should perhaps shift the focus of the
government to the economy range too as the market is top heavy
on the luxury end.
The supply of hotel rooms in Dubai increased by 6.2% y/y in Jan-
July 2015 to 75,669 rooms. The Department of Tourism and
Commerce Marketing (DTCM) is targeting 140,000 to 160,000
hotel rooms by the end of the decade. Data from STR Global also
shows that a further 17,548 hotel rooms are currently under
construction in Dubai, of which 3,040 are due to come online by
year end. Another 15,788 hotel rooms are in planning stages.
Dubai hotel room supply by type, July 2015
Source: Bloomberg, STR Global, Emirates NBD Research
Similarly, Dubai’s hotel supply (number of hotels) is equally
segmented with upscale, upper upscale and luxury hotels
accounting for 39.2% of Dubai’s total existing hotels and 59% of
the additional projected supply as the graph below shows. Again,
the focus should be on the midscale and upper midscale range.
Separately, the difference between hotel and hotel room supply for
the independent segment highlights the fact that independent
hotels are relatively smaller in size (fewer rooms) compared to
luxury segments where 19.9% of the existing hotel room supply is
absorbed by the 12.4% of the existing hotels.
Dubai hotel supply by type, July 2015
Source: Bloomberg, STR Global, Emirates NBD Research
The substantial growth in the supply of accommodation is already
being reflected in lower hotel occupancy rates. Dubai’s hotel
occupancy averaged 77.2% in Jan-July 2015, down from 78.2% in
the same period of 2014. With the supply of hotels rooms still
outpacing demand growth for the period of Jan-July 2015,
occupancy rates are likely to remain stable or ease slightly with
demand gradually catching up as we approach the 2020 Expo.
Data from the transport sector also shows growth in capacity and
visitor numbers. Passenger traffic at the Dubai International Airport
(DXB) rose to 45 million in Jan-Jul 2015, up by 12.9% y/y. In July
alone, 6.7mn passengers passed through DXB, up by roughly 30%
y/y. Passenger traffic is expected to exceed 79 million at DXB by
the end of 2015 and 103.5 million by 2020, according to Dubai
Airports. Separately, freight volumes at DXB increased by 8% y/y
in July 2015 to 205,526 tons. Year to date volumes totaled
1,438,320 tons, up by 3.5% over Jan-Jul 2014.
Passenger traffic and freight volumes in DXB, Jul 2015
Source: Bloomberg, Dubai Airports, Emirates NBD Research
Bank credit to the transport sector
Bank credit to the transport sector increased to 11.9% y/y in H1
2015 from 52.5% y/y in H1 2014, according to the UAE Central
Bank. Loans to this sector accounted for 4.6% of total bank loans
in H1 2015. In H1 2015, bank credit to the transport sector reached
AED 60.8bn compared to AED 54.4bn for H1 2014. The transport
sector continued to gain momentum in Q1 2015, with growth rising
to 46.2% q/q and 5.7% y/y, down from 7.2% y/y growth in Q4
2014.
Thanos Tsetsonis +971 4 230 7629
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Upper Midscale
Midscale
Economy
Hotel rooms, % of total existing supply
Hotel rooms, % of additional projected supply
20.9
19.4
16.3
23.3
12.4
6.2
1.6
49.7
12.4
16.7
10.1
6.6
4.0
0.5
0 10 20 30 40 50 60
Independent
Luxury
Upper Upscale
Upscale
Upper Midscale
Midscale
Economy
Hotels, % of total existing supply
Hotels, % of additional projected supply
29.3
32.9
38.039.8
45.0
1.05
1.15
1.25
1.35
1.45
1.55
20
25
30
35
40
45
50
Jan-Jul2011
Jan-Jul2012
Jan-Jul2013
Jan-Jul2014
Jan-Jul2015
Passenger traffic (LHS) Freight volumes (RHS)
mn people mn tons
Page 11
Fixed Income
Despite the diverging path of central bank policies, macro
risks such as faling commodity prices, particularly oil and
fears of hard landing in China ensured lock-step movement in
risk assets across developed and emerging markets. Average
sovereign and corporate bond investors recorded net losses
in the range of 0.5% to 1.9% over the month as a result of
China induced volatility.
Global Bonds
The first half of this year was all about the diverging path of central
bank policies in two of the world’s largest economies i.e. the US
and the Euro area. However, now, as we grapple with falling
commodity prices, the theme has shifted to divergence of
economic growth in developed world vs the emerging world. US
and Europe are on the path of improving economic growth while
most economies in emerging markets seem to have adopted a
decelerating trend. Russia and Brazil are contracting, India is
growing slower than expectations and China is slowing faster than
expectations. Amid this rainbow of economic health, thin liquidity
and fragile investor sentiment, fixed income market had one of its
most volatile summers. The volatility index, VIX, touched a high of
40 during the month vs its long term average of 16.
Although the recent positive economic growth and trade data out
of Europe as well as the US didn’t get much attention amid China
concerns, the fear of risk from eventual rate rises has begun to
outweigh the technical bid from QE. We think the discussion
should not be wether the US needs to raise rates to contain an
over-heating of its economy but whether the rates need to continue
at ‘emergency levels’ at all. We expect at least one rate rise in the
US before the end of the year.
10Yr Government Bond Yields
Yield % 1M chg 3M chg YTD chg
US 2.26 +6 -5 +9
UK 1.91 +3 -8 +16
Germany 0.74 +8 -6 +20
Greece 8.35 -90 -413 -73
Russia 5.08 -44 -7 -139
Brazil 5.67 +71 +102 +158
China 3.28 -20 -35 -31
Source: Bloomberg
Though major indices swung wildly on a daily basis, overall month
on month prices reflects a more sombre trend. Government bonds
in the developed economies have now turned the corner to reflect
gradual increase in yields. And despite the assurance from ECB
about continued ultra lose monetary policy, Bund and Gilts
followed suit with UST. 10 Yr UST widened 6bps to 2.26% and
now stand 9bps away from where it opened the year.
Outside of the developed economies, not all emerging markets are
same. The impact of falling currencies is somewhat cushioned by
the positive benefit from low oil and metal prices in the commodity
importing nations. However, the fate of commodity exporters
hangs on thin threads. S&P recently stripped Brazil of its
investment grade rating, downgrading it to BB+ from BBB-.
Brazilian bonds are under considerable stress and are likely to
remain so as its rating continues to remain on negative watch.
In addition to the credit risks arising from low oil prices, the
corporate bond market has had to balance the impact of
weakening sentiment on emerging market economies and
consequently a hiatus in capital inflows. Since the beginning of this
year average credit spreads on corporate bonds have widened by
20 to 50 bps across the US and Euro, on investment and non-
investment grade bonds as well as on all emerging market bonds.
Much of this widening has occurred over the last three months as
hopes of recovery in oil prices got displaced.
In the rising rate environment, IG bonds underperformed HY and
we expect this trend to continue for the remainder of this year.
Global Corporate Bond OAS (bps)
OAS 1M chg 3M chg YTD chg
US IG Corp 171 +3 +24 +33
US HY Corp 593 +2 +92 +48
EUR IG Corp 113 +16 +25 +34
EUR HY Corp 445 +43 +52 +45
USD EM SOV 310 - +2 +18
USD EM CORP 483 +42 +97 +36
Source: Bloomberg
Credit markets were held hostage by fears of hard landing in China
which were sparked by Chinese policy makers devaluing the Yuan
last month. Although official GDP growth in China is still above 7%,
anecdotal evidence from slowing factory orders and weaker trade
data point to a deeper puncture in the economic growth. Though
devaluation of Yuan is easily justifiable in terms of weakening
trade balance, an actual official reaction by the policy makers
fuelled fears of currency wars and saw risk assets tumble downhill
in a rush. Looking at the ferocity of these move, its not surprising
to see capital outflows from the emerging markets.
GCC Market
GCC credit markets, being almost entirely dollar denominated,
fluctuates more in tandem with the US rates than other EM bond
markets where local issuance and currency valuation cushions the
impact of global forces. Although correlation with oil remains high,
Page 12
the tightly held nature of bonds in a minimal new supply
environment has made this market relatively resilient.
In absence of no material corporate development and no strong
conviction on the direction of the UST, trading activity in the
secondary market was relatively muted during the summer
months. BUAEUL index, comprised of liquid UAE dollar
denominated bond with par amount of more than $500 million and
representing circa two thirds of GCC universe of liquid bonds,
closed the month at 108.97 a little lower than last month, a little
higher than last quarter and circa 2% higher than where it opened
the year.
BUAEUL Index – YTW history
Source: Bloomberg, Emirates NBD Research
The premium on GCC bonds over the investment grade US
corporate bonds which used to be more than 40 bps just two years
ago has now vanished. In fact using BUAEAUL index as a proxy
for GCC bonds, we note that credit spreads on GCC bonds are
now lower than on similar rated US corps. OAS on BUAEAUL
index is at 151bps vs 171 bps on BUSC (Bloomberg USD
Investment Grade Corp Index) compared with 191bps on
BUAEAUL in early 2013 and 149bps on BUSC at the same time.
GCC Primary Market - Issuance in the primary market has been
surprisingly low particularly as hopes were building up for higher
issuance this year after low oil prices reduced liquidity in the local
banking systems. While this started out because of issuers
avoiding Ramadan period, the ongoing hiatus is now more an
avoidance of market volatility.
That said, it’s encouraging to see the prospect of development of
the local currency market in the region as sovereigns prepare to
issue debt in LCY to fund their budget deficits. Saudi Arabia
tapped the market for the first time in seven years, issuing circa
SAR 35 billion worth of bonds in the last two months. Kuwait
sovereign is also believed to be in advance stages of doing a
sovereign bond. Depending on market conditions, it could do either
a dollar or dinar denominated bond before the end of the year.
Etihad Airways pricing a USD500 million, five year, senior
unsecured Reg S tranche at 6.875% became the first real
corporate deal to come to the dollar market this quarter. For a B-
rated, complex structured, airlines’ paper to price that tight is
simply a reflection of how skewed the demand vs supply dynamics
are in the region.
Anita Yadav +9714 230 7630
2.40
2.50
2.60
2.70
2.80
2.90
3.00
3.10
3.20
Aug-14 Nov-14 Feb-15 May-15 Aug-15
%
Page 13
Currencies
Alternating expectations about the FOMC meeting this week
are effectively keeping the USD hemmed-in, having moved
sideways overall during the summer. With the current market
sentiment being towards no change in interest rates, the USD
is likely to benefit should the Fed finally pull the trigger.
Fed rate move favoured
We favour a Fed rate hike this week largely because the US
economy does not justify emergency level zero interest rates any
longer and also because it has guided expectations for months
towards a potential hike at this week’s FOMC meeting (see Global
Macro). The arguments against largely revolve around the recent
volatility in financial markets, although it is debatable whether this
would necessarily change if a rate hike was postponed, and
arguably may become even become worse. Better to get the initial
move over with therefore, rather than get even further boxed in by
events. The impact of a rise could also be softened by revisions to
the Fed’s forecasts, which will be published following the meeting,
including to the ‘dot-plot’ rate projections.
Latest US data may have changed a few minds
In the run-up to one of the most closely anticipated FOMC meetings, the markets have absorbed some mixed Chinese economic data which showed industrial production rising by less than expected in August (up 6.1% y/y from 6.0% in July), fixed investment slipping, but retail sales rising by a more than expected. From the US standpoint the latest retail sales figures appear to have changed a few minds. While headline retail sales rose by a smaller than expected 0.2% m/m in August, this was partly due to lower energy prices. If auto, gasoline and building materials are excluded, the retail sales control group rose 0.4% m/m in August, while June and July data was revised higher, suggesting stronger consumer spending over the past 3 months.
This was apparently enough to offset weaker than expected
industrial production and manufacturing data, with industrial
production down by a more than expected -0.4% m/m in August
and manufacturing production down -0.5%. The market is now
pricing in around at 32% probability of a Fed hike tomorrow, up
from about 25% earlier in the week.
USD well placed to benefit
Although the start of previous Fed tightening cycles have often
seen the USD struggle, at least initially, this time around things
look different. This is because few if any of the other big central
banks are likely to follow the Fed’s path, with the Bank of England
being the only likely exception. As such we think that both
USD/JPY and EUR/USD are capable of responding relatively
swiftly to any Fed move, and we are still projecting 125 and 1.08
respectively over the one-month time horizon premised on this
outcome.
In the JPY’s case the response will also be reinforced by the
prospect of more monetary easing in Japan, possibly as early as
next month. In the EUR’s case as well the ECB has been
concerned about the EUR’s recent strength and would probably
welcome a period of underperformance, using the opportunity of a
Fed hike to highlight the contrast with its own stimulatory policy.
EM currencies to bear the brunt
Elsewhere a rate hike will also reinforce the trend towards outflows
of capital from emerging markets, which will further serve to
undermine growth prospects in those countries as well, doubling
up the pressure on them. This means little respite for Asian
currencies, with the likes of the Brazilian Real, Turkish Lira and
South African Rand also likely to be significant casualties, to say
nothing of the commodity currencies.
Correlation of daily currency movements over the last one month
Pair EUR/USD EUR/GPB EUR/JPY GBP/USD USD/JPY
USD/CAD AUD/USD NZD/USD
EUR/USD
0.816 0.297 0.535 -0.778
0.523 -0.362 -0.327
EUR/GBP 0.816
0.062 -0.052 -0.752
0.610 -0.578 -0.384
EUR/JPY 0.297 0.062
0.425 0.3681
-0.154 0.620 0.319
GBP/USD 0.535 -0.052 0.425
-0.243
0.011 0.218 0.000
USD/JPY -0.778 -0.752 0.368 -0.243
-0.611 0.759 0.527
USD/CAD 0.523 0.610 -0.154 0.011 -0.611
-0.589 -0.332
AUD/USD -0.362 -0.578 0.620 0.218 0.759
-0.589
0.622
NZD/USD -0.327 -0.384 0.319 0.000 0.527
-0.332 0.622
Source: Bloomberg, Emirates NBD Research
Page 14
GBP may withstand USD strength better
As mentioned before Sterling might end up being somewhat better
placed to withstand the pressure of a strong Dollar given the
stronger growth performance of the UK economy (relative to other
parts of the world), and the probability that the Bank of England will
be the only major central bank to follow the Fed’s lead, albeit with
a probable six-month lag. However, we would caution about over
interpreting the mounting rhetoric from Bank of England officials
favoring a rate move sooner rather than later, and would also warn
that once it actually begins the tightening process in the UK will
probably be more drawn out than in the US. This is because the
recovery trend is unlikely to be straightforward with fiscal policy
likely to be still restrictive in 2016 and with any nascent inflation
pressure likely to be less acute. Accordingly we see scope for
GBP/USD losses as likely to be less severe than those of the EUR
or the JPY, with the net result that GBP should also benefit on
many crosses.
Beware of ‘gradualist’ rhetoric
Finally although the Fed is likely to lace any tightening with dovish
rhetoric, we think that ultimately such messages may end up being
misleading as the Fed is likely to keep to a fairly regular tightening
pattern once it actually gets started. This may end up surprising
the financial markets which believe that ‘gradualism’ may not add
up to too many more interest rate rises at all. At the moment we
are assuming four further interest rate rises in 2016, but the risk
around this is probably on the upside, especially if inflation shows
a stronger face. In such a scenario the potential for a much
stronger USD would be all too obvious as well.
Tim Fox +9714 230 7800
EM currencies have depreciated sharply (1 Month % Change vs USD)
Source: Bloomberg, Emirates NBD Research
-4.82
-4.39
-9.88
-3.30
-4.01
-12 -10 -8 -6 -4 -2 0
TRY
IDR
BRL
MYR
ZAR
Page 15
Equities
Since the start of H2 2015, the meltdown in Chinese equities
accelerated the decline in global equities and accentuated
volatility amid concerns over global growth. Uncertainty over
the direction of monetary policy in the US also came to the
fore. In stark contrast to H1 2015, economic growth was the
primary driver behind movements in equity markets rather
than money flows.
The MSCI World index declined -7.4% 3m on the back of broad
based weakness across region with the MSCI EAFE index losing -
9.0% 3m, the MSCI Emerging Markets index dropping -16.4% 3m
and the S&P Pan Arab Composite index declining -15.4% 3m.
Chinese equities led the decline with the Shanghai Composite
index dropping -38.7% 3m. Volatility increased across the board
with the VIX index and the VHSI index jumping +52.2% 3m and
+50.2% 3m respectively.
The immediate focus of investors will remain on the Fed meeting
scheduled to end on 17 September before the focus turns to the
interpretation and ramifications of what the Fed has or has not
done. China will continue to remain on radar until the authorities
can put forward a comprehensive plan to boost economic growth
instead of piecemeal action. Locally, activity is expected to remain
subdued until the start of Q3 2015 earnings season in early
October.
Where markets stand
Global equities have been extremely volatile over the last quarter
with all major equity markets giving up gains made in the first half
of 2015. In fact all major indices are now negative for the year with
the exception of European and Japanese stock indices. The MSCI
World index has lost -7.8% 3m and is currently -5.2% ytd while the
MSCI Emerging Markets index has dropped -16.8% 3m and is
currently -15.5% ytd and the S&P Pan Arab Composite index has
declined -15.6% 3m and is currently -10.8% ytd.
While European and Japanese equities have outperformed their
peers on a ytd basis, the same has been possible only because of
their stronger gains in H1 2015. The Euro Stoxx 600 index and the
Nikkei index had rallied +11.3% and +16.0% respectively in H1
2015 compared to a gain of +5.9% in the MSCI EAFE index. On a
3m basis, both these indices have performed in line with broader
trends having lost -7.7%3m and -11.6% 3m respectively.
However, when the movement of equity indices are tracked from
the highs touched in 2015, two things notably standout – Chinese
equities have simply collapsed and US equities have been most
resilient. This at a time when US economic data continues to
remain strong and Chinese economic data pointing to a possible
hard landing would suggest that economic fundamentals remains
the primary driver behind equity market movements even if fund
flows drive short-term movements. For the record, the Shanghai
Composite index has lost -41.9% from the highs of 2015 while the
S&P 500 index has declined -8.1% from its highs in 2015.
Despite the recent correction, valuations appear stretched. The
MSCI World index is currently trading at 16.3x 2015E earnings
compared to its 10y average of 13.4x. Among developed market
indices, the S&P 500 index is trading at 16.7x 2015E earnings and
the Euro Stoxx 600 index is trading at 15.2x 2015E earnings
compared to their 10y averages of 13.9x and 12.0x respectively.
Equity Trends
Source: Bloomberg, Emirates NBD Research
Reversing Down – Up previous month & down this month; Trending Down – Down previous and this month; Trending Up – Up Previous and this month;
Reversing Up – Down previous month and up this month
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