EMTA Special Seminar on the MENA/GCC Markets - Oct. 29

Topics will include:
- What does potential index inclusion imply for positioning, spreads and supply of GCC credits?
- Have rising oil prices muted the appetite for reforms?
- Which countries in the region are best equipped to deal with another downturn?
- Is Vision 2030 still on track for Saudi Arabia?
- What are the prospects for Bahrain and Oman?
- Is there value in Lebanon and Egypt?
- What are the prospects of the Sukuk market for US investors?
And much more

3:15 p.m. Registration 

3:30 p.m. Keynote Address
The Dana Gas Case: An Update and Implications for the Sukuk Market
Debashis Dey
White & Case 

4:00 p.m. Panel Discussion
Current Prospects for the MENA/GCC Bond Markets
Gordian Kemen (Standard Chartered) - Moderator
Michael Cirami (Eaton Vance)
Tim Gill (Fidelity Investments)
Todd Petersen (PGIM Fixed Income)
Brett Rowley (TCW)

5:00 p.m. Cocktail Reception 

Additional Support Provided by Standard Chartered and MarketAxess. 

This Special Seminar is part of a continuing series of panels and presentations that EMTA is pleased to sponsor on various topics of interest to Emerging Markets investors and other market participants, and is part of EMTA’s Legal & Compliance Seminars*.  

*CLE credit will be available for NY attorneys.  This seminar is non-transitional and appropriate for experienced attorneys only.  Please click here for details on EMTA’s Financial Hardship Policy. 

Registration fee for EMTA Members: US$95 / US$695 for Non-members. 

We regret that this event is not open to the media. 

EMTA MENA/GCC Series in New York

The anticipated inclusion of GCC credits into the EMBI index was among the topics discussed at EMTA’s first Seminar in New York on the MENA/GCC region, following years of similar events focusing on the region in both Dubai and London. The October 29, 2018 event was hosted by White & Case, with a keynote address by a partner, Debashis Dey, analyzing the Dana Gas case and its implications for the sukuk and all other “principle” bonds. Gordian Kemen (Standard Chartered) moderated the panel, comprised of Michael Cirami (Eaton Vance), Tim Gill (Fidelity Investments), Todd Petersen (PGIM Fixed Income) and Brett Rowley (TCW). Additional support was provided by Standard Chartered and MarketAxess.

Dey provided background on the Dana Gas case, which for the first time highlighted the significant amount of confusion regarding the intersection of Emerging Markets (local and international law, with its attendant difficulties in trying to enforce the debt onshore) and the overlay of Sharia compliance and principles. While many interpret the case as concluding that a debtor does not have to pay because the contract is not Sharia compliant (and so the debtor can even request back any monies paid and lodge an injunction against any suits to cause payment), in fact, he claimed this was not a Sharia compliance issue at all, but was instead a legal conflicts of law issue (between Local and English laws).

This sukuk was issued in 2007 under a hybrid structure and was Sharia compliant, whereby through a mudaraba arrangement the issuer SPV applies the issue proceeds to Dana Gas that invests such capital on behalf of issuer SPV into certain income generating assets, thus bearing fixed income risk (similar to unsecured creditors in the bond context). The defendant argued that the fund manager can’t guarantee a return on the fund since it was illegal under local law to buy assets at a fixed rate.

In the end, the UK court concluded that it wasn’t ruling on Sharia compliance (since it was not in their purview to do so), but rather whether under English law there was a promise to purchase and deliver. And, the court went further in claiming that, even if the structure was deemed illegal under local law, the debtor/defendant still had to pay even though the situs was not in London since the payments ran through London. Here, the English law-governed contract was read on its face with no relevance attaching to any other laws or considerations. Investors and the defendant actually reached a compromise in late Summer 2018 to do a commercial restructuring, so one doesn’t know how an appeal, if any, would have modified the UK court’s ruling.

The case does not represent the majority of sukuk structures since Dey explained that in 2008-9 scholars in the field wrote against mudaraba structures, thus effectively condemning them to the point of disappearance (and, in fact, many post-Dana Gas contracts provided that debtors agree not to raise Sharia non-compliance as a defense). Likening them to rating agencies “with no skin in the game”, he said these scholars created chaos. Issuing a fatwa (which was more like a ruling, not a legal opinion, similar to a rating agency report) on whether a structure is in compliance with Islamic law, these scholars knew that such fatwa was needed by investors, some of which were prohibited from investing without it. To add complexity to this topic, many such scholars (and there were very few of them to begin with, thus controlling the industry) were also often on the advisory boards of the firms to whom they were issuing their fatwas. It was in no one’s interest to diversify these scholars because most investors wanted consistent results (which are more likely obtained if the same people review fatwas). So, in a nutshell, this scholarly review was not about whether a structure or contract was in compliance with the law, but rather whether it was in compliance with Islamic principles, which can differ depending on who was opining and their subjective interpretations.

Dey’s presentation was followed by a panel discussion on the economic outlook for the MENA region. Moderator Gordian Kemen (Standard Chartered) observed in his introduction that MENA credits offered diversification to portfolios, with higher-rated GCC credits often serving as “safe havens.”

Following the decline in the price of oil in 2014, the push to enact financial reforms had been a regional theme that had attracted investor attention. However, with the recent rebound in oil pricing, the delayed listing of Aramco and the Khashoggi affair in the Istanbul embassy, Kemen asked if investors were still anticipating reform progress.

For Mike Cirami (Eaton Vance), the Khashoggi murder “dents the reputation [of the Saudis].” For him, reform optimism had made way for pragmatism. While the incident was “obviously troubling…it is already off the front pages, and the reality--that people want to do business with Saudi Arabia--will take over.”

Fidelity’s Tim Gill concurred. In his view, Crown Prince Mohammed bin Salman (MBS), “has been a poster child for regional reforms, not just those in the Kingdom. However, he has run a reckless foreign policy in Yemen, and was responsible for both the kidnapping of the Lebanese Prime Minister and the detentions in the Riyadh Ritz Carlton.” While MBS has “told a good story, the risk remains in his foreign policy.” Gill admitted he was “not a big believer” that material reforms had been made in GCC countries, although he recognized progress in the implementation of the VAT in some Gulf states. For the next 12-18 months, bets on Saudi should be based on oil expectations, not Vision 2030 reforms, he concluded.

Skepticism on reforms was also expressed by PGIM’s Todd Petersen. “It is hard to find evidence of real diversification away from oil in MENA oil exporters,” he stated, agreeing that the base case for near-term GCC investment was as oil plays. Petersen warned that there haven’t been many countries that have been successful at transforming themselves away oil and it’s a risk to countries that also are faced with growing populations and demographic challenges.

Brett Rowley (TCW) analyzed the situation from a realpolitik angle. “The reason a lot of people are moving on [from the Khashoggi murder] is that much of the world has decided it is not going to do business with Iran; so, in that case, you need to do business with Saudi Arabia,” he reasoned. The adoption of a VAT served as a sort of litmus test to reveal which countries were serious about adopting reforms; for others, “clearly the plan is just to muddle through.” The region’s volatile geopolitics often proved beneficial to dedicated investors, “as cross-over investors may throw the baby out with the bathwater, and leave us with a lot of value,” he added.

The panel was unanimous in identifying Oman and Bahrain as the most vulnerable GCC sovereigns in the case of another oil price downturn, while several speakers pointed out Bahrain’s beneficial relationship with Riyadh. Cirami expressed concern that, besides financial issues, succession remained an issue for Muscat. While conceding that Oman had lagged in reform progress, Gill foresaw long-term potential in Oman, citing its relative progress in diversification, its past willingness to depreciate the rial, and its support from Iran and China.

Kemen reminded the audience that GCC sovereigns would now be candidates for inclusion in JPMorgan’s EMBI indices. “This is clearly positive news for the region. It’s partially priced in, but passive investors won’t come in until 2019,” commented Gill, who added that liquidity in these bonds was limited because of local buy-and-hold ownership. For Cirami, potential spread compression resulting from index inclusion was not dramatic enough to warrant new interest, with oil pricing remaining a more important consideration.

Petersen predicted greater volatility in GCC assets post-index inclusion, as more foreign investors bought the credits. While he agreed tightening was likely, “it’s not clear to me what you would want to sell to buy GCC; generally people are already underweight what has outperformed this year.” Rowley added that, while the market was largely focused on “the winners” from GCC inclusion, it was also worth considering which instruments will lose in the new EMBI weighting. Finally, he observed that the average credit rating of the EMBI will rise because of inclusion of the highly-rated GCC credits.

The panel also debated Lebanon, with speakers expecting a near-term muddling through. “I don’t see it getting materially better, but I don’t see a default risk in 2019 or 2020,” stated Gill. He expected the formation of a new government, while acknowledging the country was “set up to be completely dysfunctional.” Rowley viewed short-term debt as attractive, despite observing a decidedly bearish tone expressed by local investors during a recent trip. He added that Lebanon was among those countries who could lose petrodollar inflows should oil prices fall.

The panel took a series of questions from audience members. Gill did not see the Aramco listing occurring during the reign of King Salman. Cirami could envision a path to ending the embargo of Qatar by several of its neighbors, perhaps spurred on by recent events. Rowley deemed Tunisia as vulnerable to headline risk with weakening fundamentals and political tension, while applauding Tunis’ decision to limit their recent Eurobond issuance to 500 million euros.