Regulatory reforms and high yields attract international investors to Oman's capital markets

The overall performance of Oman’s capital markets in 2019 was somewhat mixed. While the country’s credit market continued to grow, underpinned by strong sovereign debt issuance, the equity market declined in the wake of a slowing economy. However, stock market valuations have improved considerably, a number of new debt issuances are in the pipeline and the Capital Market Authority (CMA) is in the process of introducing a number of new laws that should be positive for the development of the sector. Nevertheless, challenges remain. “The economy is going through a tough patch due to oil price volatility, which has hit growth, and the government has cut capital expenditure as part of its cost rationalisation effort,” Sameer Kattiparambil, vice-president for research at investment bank EFG Hermes, told OBG. “A turnaround in investment is needed to fire up the economy and capital markets.”

Structure & Oversight

The development of Oman’s capital markets began in 1971 with the issuance of public shares in Oman Hotels, a move that heralded two decades of sector expansion. In response to the increasing size and complexity of the country’s capital markets, the government established the Muscat Securities Market (MSM) as the formal trading platform in 1988.

The market was then reorganised in 1998 to bring it in line with international best practices. The CMA was set up and tasked with regulating the sector, and the exchange switched from manual to electronic trading. In addition, the Muscat Clearing and Depository Company was formed as a closed joint-stock company owned by the MSM, banks and market participants, and was given a mandate to oversee important procedural functions, such as processing buy and sell contracts, and maintaining shareholder registers. The development of the sector has continued apace in the years since, with plans for the MSM to list itself on the exchange announced in October 2017. This has left the path clear for the CMA to fully take over the role of regulating and overseeing the market in terms of the public listing and trading of equities and other securities. The CMA continues to develop the industry, with the aim of aligning Oman with international best practices, and improving transparency and consumer protection.

Regulation

The sector is governed according to the Capital Market Law of 1998 and its subsequent implementing regulations. However, the CMA met with stakeholders to discuss a revised law in January 2017, having published the draft legislation the previous month, and was still in the process of developing an updated legal framework for the sector as of late 2019. Nevertheless, the new Commercial Companies Law of 2019 is part of this reform process, and the CMA is currently developing a set of accompanying regulations that are expected to be issued in 2020 (see Economy chapter).

A new law to govern the securities segment has also been under development since 2018. It is currently being promulgated and is expected to be implemented in 2020. The reforms are expected to introduce greater regulatory flexibility while also giving the CMA wider powers to intervene when incidences of misconduct take place. Further regulations are similarly being drafted, including for exchange-traded funds, to enable the hedging of positions in the market and attract more sophisticated investors. New takeover regulations were issued in 2019, with the intention to protect the rights of minority shareholders and encourage mergers and acquisitions (M&A).

While a 10% withholding tax on dividends to foreign investors was introduced in 2017, this provision was repealed in 2019. This policy change was positively received by the sector. “After the tax was removed, we saw foreign investors coming back into the market,” Hettish Karmani, head of research at Omani investment bank Ubhar Capital, told OBG. This drive to develop a strong regulatory environment bodes well for the outlook of the sector, given that the Omani market is maturing quickly.

Equity Market

The MSM had 117 listed companies (including referred shares) as of December 2019: 37 in the financial sector, 40 in the industrial sector and 40 in the services sector. The market is divided into a regular market – consisting of 18 companies – with stricter listing requirements, mainly in terms of profitability, and a parallel market composed of 88 companies. The main listing for the exchange is the MSM 30 Index, which had a market capitalisation of $49bn as of late September 2019. Furthermore, there were 16 corporate bonds listed on the MSM in the same month, but activity in these securities was relatively limited, with 114 transactions taking place in the first nine months of the year, valued at $140m.

Faced with falling oil prices, a fiscal consolidation programme and downgrades by international credit ratings agencies, the Omani stock exchange has seen its performance hampered in recent years. From a peak of around 7500 in September 2014, the benchmark MSM 30 Index declined gradually to around 4000 in the latter part of 2019. However, many participants are encouraged by a recent revival in terms of market performance. After hitting lows of around 3750 in July 2019, the market rebounded following the announcement of an improving deficit, with hopes rising for a fiscal stimulus in 2020. There are also indications that the upgrade to emerging market status of neighbouring states in global equity indices may have benefitted the sector. “There has been a positive spillover from the MSCI upgrade in Saudi Arabia and also from Kuwait,” Joice Mathew, senior manager at domestic financial advisory firm United Securities, told OBG.

It is also important to note that the MSM 30 is a price index. If dividends and other payouts to shareholders are accounted for, the performance of the index improves considerably. This is because the dividend yield on Omani equities tends to be in the region of 7% per annum. From February until October 2019 the Total Return Index increased by 5% while the MSM 30 Index declined by 1% over the same period. “Oman is a high-dividend market”, Karmani told OBG. “If you look at the Total Return Index rather than just the MSM 30 price index, the performance appears much better.”

Nonetheless, the muted performance of the market is having a negative impact on capital flows. As a result of the difficult economic environment, foreign portfolio outflows from listed companies totalled around $900m between 2016 and 2018. Additionally, market liquidity remains a major concern for foreign investors and has dried up in many stocks. Looking at the performance in the first three quarters of 2019, the overall MSM 30 Index declined by 7%. The best performing sector was financial services, which was down 4%. Many of the largest companies on the MSM 30 Index are financial institutions, notably Bank Muscat and Sohar International Bank. To date, industrial firms have had a similarly disappointing year, declining 12%. The largest companies in this sector are cement firms, soft drink distributors, a flour mill and a cable company. The services sector – which is dominated by telecoms and utilities companies – was the worst performer, down 15% in the first nine months of 2019.

However, many industry players see the recent decline as an opportunity to buy. “Investors are coming back to the market now that valuations are attractive and price-to-earnings ratios are in the single digits,” Mathew told OBG. “Companies are trading at less than their book value, with dividend yields currently around 6-7%.” Investors are increasingly looking to make stock selections in the MSM 30 Index, with a preference for liquid stocks, particularly among foreign investors.

The country’s banking sector is also proving attractive with international investors despite slow profit growth. Their return on equity is currently around 10%, and they are yielding at around 8% on dividends, which means they should be trading at par if not at a premium to book value. These metrics appear likely to stimulate further foreign investment over the medium to long term.

Challenging Dynamics

In addition to price performance, trading activity on the exchange has also undergone a steady decline. Prior to 2012 turnover averaged around $20m per day, but fell by around a third following the Arab Spring in 2011, before dropping again with the decline in international oil prices in 2014. It is now averaging around $7m-$8m per day. However, there are discussions under way among stakeholders and regulators on how to improve liquidity in the market – perhaps through the introduction of market makers – though no concrete plans have been released to date. Another possibility for enhancing trading volumes is the corporatisation of the MSM. According to the latest available figures from the MSM, overall trading activity in the first nine months of 2019 was down 13% year-on-year at $1.4bn. However, there are also other factors that could support further expansion in the sector. The traditional neutrality and stability of the sultanate benefits the country’s equity market, particularly given recent regional events.

Debt Market

The MSM also manages a bond market, which has historically been underutilised, as is the case with most exchanges in the region. As of 2019 the MSM had 40 bonds and sukuk (Islamic bonds) listed on the exchange, half of which are corporate bonds and half of which are government bonds. In terms of size, government debt is by far the largest in terms of issuance and traded value.

However, in terms of days traded, the corporate market has been comparatively active in 2019, with the most regularly traded securities being corporate bonds, such as Bank Muscat’s sharia-compliant window Meethaq, which had traded on 22 days of the year as of late September 2019. By comparison, most government securities only traded once or twice on the market in the first nine months of 2019. This is a small but positive indication for the development of the corporate bond market. Most of the corporate issuance is by banks, with a recent trend towards perpetual bonds. Several banks have issued these instruments, which offer attractive yields for the investor – over 7% in most cases – and also boost the Tier-1 capital of the issuer. More perpetual bonds have already been approved by the CMA and issuance is expected over the short term, amounting to at least OR50m ($129.9m) in 2019.

The issuance of government bonds since 2016 has been carried out as an alternative means of financing the budget in the wake of lower international oil prices and has paved the way for the emergence of the corporate bond market. In 2019 there were a total of six new bonds and sukuk listed on the MSM, amounting to OR367m ($953.1m) in new bonds. However, this marked a slowdown on 2017 and 2018, which saw OR796m ($2.1bn) and OR777m ($2bn), respectively. In 2016 there were OR510m ($1.3bn) of bonds listed on the MSM, and in the year prior there were OR750m ($1.9bn). The year 2019 also saw the CMA approve a government sukuk programme valued at $779m. The previous year saw Oman sell a $1.5bn sukuk, which received orders in excess of $3.5bn.

International bonds, such as the government’s $3bn issuance in July 2019, are not listed on the MSM. Nonetheless, this issuance clearly demonstrates that, despite Oman’s economic challenges and high fiscal deficit, there is still considerable demand for the sultanate’s bonds (see analysis). Indeed, the sovereign instrument was oversubscribed by more than four times. “Fixed-income funds are coming into the market,” Karmani told OBG. “They are attracted by high yields and steadier returns, with local funds moving from equity to fixed income due to liquidity and other issues in the equity markets.”

IPO Pipeline

The number of new initial public offering (IPO) has slowed in recent years, following the decline in international oil prices. The compulsory flotation of insurers have formed the bulk of IPO. The only exception to this has been the Muscat City Desalination Company, which carried out an IPO in December 2017 that was oversubscribed by 19 times; and the Musandam Power Company IPO in 2019 that was oversubscribed by five times.

Moving forwards, the government’s drive to privatise state assets is set to lead to a number of new IPOs. There are currently three such IPOs in the pipeline, which are set to add around $125m of free-float market capitalisation. Two of these projects are in the water and energy sector, and one is in insurance. That would leave five more state-owned power and water companies to list before 2021. Independent power and water projects are required to list at least 35% of their share capital within four years of being incorporated. Additionally, an IPO of a $300m textile factory in Sohar is expected in 2020.

“Companies are getting ready to issue IPOs, and operational changes are expected that should also help,” Mathew told OBG. Furthermore, in a move that is also expected to boost activity in the segment, the CMA introduced electronic IPOs and book building in 2019, though firms await better valuations before listing, given the recent performance of the market.

The overall subdued activity of the country’s capital markets has also spilled over into the M&A segment, which have been limited in recent years. Indeed, the only M&A activity to take place in 2018-19 was the signing of a memorandum of understanding between Oman Arab Bank and Alizz Islamic Bank in October 2018 to consolidate, along with Omantel’s purchase of a 40% stake in mobile services reseller firm Renna Mobile for OR5m ($13m).

Outlook

While there are some promising signs emerging from the sector, a broader economic recovery will be needed to drive the development of Oman’s capital markets. “The economy needs to pick up; investments are happening but they are lagging,” Kattiparambil told OBG. “They are taking place in Duqm and Sohar, as well as a few private investments into real estate and tourism developments such as Port Qaboos, but more will be needed to help capital markets recover.”

In the meantime the relatively high dividend yield could work in the country’s favour. Once dividends are paid in March 2020, there is set to be a rebalancing undertaken by both asset managers and pension funds, which could support higher inflows of investment, with yields likely to be between 6% and 8%. Looking beyond the first quarter of 2020, corporate profits are expected to drive the direction of the market, with banks being particularly important. Around 60% of current market capitalisation stem from financial institutions, and banks are currently being squeezed as a result of compressed profits. Although much of this is priced into the market, there could be further impact on capital markets from the banking sector. Around 25% of current market capitalisation is in services, such as utilities companies, which is a relatively stable sector with steady income and profits. Oil services are likely to outperform the rest of the market due to the expansion of the hydrocarbons industry (see Energy chapter). Industry, which makes up the remaining 15% of the market, and the sector will likely be impacted by a number of listings of new oil companies, such as Mineral Development Oman. Over the longer term there could be positive spillover as a result of the inclusion of a number of regional markets in global equity indices. “Further index inclusion for neighbouring states could come, and that would be very positive for the market,” Mathew told OBG. Muscat Securities Market trading activity by sector, 2018 Source: MSM 0 500 1000 1500 2000 2500 Services Industrial Financial No. of shares traded (m) Value of shares traded (OR m)