Oman's capital markets sustain foreign interest

The securities exchange in Muscat is a vital component of the Omani economy. The bourse serves as a showcase for the sultanate’s large enterprises, but its primary function is to act as an arena from which pooled capital can be distributed to investment sectors. In 2015, for example, the exchange had the capacity to provide OR2.56bn ($6.6bn) in funding.

However, throughout 2016, subdued oil prices and concerns about slow growth in emerging economies have made for a challenging environment, and the task of attracting liquidity to the market has become the key concern facing the authorities and regulator of the Muscat Securities Market (MSM). As of late 2016, procedural and regulatory adjustments were being put into place to address these issues, and were expected to be central to the capital market’s ability to maintain its role in the domestic economy.

Rapid Development

Although the MSM is now a key pillar of Omani economic life, its ascension to this position is a relatively recent development. Oman Hotels became the first joint stock company to float shares for subscription in 1971, marking the birth of a loosely organised Omani capital market. Over the subsequent two decades, the exchange attracted some 71 companies and 17,000 shareholders.

As trading volumes grew and a greater swathe of the population began to engage in trading activity, the government decided a more formal platform was needed, and after a number of studies and consultations the MSM was established in 1989. The new body was given a broad mandate, which included the provision of a suitable platform for equities trading, responsibility for regulating the market, ensuring investor protection and establishing the new market as a useful tool for the development of the national economy.

This framework allowed for rapid growth, much aided by the MSM’s switch from manual to electronic trading in 1997, a move that greatly enhanced trading volume while also reducing trading risk. The technological advance placed the MSM at the forefront of the region’s developing exchanges, but by the turn of the century the constitution of the capital market, by which the MSM assumed the regulatory, trading, settlement and depository roles, was beginning to look anachronistic.

Modernisation

A market crash in the first quarter of 1998 highlighted the need for a more comprehensive capital market framework – one which would shore up investor confidence and allow for the next phase of the market’s growth. The subsequent reorganisation of the exchange was the most significant in its history, laying the foundations of the modern MSM.

Two royal decrees that year redefined market operations and divided them between three entities: the Capital Market Authority (CMA) was tasked with regulating the capital market and insurance sector; the MSM was established as a government entity, with financial and administrative independence, responsible for listing and trading securities; and the Muscat Clearance and Depository Company (MCD) was formed as a closed joint-stock company owned by the MSM, banks and market participants, and charged with overseeing important procedural functions such as maintaining shareholders’ registers, issuing ownership certificates and processing sell and buy contracts.

Today’s Exchange

The reorganisation of the exchange’s functions brought Oman’s capital market in line with international best practice, and the reforms still form the basis for market activity. The modern MSM is a multi-asset platform with a focus on equities, the broad array of which reflects the increasingly diverse range of economic activity in the sultanate. Stocks are divided into three main sectors, financial, services and industrial, and further refined into a larger set of 23 sub-sectors, which cover segments such as banking, insurance, cement, chemicals, telecommunications, tourism, logistics, oil and gas, education and real estate.

As of late 2016, 120 companies were listed on the MSM in total, in several markets categorised by their capitalisation and liquidity. The regular market is the main venue of the exchange and home to the 30 most highly capitalised, liquid and profitable firms, which make up the MSM30 index, the exchange’s primary tracking tool. These stocks include some of the most prominent economic entities in the sultanate, including Bank Muscat, National Bank of Oman, Al Madina Investment, Oman Cement, Ooredoo and Omantel, the price movements of which are the focus of most investors.

The MSM also operates a parallel market – a variation of the secondary boards – which are only now becoming commonplace in the region. The 75 companies listed on this platform are subject to less onerous listing requirements than their counterparts on the regular market, an allowance which is designed to enable them to access “early liquidity” prior to an eventual listing on the main board. In effect, the parallel market acts as a conveyor belt to the regular market, funnelling growth-orientated mid-cap firms towards the main board and therefore boosting overall market liquidity.

The MSM also oversees a third market for off-floor share deals which can be conducted with or without a broker. This structure has provided the basis for market growth in the modern era of the MSM, but as of September 1, 2016 three more organisational segments have been added to the framework: the follow-up market, the preferential rights market, and the securities and sukuk (Islamic bond) market.

Debt Market

The new organisational structure lends greater definition to already existing market functions, but it also helps to highlight areas of market activity which are often crowded out by the attention paid to equities trading. The debt market, in particular, shares the regional characteristic of being under-utilised. As of September 2016, 37 bonds were listed on the MSM, for a combined market capitalisation of OR1.9bn ($4.9bn). Of these, 14 are government issuances of five- and seven-year durations, with coupon rates of between 2.75% and 5%. Their presence in the market has helped to establish a yield curve by which corporate issuances can be calibrated, and the more than 20 corporate offerings listed on the exchange in September 2016 were all paying out within a similar channel of between 2.75% and 5.5%, with the exception Bank Muscat’s longer-term issuances, rated at between 6.25% and 8%.

Oman’s debt market, however, remains at a nascent stage. In 2015 only two corporate bonds were issued, for a combined value of OR34.3m ($89.1m), according to the CMA, both of which were bonus issues of mandatory convertible bonds. The only other conventional bond issuances came in the form of two Government Development Bonds, which reinforced the sovereign’s status as the driving force of the debt market. The volume of bonds traded on the MSM rose by 5.54% in 2015 to some 91,400, while the value of trades decreased by 29.7% to end the year at OR23.8m ($61.8m), down from OR33.8m ($87.8m) in 2014.

Sukuk

The lack of depth in the debt market is a concern not just for the exchange authorities, but also government planners. In developed economies debt markets act as crucial pools of capital for corporate expansion, and the absence of a liquid debt arena in Oman is seen by many as a block to the wider economic development of the country. In this context, the attention paid by the CMA in recent years to the development of Islamic bonds is significant.

The potential of sukuk was theoretically unlocked in 2011, when a royal decree overturned a ban on Islamic finance in the country, and since that time the Islamic financial services sector in the sultanate has grown rapidly (see Banking & IFS chapter).

The nation’s first corporate sukuk came in 2013, when Tilal Development Company issued an OR50m ($129.8m) ijara, or leasing sukuk, via private placement. In 2014 the CMA amended the Capital Market Law to include the regulatory framework by which all future sukuk issuances would be undertaken, establishing itself as the sole regulatory authority with jurisdiction over sukuk issuances, as well as granting itself oversight responsibility for any special purpose vehicle or company being incorporated for the issuance of a sukuk. This regulatory advance paved the way for the sultanate’s first sovereign sukuk, an OR250m ($649.3m) five-year ijara instrument that was listed on the MSM in November 2015. The issuance was well received by the sophisticated investors that were able to meet the minimum subscription of OR500,000 ($1.3m), which included fund managers, banks and other financial institutions, as well as high-net-worth individuals.

Revised Rules

In April 2016 the CMA sought to further strengthen its sukuk framework through an amendment stipulating the creation of a trustee structure and a limited liability company as a special purpose vehicle for issuing sukuk. The new rules left the question of obtaining a rating optional for the issuer, and did not limit the sukuk amount to a percentage of the issuer’s capital, as some had anticipated. The purpose of the revised regulation is to bring greater transparency to sukuk issuances, thereby safeguarding the interests of all concerned parties. Speaking to the local press at the time of the regulation’s introduction, Abdullah Salim Al Salmi, executive president of the CMA, outlined the significance of sukuk to the country’s economic well-being. “The issuance of this new sukuk regulation forms an integral part of the overall strategy of the CMA to enable the capital market to play its vital role as a fundraising platform for companies in the economic development of Oman, particularly in the fixed-income market, where sukuk forms an important element to further develop Oman’s Islamic capital market.”

Performance

The decline in oil prices which began in the second half of 2014 has had a deleterious effect on exchange performances across the region, and the MSM is no exception. During 2015 the MSM30 index followed a downward trajectory, with momentary upticks provided by positive announcements, such as government reassurances regarding the status of vital projects. By the close of the year the index had declined 14.77% to 5406.22 points (compared to 6343.22 at the end of 2014). The market low for the year, of 5354.97 points, was reached on December 20, 2015, and was also the lowest index level since 2009.

All three main exchange sectors saw significant index decreases, with the industrial index showing the largest drop of 19% for the year. The performance was broadly in line with markets around the region, the main indices of which saw similar declines, such as Qatar’s 15.11% drop and the 14.09% fall of Saudi Arabia’s Tadawul.

The following year began with a new low for the MSM30 of 4867.00 points before the market staged a modest recovery in February 2016. The index followed an upward channel until May, breaking through the 6000 level it had not approached since the previous November. Still, the third quarter of the year was one of consolidation, with the MSM30 travelling sideways around the 5800 level for a sustained period, which lasted into the final quarter of 2016.

Ipos

The muted performances of exchanges across the region have made the question of the initial public offering (IPO) pipeline one of the more interesting industry issues of the year. On the one hand, potential issuers reading investor sentiment from subdued indexes are inclined to wait out the cycle and go to the market at a more opportune time, while on the other hand, ministries of economy and exchange authorities are keen to bring new companies to the main board for their stimulating effect on trading activity and the flows of fresh capital they will bring with them (see analysis).

In Oman’s case these conflicting motivations are particularly apparent, with issuers planning listings largely according to market conditions and the regulator working hard to support the IPO pipeline, regardless of the direction the MSM30 index is travelling. The outcome has been mixed. After a year of no IPOs in 2009 – as Omani companies assessed their positions in wake of the global credit crunch – there was a single offering in each of the following two years. Then, both 2012 and 2013 saw two Omani IPOs, which demonstrated the exchange’s enduring appeal as an investment platform.

By 2014 the market appeared to have shrugged off the effects of both the Arab Spring and the cooling global economy to produce four IPOs, but plummeting oil prices in the second half of the year brought about a constriction of what had been a promising IPO pipeline. In 2015 the market hosted just a single offering, although its reception was encouraging. The IPO of Phoenix Power Company, which operates the country’s largest power plant, was oversubscribed by more than 18 times and raised OR56.3m ($146.2m).

Added Impetus

State efforts to encourage IPOs have played a large part in the recent flow of offerings. Two of the four IPOs in 2014 came from independent power companies brought to the market by a regulatory requirement for foreign-backed electricity firms to list on the MSM within five years of being established.

In 2014 the authorities approved a new insurance law which requires domestic underwriters to convert to public joint-stock company status and list a portion of their equity on the MSM (see Insurance chapter). Existing companies have until the end of 2017 to meet the requirement, while newly established firms are obliged to list immediately. As of September 2016, five insurers were listed, with expectations that as many more will be compelled to go to the market over the coming year to be in compliance with the regulation.

Still more IPOs may result from the government’s plans to divest itself of some state assets as it seeks to meet a stubborn fiscal deficit. Official statements made in 2015 indicated that 11 entities may be opened up to public investment, although the timescale for this process has yet to be revealed. Likely candidates for divestment include the flag carrier Oman Air, Oman Airports Management Company, Oman Oil Refineries and Petroleum Industries Company, Oman National Transportation Company, Mining Development Oman, Oman Post and power generation companies.

Beyond the legally mandated IPOs, there are signs that Omani corporations are prepared to test the waters of what has been a largely stable market over the past year: in September 2016 Kunooz Oman Holding, one of the sultanate’s largest mining, quarrying, transportation and construction materials groups, announced plans to offer at least 25% of its shares in the first half of 2017. In floating just a quarter of its stock, Kunooz will be taking advantage of a change in Oman’s Commercial Law which has reduced the minimum float of listed companies to 25% from the previous level of 40%.

Foreign Footprint

Another key incentive to potential issuers on the MSM is the possibility of making offerings not just in Omani riyals but also in global currencies. Offerings in dollars, euro or other currencies have the potential to encourage foreign investors – a category of market participant that has traditionally been well represented on Oman’s exchange.

Despite the effects of the oil price decline since 2014, levels of foreign participation have remained stable on the MSM: foreign ownership at the end of 2015 was 29% compared to 29.5% at the end of 2014, according to the CMA. To some extent the willingness of foreign shareholders to remain invested in Oman is a function of the prominent role played by international institutions in the market, which tend to buy and hold equities. However, CMA data shows that in 2015 foreigners accounted for 18% of trading value in 2015, compared to 11% for Arabs and 71% for Omanis, and MSM data for the first half of 2016 shows that foreign investors represented 15% of the value of sell transactions and 6% of the value of buy transactions.

Outlook

The perceived value of MSM stocks after the price slides of 2015 means that they are likely to remain of interest to foreign investors seeking opportunities in the region. With regards to index performance, the direction of the MSM30 is likely to be determined as much by external factors – such as oil prices, growth rates of emerging markets and levels of regional unrest – as domestic developments.

In the meantime, the exchange authorities and the regulator will continue to refine the operating framework to underpin the growth of the market. The CMA has indicated that developing the fund industry is a priority, and success here would bring welcome liquidity to the exchange. The introduction of a framework for real estate investment trusts, which have proved popular in other markets, is also expected soon.

In the shorter term, the CMA has sought to boost trading volumes through a relaxation of the regulations governing margin trading, by which investors are able to borrow capital from brokers to fund stock purchases (see analysis). Other advanced market functions, such as short selling and derivatives, remain of interest to participants, but are unlikely to be introduced over the coming year. “Both local and foreign investors are keen to have wider trading options including currencies, commodities and derivatives such as forwards including shorting and options,” Pradeep Asrani, managing-director of Gulf Baader Capital Markets, told OBG. “These would certainly improve the level of interest in market. The authorities have introduced the day-trading option in listed securities. However, introduction of other derivative products shall have to wait for a while as it would require changes in laws and regulations.”