SUHAIL SULEMAN: Saudi Arabia is moving away from being just another petrostate

A recent interesting development in the investable emerging-market universe is the largely unnoticed entry of Saudi Arabia, which was added to the MSCI emerging-market index at the end of May 2019 after meeting MSCI’s technical criteria for inclusion.

Since that point it has grown from an initial 1.4% to a peak of more than 5% weight, partly due to the inclusion of additional companies/new listings and also the stellar performance of the Saudi market at a time when most global emerging markets have delivered poor returns for investors. 

With Saudi Arabia now being a fairly significant market (it is the sixth-largest emerging-market weight), it is worth exploring some of the investment options the country offers. We embarked on a maiden trip to Riyadh in November to meet Saudi corporates and came away with an impression of a country with a drive to transform itself within the next 10 years.

Central to the country’s Vision 2030 reforms are a series of giga- and megaprojects ranging in value from $20bn to $90bn, plus the somewhat futuristic Neom, a city targeted to cover an area of 26,500km² (bigger than 55 recognised sovereign states), which is expected to cost at least $500bn.

The economic reforms being pushed by the government will see the liberalisation of the economy to reduce the influence of the state, with an emphasis on localising industries and expanding the use of renewables.

Given the highly conservative nature of the country historically, the biggest reforms on the social side have been to bring women into the mainstream economy and promote leisure and tourism. The social reforms commenced in 2016, and since then many aspects of Saudi society are almost unrecognisable from before. Female labour force participation has almost doubled to 30% (still very low and with much room to improve) and the absolute number of women employed in the private sector has increased almost 60%.

We met a variety of companies across several industries, and some of the interesting ones are discussed below. A large proportion of Saudi’s investable universe comprises the banking sector. Due to its limited free float, the largest Saudi stock in the benchmark is not Aramco, the country’s listed monopoly oil extractor, but Al Rajhi Bank. The next largest stock is Saudi National Bank. We see upside potential here as Saudi Arabia has credit penetration in line with other middle-income countries, but retail loans have significant room to grow with respect to both mortgages and general loans.

The country’s main stock exchange is itself listed, with Saudi Tadawul Group being the 11th-largest exchange in the world by market capitalisation as per the 2021 annual report. Of interest is that, in contrast to many other emerging-market exchanges that are dominated by single sectors, no individual industry segment accounted for more than 20.5% of value traded in 2021.

One of the most interesting case studies we came across was far-reaching developments in the gym sector. Before the recent socioeconomic reforms and the consequent removal of many restrictions placed on women once they left their homes, there were simply no female gyms available outside a tiny set of private, highly exclusive establishments. When gyms for women were at last permitted in 2018, there was a huge influx of capital into the sector, which came to a screeching halt on the outbreak of Covid.

However, Leejam Sports Company, the largest gym operator in the country, has developed a range of gyms at different price points (and hence differing facilities) for both men and women. It coped reasonably well during Covid and has started expanding again. With more than 150 sites, it is the largest owner of swimming pools and squash courts in the country.

The final sector worth highlighting is renewable energy and desalination. Local developers such as Acwa Power compete with the likes of Kepco and Samsung (Korea) and Mitsui (Japan) to develop greenfield renewable power and desalination plants. Part of Vision 2030 is to have 60GW of renewable power coming on stream by that year. This will require several megaprojects as it will almost double existing annual output. For context, 60GW of generation capacity is more than the entire generation capacity of Argentina, SA or Malaysia.

The country offers several advantages for solar generation since there is limitless land and decent sunshine all year round. Acwa Power has delivered solar projects with an all-inclusive cost of as low as one US cent per kilowatt hour (kWh). The typical cost is about 2.6c/kWh, a fraction of the wholesale energy price in other countries and competitive even in a country that pulls oil out of the ground for less than $10 a barrel. Due to the energy-intensive nature of desalination, the low energy costs in Saudi Arabia mean desalinated water can be delivered at a cost of $0.53/m³ (1,000l).

Saudi Arabia has shaken off its label as a highly conservative, patriarchal society at a pace that has surprised outsiders. Though there are many expatriates present in the country, at 25% of the 36-million population, it is different from other Gulf micro-states where locals are a minority of the population. The social reforms are therefore unlikely to be as extensive in Saudi Arabia as in some of its smaller neighbours. The big challenge facing the country will be to survive in a possible post-fossil fuel world.

Having spent most of its budget historically on subsidising the local population to keep the cost of living down, the new strategy of getting the majority of the population into gainful employment through education and investing heavily in infrastructure is somewhat similar to that undertaken by China through the 1990s and 2000s. The longer oil prices stay at current levels, the more likely this strategy is to be successful.

We will continue to monitor the local equity market for potential investments in our emerging-market fund range and highlight these in our quarterly commentaries.

• Suleman is portfolio manager at Coronation.